It can be derived that, Australian supermarkets industry is oligopolistic. It is dominated by few firms, and Woolworths and Coles are the two market leaders. The products are heterogeneous and are very close substitutes of each other. They act like a group. The actions of one supermarket affects the actions of the others.
2. Woolworths and Coles would not be interested to engage in a price discount war. In price discount war, if one firm decides to cut its price or give discounts to capture more market share, then to prevent the existing customers from shifting to the lower priced firm, others would lower their prices too. This would ultimately lead to the fall in the total revenues for all the firms. Therefore, the supermarket giants would not like to have a price discount war.
The kinked demand curve model explains the price rigidity in oligopoly market structure.
Figure 1: Oligopoly kinked demand curve
(Source: Radar, 2014)
When the demand or AR curve is relatively elastic, the firms set the price at P1. At this point, if one firm raises its price, others will not follow, as the resulting decline in the demand is more than proportionate price change. When the AR curve is relatively inelastic, then if one firm lowers its price, others would follow to retain the market share. This practice would lead to price war. At the initial profit maximizing level of price P1 and quantity Q1, the original MC curve is MC2. If the MC shifts, then the price would be different too. Due to price war, if MC2 falls to MC3, then the firm would charge a price, which is lower than P1. This leads to a fall in revenue.
In oligopoly, firms play cooperative game to increase the profit for all. Such games help to make every firm better off. The better strategy for these supermarket giants would be to engage in non-price competition rather than a price discount war. Non-price competition would make both the firms better off in terms of revenue. Thus, the dominant strategy should be non-price competition (Baumol & Blinder, 2015)
3. The market structure for vegetables provided by the farmers represents oligopsony. This refers to the market, where there are too many sellers and a few buyers. In the vegetables market, there are numerous producers, but there are few supermarkets, which would buy from them. According to the diagrams in Source 2, 13% farms supply vegetables and melons to the supermarkets, and direct sales volume is 28%. In this market structure, the buyers exert influence on the sellers and lower their prices, as there are many sellers in the market.
Figure 2: Sale of the farmers to the supermarkets in 2015
4. The falling prices of vegetables would definitely affect the farmers in a negative way. They would be forced to supply the same quantity at a lower price, and incur losses. Eventually, they would reduce their supply and hence, reduce the level of production. The vegetables market is perfectly competitive. The products have perfect substitutes.
Figure 3: Cost curve of individual farmer
An individual farmer supplies at P = MC = MR, that is at point E. when the prices fall, its marginal cost would fall, leading to a loss. Hence, total revenue would be less than total cost for an individual farmer.
No firms earn supernormal profit in the long run under perfect competition. If the price is less than the average price in the long run, then the small markers would leave the market (Hall & Lieberman, 2012).
5. If the farmers adopt new technology or make significant improvements in technology, level of production would increase. The new technology would enable the farmers to produce more, hence, market supply would increase. The costs per unit of production would fall, but that occurs only if there is a high level of production. Market prices would fall, thus, there will not be much benefit from more supply in the market. The initial profit would disappear.
Figure 4: LRAC of small farmers
The small farmers would produce at the lowest point of the LRAC curve. Market price would P* = MR (Moulin, 2014).
Baumol, W. J., & Blinder, A. S. (2015). Microeconomics: Principles and policy. Cengage Learning.
Hall, R. E., & Lieberman, M. (2012). Microeconomics: Principles and applications. Cengage Learning.
Iossa, E., & Martimort, D. (2015). The simple microeconomics of public?private partnerships. Journal of Public Economic Theory, 17(1), 4-48.
Moulin, H. (2014). Cooperative microeconomics: a game-theoretic introduction. Princeton University Press.
Rader, T. (2014). Theory of microeconomics. Academic Press.