Short answer
- An oligopoly is a market where a few large firms account for all or most sales. With exactly two firms, it is called a duopoly.
- The core characteristics: few dominant sellers; mutual interdependence, so each firm plans around rivals' likely reactions; significant barriers to entry; products that may be identical or differentiated; a tendency toward sticky prices; competition through advertising and product features rather than price; and a standing temptation to collude.
- Collusion between competitors to fix prices or divide markets is illegal in the United States under Section 1 of the Sherman Act, so cooperation in oligopolies is usually tacit rather than written down.
- Economists measure how concentrated a market is with the four-firm concentration ratio and the Herfindahl-Hirschman Index (HHI). The U.S. Department of Justice treats an HHI above 1,800 as highly concentrated.
An oligopoly is a market structure in which a small number of large firms have all or most of the sales in an industry. The definition used in OpenStax’s Principles of Microeconomics is exactly that, and the textbook’s examples are industries most people buy from every week: automobiles, cable television and commercial air travel. Oligopoly sits between the extremes of the textbook spectrum. It is not monopoly, where one firm supplies the whole market, and it is not perfect competition, where so many firms sell that none of them can influence the price. It is the in-between case, and its behavior follows from a short list of characteristics that all trace back to one fact: when there are only a few sellers, each one is big enough to matter to the others.
That single fact generates everything else in this article. Because each firm matters to its rivals, firms watch each other and react (interdependence). Because reacting on price is dangerous, prices tend to stick (the kinked demand model). Because cooperation would pay more than competition, firms are tempted to collude, which is why antitrust law watches these markets. And because “a few” is vague, economists have built measurement tools, the concentration ratio and the Herfindahl-Hirschman Index, to say how oligopolistic a market actually is. This article works through each characteristic in turn. It is a definitional explainer only: it describes how these markets are structured and analyzed, and it is not financial or business advice.
1. A Few Dominant Sellers
The first characteristic is the headcount. An oligopoly has few sellers, and each holds a large enough share of the market that its decisions move the market. There is no magic number: “few” means small enough that every firm knows its rivals by name and tracks what they do. The special case of exactly two sellers has its own term, a duopoly; OpenStax gives the market for large passenger aircraft, supplied worldwide by Boeing and Airbus, as the standard example, created because the market is only large enough to support two producers at efficient scale.
Fewness is a matter of degree, which is why economists measure it rather than eyeball it (see the measurement section below). A market with four firms splitting sales evenly is more oligopolistic in behavior than a market with four large firms and a long tail of small ones, even though both have “a few” big names. What matters is that the leading firms together account for all or most of sales, so no firm can treat the rest of the market as background noise.
2. Mutual Interdependence and Strategic Behavior
Interdependence is the characteristic economists treat as the true defining feature, because it is the one the others grow out of. In perfect competition a firm ignores rivals entirely: it is too small to affect the price, and rivals are too small to affect it. In an oligopoly, every significant decision (price, output, advertising, product design) changes the profits of the other firms, and they will respond. So each firm must plan strategically, asking not “what is my best price?” but “what is my best price given what my rivals will do when they see it?”
OpenStax describes oligopolistic firms as “like cats in a bag. They can either scratch each other to pieces or cuddle up and get comfortable with one another.” If they compete hard, the outcome can approach perfect competition, with prices driven down toward cost. If they cooperate, the outcome can approach monopoly, with output restricted and prices high. Real oligopolies move between these poles over time, which is why there is no single predictive theory of oligopoly behavior comparable to the clean models for monopoly or perfect competition. Economists instead analyze these markets with game theory, the subject of the dedicated section below.
3. Barriers to Entry
An oligopoly stays an oligopoly only if new firms cannot easily enter and compete the profits away. The barriers are the same forces that create monopolies, present in slightly weaker form:
- Economies of scale. If producing efficiently requires a huge operation, the market may have room for only a handful of efficient producers. OpenStax’s Boeing and Airbus case is the pure form: demand for large passenger aircraft supports two firms at minimum average cost, and a smaller entrant would face higher costs than either incumbent.
