ECON 7239 Economics for Management : About Monopolies and Oligopolies

Similarities and Differences between Monopolies and Oligopolies

Today, Monopolies and Oligopolies are among the most predominant market structures in the world. Primarily, a monopoly refers to a market structure where there is only one firm offering a particular product. On the other hand, an oligopoly market structure is one in which there are few large firms that dominate the entire market. Notably, both markets serve many consumers. As a whole, monopolies and oligopolies have various characteristics in common but also differ in certain aspects such as the number of firms, nature of products, pricing strategies, and barriers to entry, among others.

Similarities between Monopolies and Oligopolies

It is imperative to note that a monopoly and oligopoly share various aspects. As such, there are various characteristics of the two market structures that are common and overlapping. These aspects include the ability to set their prices, the size of the firm, market share and market power, existence of imperfect information, and high barriers to entry.

The size of the firm. It is imperative to highlight the fact that both oligopolistic and monopolistic firms are often large organizations in the market. As such, they are firms that operate under high maintenance and benefit from economies of scale. Their large sizes work to their benefit and advantage of the firms.

Market Share. Typically, both firms have a large market share in their respective markets. In the case of a monopoly, the firm possesses the entire market share. In the same way, the largest firms in an oligopolistic market occupy at least 80 percent of the overall market share.

Market Power. Naturally, both monopolistic and oligopolistic firms have a high market power. Normally, market power pertains to the ability of a firm to raise and maintain prices over and above the level that would prevail under perfect competition. The various elements of both market structure enable oligopolies to set their own prices since they often offer differentiated products. In the same way, monopolies lack competition, thus set prices at a point that maximizes their profits.

Barriers to entry. In both market structures, there are high barriers to entry. Predominantly, oligopolies collude implicitly and explicitly to prevent rival firms from entering the market through the creation of high barriers to entry. Likewise, monopolistic markets have high barriers to entry that arise from the exclusive control of the supply of raw materials, the existence of permits, patent rights, and licenses. In addition to this, economies of scale production may act as significant barriers to entry as monopolies and oligopolies can supply the entire market at low costs, compared to other potential rivals. There are also cost and technological barriers, government regulation and high distribution overheads in the two markets. In turn, this makes it difficult for small firms to join and thrive in the market.

Imperfect information. There exists an imperfect information between firms and sellers in both market structures. Mainly, this arises in matters pertaining to the price and quality of the services and goods offered by the firms to their consumers. Largely, this increases the cost of information for the consumers who are unable to compare prices offered by the firms as compared to other rival firms. They are also unable to determine the quality differences between those offered by the firm, and those in the aggregate market. In this regard, the existence of imperfect information often works to the advantage of the firm, but to the disadvantage of the consumer.

Effect of Production. Typically, both firms are affected by increased production. Predominantly, this is because an increase in the level of firm output results in the reduction of the price charged for the product. Mainly, one can attribute this to the fact that increase in the production pushes the supply curve outwards, thereby leading to a reduction in the price level of the product.

Differences between Monopolies and Oligopolies

It is crucial for one to note that despite their similarities, oligopolistic and monopolistic market structures have various dissimilarities. The major differences between the two markets pertain to factors such as the number of firms, the number of products, pricing strategies, profits, pricing techniques, availability of substitutes, and competition among others.

The level of Competition. Typically, the level of competition between the two market structures differs. As such, monopolistic firms do not face any competition for their services and goods. Conversely, oligopolies face some level of competition between the rival firms. However, the level of competition is limited to the few large firms as they often collude to dominate the market. Markedly, they compete in non-price factors such as vouchers, advertising, warranties, gift certificates and after-sales services.

Number of firms. Characteristically, there is only one firm in a monopolistic market. Contrariwise, there are few large firms that dominate an oligopolistic market structure. Notably, the number of firms in this market is sufficiently small so that the actions of one seller has effects upon the rivals.

Number of products. It is worth noting that a monopoly often offers only one product or service to its consumers. On the other hand, an oligopoly may offer more than one service or commodity to their consumers.

Availability of substitutes. Normally, the products produced and offered by the monopolies have no close substitutes. For this reason, they have absolute control over the production of the product and its availability in the market. In contrast, oligopolies produce products with a small number of relatively close substitutes. Thus, the prices of the substitutes indirectly influence the prices of the products offered by an oligopoly in the market.

