Question

If firms produce products that are perfect substitutes, what shape will competition take in an oligopolistic market and to which other model will the results best compare?

Answer 1

If the firms produce goods that are perfect substitutes, each firm will face a highly elastic demand because consumers will be able to switch between firms if price changes by a small amount. Therefore, in an oligopolistic market, the firms will engage in Price competition, in order to keep their prices lower than their rival firms.

This competition model is based compared with perfect competition, where each firm sells identical goods that are perfect substitutes, therefore demand is perfectly elastic and each firm is a price taker, accepting the market-determined price as its own price.