IAI Actuarial Core Principles · Business Economics · Profit maximisation under imperfect competition
The kinked demand curve model of oligopoly is used to explain which feature of oligopolistic markets?
The kinked demand curve explains price rigidity in oligopoly. Rivals are assumed to ignore price rises but match cuts, creating a gap in marginal revenue, so price stays stable even when marginal cost shifts within that gap.
- APrices tend to be rigid even when marginal cost changes within a rangeCorrect
- BFirms always collude openly to set prices
- CPrices fall continuously because rivals always match increases
- DEntry is easy so profits are competed away
- Firms set price equal to marginal cost
Explanation
The model assumes rivals will not follow a price rise (demand above the kink is elastic) but will match a price cut (demand below is inelastic). This produces a vertical gap in the marginal revenue curve, so moderate cost changes leave the price unchanged.
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