Cooperation and collusion. Notably, this is another major distinctive element between a monopoly and an oligopoly. Customarily, the small number of firms in oligopoly creates an incentive between firms to cooperate instead of competing against each other. Thus, firms collude to drive out new firms from entering the market. They may also collude to set higher prices for their products in the market. Naturally, the collusion of oligopolistic firms may result in the creation of cartels that determine the prices and quantity of output produced in the market. On the other hand, there is no collusion and cooperation in the monopolistic market structure since there is only one firm.

Pricing techniques. Although they both set prices, their pricing methods are different. Notably, monopolists set their prices at the point where marginal revenue equals marginal cost. At this point, their profits are maximized. The degree to which a monopolist can set the price above the marginal cost depends on the sensitivity of demand to price.  Thus, monopolies often exceed their marginal profits. Conversely, oligopolies usually meet their marginal profits. It is, however, imperative to point out that monopolies are unable to achieve their desired level of profit because an increase in prices reduces consumer purchases significantly. Conversely, oligopolies have a greater chance of achieving their desired profit since they can lower prices to raise the level of consumer purchases.

Figure 1: Long run and short run profits of monopolies

Source: (Pettinger, 2008).

 It is worth noting that a monopolist charges the price P^1. Notably, this price is greater than the price that would be charged if the firm was operating in a perfect competition market. Naturally, under perfect competition, the firm would set its price at point P³. Thus, the price charged by the monopoly is higher than the normal price. The equilibrium point for the monopoly is at point X. In addition, the monopoly is associated with production inefficiencies as they produce an output below their potential. In the figure above, this inefficiency is denoted by the difference between Q₂ and Q₁. For this reason, monopolies are associated with productive inefficiencies.  

Crucially, a diagram showing the price of a monopoly is the same for the long run and the short run. Given that monopolies set their prices above the marginal cost, their prices result in the loss of welfare. Predominantly, this results from the fact that production at the point where MR equals MC restricts output. In turn, this results in the creation of deadweight loss, thereby implying Pareto inefficiency.  Therefore, monopolistic market structures are also associated with allocative inefficiencies.

Figure 2: Short-run profits of Oligopolies

Source: (Economics Online, n.d.).

Building and Construction Industry of India

The building and construction industry in India plays a significant role in the economy of the country. The industry is one of the largest employers in the country (“Guide to India,” n.p.).  . Today, the industry is segmented with few large companies that are involved in the construction activities across all areas. There are also various small and medium-sized firms that specialize in niche activities.  Additionally, there are medium and small firms that work as subcontractor and partake in activities of the industry (“Guide to India,” n.p.).  Notably, the industry has high technological and capital requirements which have imposed a barrier to entry into the industry. The government is the major client of the industry due to lack of technological demand in the private sector.  For this reason, building and construction industry in India is oligopolistic since the industry is dominated by large firms which set their own prices.

The construction industry forms a fundamental part of the Indian economy. It is a channel for growth with regards to industrialization, economic development, and urbanization. Currently, there are about 200 firms in the corporate sector that operate in this industry (“Indian Construction Industry, 2016). In addition, there are approximately 120,000 contractors who are members of the numerous government construction bodies (“Indian Construction Industry, 2016). The main companies include Benson and Hedges, DFL. Larsen & Turbo, Tata projects, Gammon India, Sobha Developers Limited, Unitech, and Punj Lloyd among others (“Indian Construction Industry, 2016). Cumulatively, this industry contributes a share of around 19 percent to the national Gross Domestic Product. It is also a major employer in the country (“Indian Construction Industry,” 2016). Remarkably, about 35 million people in the country work in the building and construction industry. In this regard, the industry is a crucial component in the country’s development.  

Like many countries, India also faces a housing affordability problem. Mainly, the problem arises because the demand for housing exceeds the available supply of houses in the country. According to the 2011 census, 31.16 percent of the country’s population lived in urban areas. Between 2001 and 2011, the level of urbanization increased by approximately 3.35 percent (“Indian Construction Industry,” 2016). Thus, this growing number of people in cities and towns has brought about challenges of housing shortfalls and land shortage. Although the gap between the housing stocks in the country has fallen over the years, the actual shortage is still high because many households live in congested dwellings. An increasingly large proportion of the Indian population lives in slums and squatter settlements under deteriorated housing conditions. Thus, affordable housing in the country has become a significant problem.