- Patents and legal restrictions. Government grants can manufacture an oligopoly directly. OpenStax gives the example of patents granted to three pharmaceutical companies, each with its own drug for the same condition: three protected sellers, no legal entry. Licenses and quotas work the same way.
- Control of key resources. A firm that owns or controls an essential input can keep rivals out without any legal help.
- Brand and advertising costs. Some entry barriers are commercial rather than technical. OpenStax points out that producing a fizzy drink is easy; the hard part of competing with Coca-Cola or Pepsi is building a brand and marketing effort of comparable size. Where established brands are strong, an entrant must spend heavily before it sells anything, which deters entry.
The practical consequence appears in the profit picture: because entry is blocked, oligopolists can earn sustained profits over long periods, unlike monopolistically competitive firms, whose profits attract entrants and are competed away. OpenStax makes this point in its assessment of imperfect competition: oligopolies “are often buffered by significant barriers to entry, which enable the oligopolists to earn sustained profits over long periods of time.”
4. Products That Are Identical or Differentiated
Unlike the other market structures, oligopoly does not dictate one product type. Both forms exist:
- Homogeneous (standardized) products. Some oligopolies sell goods that buyers treat as interchangeable, such as steel, aluminum or cement. Competition then centers on price and reliability, and the interdependence problem is at its sharpest, because a price cut is the main weapon available.
- Differentiated products. Other oligopolies sell products buyers perceive as distinct, such as automobiles or smartphones, where design, features and brand all differ. Differentiation gives firms a second competitive dimension and slightly loosens the head-to-head price logic, because a firm can win customers without cutting price.
Either way, the defining test is not the product but the structure: few sellers, each watching the others. (A product being differentiated is what separates an oligopoly from monopolistic competition in the other direction: monopolistic competition also has differentiated products, but it has many sellers and easy entry, so no single firm’s actions move the market.)
5. Sticky Prices and the Kinked Demand Curve (a Model)
Observers of oligopolies have long noticed that prices in these markets often change less than costs or demand would seem to justify. The best-known explanation is the kinked demand curve. It is important to be clear about what this is: a model, a simplified story economists use to explain price rigidity, not a law of how oligopolies must behave.
The model works like this. Suppose a firm is selling at the going price. It reasons about its rivals’ reactions in each direction:
- If it raises its price, rivals will not follow. A higher price with competitors holding theirs means a sharp loss of sales, because buyers switch. Demand is very responsive (elastic) above the current price.
- If it cuts its price, rivals will match the cut immediately, because none of them can afford to lose share. The cut therefore wins the firm few extra sales; it mainly shrinks everyone’s margin. Demand is much less responsive (inelastic) below the current price.
Put the two halves together and the firm’s perceived demand curve has a kink at the current price. Both directions look unattractive, so the firm leaves its price where it is, and prices in the industry stay rigid even when costs move moderately. OpenStax illustrates the same logic with an airline example: a firm that cuts its fare from $500 to $300 finds rivals matching it, so it sells only slightly more (11,000 seats instead of 10,000), while a firm that raises its fare to $550, unmatched, sees sales drop to 5,000. The kinked demand logic also doubles as a discipline device inside a cartel: the shared understanding that cuts will be matched but increases will not makes cheating on an agreed price much less profitable.
The model’s known weakness, worth stating because textbooks state it: it explains why a price, once set, tends to stay put, but it does not explain how that price was chosen in the first place.
6. Non-Price Competition
If cutting price triggers instant matching and raising price loses the market, rational oligopolists compete on everything except price. Advertising, branding, product design, warranties, service networks, loyalty programs and feature races are the visible result. This is why heavily oligopolistic consumer industries (airlines, phone carriers, soft drinks, cars) advertise so intensely: persuasion and differentiation are the competitive weapons that do not start a price war. Non-price competition is not in itself a sign of weak competition; it is competition channeled into the dimensions where a firm can gain an edge rivals cannot neutralize in an afternoon.
