firms to coexist in the market; patents or access to a technology may exclude potential competitors; and the need to spend money for name recognition and market reputation may discourage entry by new firms. These are "natural" entry barriers-they are basic to the structure of the particular market. In addition, incumbent firms may take strategic actions to deter entry. For example, they might threaten to flood the market and drive prices down if entry occurs, and to make that threat credible, they can construct excess production capacity.
Managing an oligopolistic firm is complicated because pricing, output, advertising, and investment decisions involve important strategic considerations. Because only a few firms are competing, each firm must carefully consider how its actions will affect its rivals, and how its rivals are likely to react.
Suppose that because of sluggish car sales. Ford is considering a 10 percent price cut to stimulate demand. It must think carefully about how GM and Chrysler will react. They might not react at all, or they might cut their prices only slightly, in which case Ford could enjoy a substantial increase in sales, largely at the expense of its competitors. Or they might match Ford's price cut, in which case all three automakers will sell more cars but might make much lower profits because of the lower prices. Another possibility is that GM and Chrysler will cut their prices by even more than Ford did. They might cut price by 15 percent to punish Ford for rocking the boat, and this in turn might lead to a price war and to a drastic fall in profits for all three firms. Ford must carefully weigh all these possibilities. In fact, for almost any major economic decision a firm makes-setting price, determining production levels, undertaking a major promotion campaign, or investing in new production capacity-it must try to determine the most likely response of its competitors.
These strategic considerations can be complex. When making decisions, each firm must weigh its competitors' reactions, knowing that these competitors will also weigh its reactions to their decisions. Furthermore, decisions, reactions, reactions to reactions, and so forth are dynamic, evolving over time. When the managers of a firm evaluate the potential consequences of their decisions, they must assume that their competitors are as rational and intelligent as they are. Then, they must put themselves in their competitors' place and consider how they would react.
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