Figure 5: Graphical illustration of the housing problem in India

Essentially, affordable housing refers to housing that is considered reasonably priced for households with a low income. According to the RICS report, it pertains to the setting up of shelter on a constant basis that guarantees the security of occupancy within the means of the poor households in the nation (“Indian Construction Industry,” 2016).  The US Department of Housing and Urban Development defines affordability as the tendency of households to pay less than 30 percent of their income as rent (“Indian Construction Industry,” 2016). Otherwise, an amount that exceeds 30% of the revenue as rent is regarded as a cost burden because makes it difficult for them to afford necessities such as food, basic medical care, clothing, and transportation.

Government Solutions to the Housing Problem

The severity of the housing problem has prompted the government of India to initiate various programs and solutions to ease the existence of the affordable housing problem in the country (Devichand, 2008). By and large, there are various central level schemes that have been initiated in the country to enhance house affordability for the Indian people (Follath. 2007). In the past few years, the Indian government has set up a policy framework with the intention of transitioning of improving the housing affordability conditions in the country.   

National Urban Housing and Habitat Policy (NUHHP) of 2007. Notably, the NUHHP recognizes ‘affordable housing for all’ as a significant factor in improving conditions. Principally, this policy seeks to promote various kinds of partnerships between the private, institutional, public, and cooperative sectors to achieve increased growth in the housing industry (“Affordable Housing in India,” 2012). Additionally, it purposes to create sufficient housing supply both on ownership and rental basis with a special regard to the poor people in the nation (Sen, 2013). Further, it aims at using technology to modernize and enhance productivity and quality in the housing industry. In addition, its goal is to accelerate the pace of development of housing and related infrastructure to improve housing affordability in the country.

Integrated Housing and Slum Development Program (IHSDP).  Mainly, this program seeks to integrate the existing initiatives like Valmiki Ambedkar Awas Yojana and the National Slum Development Program to create a strategic approach to improving the of poor households who lack adequate shelter and live in slums (“Affordable Housing in India,” 2012). Currently, this system is applicable in all cities.

Affordable Housing in Partnership (AHIP). Primarily, the main objective this scheme is to encourage various kinds of public-private partnerships among the financial services sector, urban local bodies, cooperative sector, private sector, and state parastatals to accomplish the objective of inexpensive housing for all (Agarwal, n.d.).

Rajiv Awas Yojana (RAY). Generally, this program envisages a slum-free country by encouraging union territories and states to solve the challenge of slum dwellings in a conclusive manner (“Affordable Housing in India,” 2012). Profoundly, the initiative provides support to allow cities to revitalize all existing slum areas in an integrated and holistic manner to create new affordable housing stock. Typically, this is done on rental, ownership or rental-purchase basis. It also envisages the development, upgrading, and preservation of essential services such as water, drainage, sewerage, and waste management for the urban poor.

Subsidies. The government also provides supply-side subsidies and demand-side subsidies to enhance housing affordability in India. Primarily, the supply-side subsidies include the provision of subsidies to developers to encourage them to develop more units (Schmuecker, 2011). The subsidy may also involve the provision of public housing. In turn, this increases the overall supply of houses in the country while reducing the prices charged for them (Golpapan & Venkataraman, 2015). Consequently, it leads to the achievement of affordable housing. Additionally, the government extends demand-side subsidies such as periodical cash allowances to households to support housing costs. The government also provides grants to individuals to buy housing units. Subsequently, this improves housing affordability in the country.

Figure 6: Effects of Demand-side Subsidies to Housing Affordability

Other Possible Solutions to the Housing Problem in India 

Demand-side. In order to enhance the affordability of housing facilities, the government has to instigate demand side reforms to enable poor households to afford decent housing. Firstly, the government should instigate micro mortgage financing mechanisms in the country to ensure that the poor individuals in the country can access (Feldman, 2002). It should also facilitate a flexible payment system for the micro mortgages since low-income groups have variable income flows (“International Housing Affordability,” 2014). Furthermore, the government may increase the availability of capital grants to rehabilitate and buy housing units for the Indian people. It may also provide for subsidized rental and ownership schemes. In turn, this will increase the affordability of houses in the country

Supply-side. The government may incentivize building and construction companies to develop affordable housing. Particularly, this may be done by developing strategies by offering extra space floor index, free sale areas, and other programs to encourage firms to construct affordable housing (Awatrami, 2011). It may also include mass housing zones to develop cities within a strategic schedule. What is more, the government may formulate policies that encourage greater participation of the private sector with regard to project financing, technological solutions, and affordable housing supply (Basak, 2013). Most importantly, the Indian government should dedicate various zones for the purpose of developing affordable housing units. Indeed, these measures will substantially increase the supply and therefore, the availability of affordable housing for the Indian population.