7. Collusion, Cartels, and the Law
The cooperative pole of oligopoly has its own vocabulary. Collusion is when firms act together to reduce output and keep prices high. A cartel is the formal version: a group of firms with an explicit agreement to produce the monopoly output and sell at the monopoly price, dividing the resulting profit. If oligopolists could sustain perfect cooperation, they would earn the same profit as a single monopolist, which is precisely the temptation.
In the United States, acting on that temptation is illegal. Section 1 of the Sherman Act declares contracts, combinations and conspiracies in restraint of trade illegal, and agreements between competitors to fix prices, rig bids or divide markets are treated by the courts as per se illegal, meaning the agreement itself is the violation and no justification based on the prices being “reasonable” is available. Enforcement is shared: as OpenStax summarizes, “both the Antitrust Division of the Justice Department and the Federal Trade Commission have responsibilities for preventing collusion in the United States.” Because a written cartel agreement is evidence, formal cartels are rare inside the United States, and cooperation is more often tacit: firms implicitly reach an understanding that aggressive competition hurts everyone, enforced by the matching behavior described in the kinked demand model rather than by contract.
The temptation is real enough that cartels still form and are still prosecuted. OpenStax’s case study is the lysine cartel of the early 1990s, in which the world’s major producers of the feed additive lysine met to fix quantities and prices; the price of lysine doubled while the cartel operated. After an FBI investigation using surveillance tapes, Archer Daniels Midland pleaded guilty in 1996 and paid a $100 million fine, and executives received fines and prison sentences of 24 to 30 months. The famous exception that proves the jurisdictional point is OPEC, whose member governments have signed international agreements to hold down oil output. Such agreements sit in a gray area of international law and are not enforceable in court: if one member cheats, the others cannot sue it, which is one reason OPEC’s discipline regularly breaks down.
Even without any agreement, collusion is fragile, because each member’s private incentive points the other way: hold your own output slightly higher while rivals restrain theirs, and you capture the high price with more volume. That tension is exactly what game theory formalizes.
How Economists Identify an Oligopoly: Concentration Measures
Because “few sellers” is a description rather than a test, economists and regulators measure market concentration, the extent to which sales are concentrated in the largest firms. Two measures are standard.
The concentration ratio. The four-firm concentration ratio is the combined share of industry sales (or output) held by the four largest firms. The U.S. Census Bureau publishes concentration ratios for the largest 4, 8, 20 and 50 companies in its Economic Census, classifying industries by the percentage of output the largest companies account for. A ratio near 100 percent means the top four are effectively the whole market; a ratio in single digits means production is spread across many firms. Textbook treatments commonly read a four-firm ratio in the region of 40 percent or more as consistent with oligopoly, though the ratio is a screening device, not a verdict: it says nothing about how the four firms behave toward each other, and national ratios can mislead for markets that are actually local or global.
The Herfindahl-Hirschman Index (HHI). The HHI uses every firm’s share, not just the top four. As the Department of Justice defines it, the HHI “is calculated by squaring the market share of each firm competing in the market and then summing the resulting numbers.” Squaring means large firms count disproportionately, which is the point. The DOJ’s own worked example: a market of four firms with shares of 30, 30, 20 and 20 percent has an HHI of 2,600 (900 + 900 + 400 + 400). A pure monopoly scores the maximum 10,000, and the index approaches zero in a market of many tiny firms.
The agencies’ thresholds, as the DOJ states them under the 2023 Merger Guidelines, are: markets with an HHI between 1,000 and 1,800 are moderately concentrated, and markets with an HHI above 1,800 are highly concentrated. In a highly concentrated market, a merger that raises the HHI by more than 100 points is presumed likely to enhance market power, and a merger creating a firm with more than 30 percent share (with the same increase of more than 100 points) is likewise presumed to substantially lessen competition. These thresholds are merger-review tools, but they double as the closest thing regulators have to an official line between ordinary concentration and oligopoly territory: a market of five equal firms, for example, has an HHI of 2,000, already in the highly concentrated band.
