Economic Analysis of Oligopoly

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Economic Analysis of an oligopoly market structure
Supermarkets brew up a crate full of profits

1. Introduction
1a Article Summary
Woolworths and Coles continue to extend their dominance in the grocery market and more recently petrol. This has been extended and they are now looking to expand their hold on the Australian market by moving into the liquor industry. Julian Lee (2008) highlights Coles and Woolworths move into the industry, by trying to build on their previous acquisitions of liquor outlets to challenge the major brands for a share of the $6 billion per year Australian beer market. The article reveals that Coles and Woolworths plan to ‘give more space to their own beers and promote the beers in their hotels’. The beer market has so far been resistant and has retained a strong brand loyalty. Coles and Woolworths are competing against each other and relying heavily on price discounting and forming supplier contracts to attain exclusive supply. The article questions whether or not these oligopolies will be as successful as previously in attaining their complete dominance because ‘home or exclusive brands’ are currently only a small component of the market.

1b Justification of the topic
‘Supermarkets brew up a crate full of profits’ is an article that clearly describes the workings on an oligopolistic market. The fact that the market is governed by two powerful firms that have the ability to influence price shows that the market more closely resembles a duopolistic structure. The beer and liquor industry comprises a differentiated oligopoly of which Woolworths and Coles are the main controllers. Woolworths and Coles control between 78 and 80.5 per cent of the national grocery market according to two 2008 retail surveys (Lenaghan, 2008), indicating a very high seller concentration ratio, and this figure points out the two giants’ share of the supermarket industry, including their diversification into liquor. It is clear that the competitors hope to extend this duopoly in the beer market where they have been less successful. Coles and Woolworths can be justified as a competitive duopoly as they are interdependent. They rely on each other to judge pricing of products and it has been suggested (Moynihan, 2007) that the two powers collude to maximize their profits. Significant barriers to entry for independent competitors have been created including large start up costs. The sheer size of their companies allows them to influence legislation, the fact that they encompass large economies of scale, and their control of raw materials helps these two firms to retain the staggering market share ‘to an extent unparalleled in other countries.’(Jones, 2005) 2. Economic Analysis

It is quite evident that Coles and Woolworths began their crusade of the Australian liquor industry early. Estimates of the ‘take out sales figure would be somewhat over $9 billion of a total liquor market of about $17 billon’ (Jones, 2005). Over the years the rises in productivity and efficiency have enabled the companies to sell at a discounted price. ‘Woolworths has long been engaged in a project to reduce costs through improvements in supply chain logistics’ (Jones 2005). Coles and Woolworths are well aware that this efficiency leads to increasing returns to scale. They hold economies of scale and scope that their nearest rivals cannot compete with and therefore their long run average costs continue to decline whist their output quantities are more than doubling. The long run average cost curve (1) is produced when economies of scale are many and diseconomies of scale are few. 1.2.

It is very clear that Coles and Woolworths association of groceries and liquor retailing is a classic example of oligopolistic firms attempting to further enhance their market. ‘In the mid 80’s Coles bought the Liquorland group signalling its entry into liquor retailing. Coles bought Vintage Cellars in 1992, the Australian Liquor Group in...
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