Effects of the solutions on the housing market

Imperatively, the proposed solutions will create a myriad of positive results in the housing market. First of all, the provision of micro mortgage facilities to households will increase their purchasing power. In turn, this will lead to an increase in the overall demand for houses in the country as they can afford to rent or purchase decent housing units in the country. An increase in demand for the available houses, however, may create pressure on the available supply. Consequently, this may result in a rise in the prices of houses. Even so, in the long run, the availability of subsidies, grants, and capital will enhance the affordability of housing units. Likewise, the provision of supply-side incentives will increase the aggregate supply of houses in the country. Essentially, this will reduce the cost of developing housing units. In turn, this will reduce the general price level of houses in the country. Low costs would also encourage firms to build more houses to increase their profitability.  Consequently, more households will be able to afford decent housing units in the country. Overall, the housing affordability problem will be significantly reduced in the country.

References

10^th Annual Demographia International Housing Affordability Survey. (2014). Demograhia. Retrieved from https://media.nzherald.co.nz/webcontent/document/pdf/20144/dhi.pdf.

A guide to India's construction industry. (2015). ITE Build and Interiors. Retrieved from https://www.buildingshows.com/market-insights/india/a-guide-to-india-s-construction-industry/801781605.

Affordable Housing in India. (2012). Jones Lang Lasalle. Retrieved from https://www.jll.co.in/india/engb/Research/Affordable_Housing_in_India_2012.pdf?27e6f554-2aa8-4864-8bc3-9127a4b902bc.

Agarwal, S. Brief notes on housing problems in India. Preserve Articles. Retrieved from https://www.preservearticles.com/201105056270/brief-notes-on-housing-problems-in-india.html

Amegashie. J. (2006). The Economics of Subsidies. Crossroads 6(2), pp. 7-12.

Awatramani, T. (2011). 7 tall solutions for Mumbai's biggest problems. CNN. Retrieved from https://travel.cnn.com/mumbai/life/tall-solutions-mumbais-widespread-problems-405767/.

Basak, B. (2013). Housing Problems in India (Introduction, Causes, Solution). Important India. Retrieved from https://www.importantindia.com/8705/housing-problems-in-india/

Devichand, M. (2008). Mumbai's slum solution? BBC. Retrieved from https://news.bbc.co.uk/2/hi/south_asia/7558102.stm.

Feldman, R. (2002). The Affordable Housing Shortage: Considering the Problem, Causes and Solutions. Federal Bank of Minneapolis. Retrieved from https://www.minneapolisfed.org/publications/the-region/the-affordable-housing-shortage-considering-the-problem-causes-and-solutions.

Folath, E. (2007). The Paradox of Mumbai: Slums, Stocks, Stars and the New India. Spiegel Online. Retrieved from https://www.spiegel.de/international/spiegel/the-paradox-of-mumbai-slums-stocks-stars-and-the-new-india-a-469031.html.

Gopalan. K., & Venkataraman. M. (2015). Affordable housing: Policy and practice in India. IIMB Management Review 27(2), pp. 15-17. https://www.sciencedirect.com/science/article/pii/S0970389615000336?np=y&npKey=3dc9011adaf3c6b05ab0770a9c469f063961f016467f8e194469b6976550e930

Indian construction industry. (2015). Indian Mirror. Retrieved from https://www.indianmirror.com/indian-industries/construction.html.

Oligopoly. Economics Online. Retrieved from https://www.economicsonline.co.uk/Business_economics/Oligopoly.html.

Pettinger, T. (2008). Monopoly Diagram Short Run and Long Run. Economics Help. Retrieved from https://www.economicshelp.org/blog/371/monopoly/monopoly-diagram/.

Schumuecker, K. (2011). The good, the bad and the ugly. Institute for Public Policy Research. Retrieved from https https://www.ippr.org/files/images/media/files/publication/2011/05/Good%20bad%20and%20ugly%20-%20Housing%20demand%202025_1829.pdf?noredirect=1.

Sen, S. (2013). India to be world’s third largest construction market by 2025. Economic Times. Retrieved from https://economictimes.indiatimes.com/india-to-be-worlds-3rd-largest-construction-mkt-by-2025/articleshow/20856489.cms.