Why does the interdependence of firms play a major role in oligopoly but not in perfect competition or monopolistic competition?

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The interdependence of firms plays a huge role in oligopoly and not in perfect competition nor monopolistic competition, as there are a few firms for oligopoly and many small firms for the other two. As such, in perfect competition and monopolistic competition market structures, firms affect each other's sales very minimally. This is because there are so many of them that the consumers will not be so heavily influenced by any one firm that other firms will be at a disadvantage. This is especially so because in the long run, both of these market structures earn normal profits; hence, they use non-price competition strategies, such as advertisements. However, they are typically unable to advertise much due to their limited budget from only earning normal profits. They are also price-takers and are unable to influence the market price.

In contrast, in an oligopoly, there are a few small firms. They are price-setters that can influence the market price, and, as each firm is so large that its actions affect market conditions, the firms are interdependent. Also, as they earn supernormal profits in the long run, they are able to spend on pricing strategies, such as trying to undercut their rivals by pricing their products at a lesser price, and on non-price strategies, such as advertisement campaigns to promote their brand and convince people to buy the product. Thus, there is a great interdependency, as the oligopoly can affect other firms to a great extent. As such, collusion is often seen in oligopoly to reduce competition and increase profits for two parties. This is known as forming a cartel.

In conclusion, the interdependence of firms plays a large role in oligopoly, as the firms are able to influence each other's profits to a large degree. For perfect competition and monopolistic competition, the firms are stand-alone units that remain mostly unaffected by the presence of other firms.

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The main reason for this is the different number of firms that are in each of these market structures.

In both perfect competition and monopolistic competition, there are large numbers of firms selling the same (in perfect competition) or similar (in monopolistic competition) product.  By contrast, in an oligopoly there are very few firms selling the product.

Because there are only a few firms in an oligopoly, the firms are really in very direct competition with one another.  Think about McDonalds and Burger King -- what any one of these does affects the other.  But then think about all the Chinese restaurants in New York City.  What one of these does can have very little impact on the others.

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