Game Theory: The Prisoner’s Dilemma Inside Every Oligopoly
Game theory is the branch of mathematics economists use to analyze situations where each player’s payoff depends on what the others choose. Its most famous example, the prisoner’s dilemma, maps onto oligopoly so neatly that textbooks use the two to explain each other.
The dilemma, in OpenStax’s telling, involves two arrested partners who cannot communicate. Each does best individually by confessing whatever the other does, so both confess, and both end up worse off than if both had stayed silent. Confessing is a dominant strategy: the best move regardless of the other player’s choice. The result is individually rational and collectively worse.
Now replace the prisoners with two firms deciding whether to hold output down (cooperate, keeping the price high) or expand output (defect, grabbing share). OpenStax’s payoff table for the duopoly version:
| Firm B holds output down | Firm B increases output | |
|---|---|---|
| Firm A holds output down | A earns $1,000, B earns $1,000 | A earns $200, B earns $1,500 |
| Firm A increases output | A earns $1,500, B earns $200 | A earns $400, B earns $400 |
Read it from Firm A’s chair. If B cooperates, A earns more by defecting ($1,500 beats $1,000). If B defects, A still does better by defecting ($400 beats $200). Expanding output is A’s dominant strategy, and B’s arithmetic is identical. Both expand, both earn $400, and the $1,000-each outcome that cooperation would have given them goes unrealized. This is the deep reason oligopolies are unstable in both directions: cooperation is collectively better and individually irrational in a one-shot game, so markets oscillate between quiet, high-price episodes and bursts of aggressive competition. Real firms soften the dilemma by playing repeatedly, watching each other’s behavior, and punishing defection (the price-matching logic of the kinked demand curve again), and the law removes the easiest cooperation tool by making explicit agreements illegal.
Oligopoly Compared With the Other Market Structures
| Feature | Perfect competition | Monopolistic competition | Oligopoly | Monopoly |
|---|---|---|---|---|
| Number of sellers | Very many | Many | Few | One |
| Product | Identical | Differentiated | Identical or differentiated | No close substitutes |
| Barriers to entry | None | Low | High | Very high |
| Control over price | None (price taker) | Some, within a narrow range | Considerable, but constrained by rivals’ reactions | Greatest (price maker, within demand) |
| Strategic interdependence | None | Negligible | Central feature | Not applicable (no rivals) |
| Long-run profits | Zero economic profit | Zero economic profit (entry erodes them) | Can be sustained, because entry is blocked | Can be sustained |
| Textbook examples | Agricultural commodities | Restaurants, clothing | Automobiles, airlines, cable television | A patented drug with no substitute; a local water utility |
The row that does the most work is interdependence. It exists in full only in the oligopoly column, and it is why oligopoly has no single behavioral model where the other structures have tidy ones.
Frequently Asked Questions
What is the main characteristic of an oligopoly?
Mutual interdependence. The fewness of sellers is the structural fact, but interdependence is the behavioral consequence economists emphasize: each firm’s price, output and advertising decisions affect its rivals’ profits, so every decision is made in anticipation of rivals’ reactions. The other characteristics (entry barriers, sticky prices, non-price competition, collusion risk) all follow from it.
How many firms make an oligopoly?
There is no fixed number. Two firms is a duopoly; beyond that, “few” means few enough that each firm holds a significant market share and must reckon with rivals individually. Regulators approach the question through concentration measures instead: a market with an HHI above 1,800 is treated by the DOJ and FTC as highly concentrated.
What is the difference between an oligopoly and a monopoly?
A monopoly has one seller and no rivals to react to, so the firm faces the market demand curve directly. An oligopoly has a few sellers whose decisions interact, which makes outcomes less predictable: the same industry can behave almost like a monopoly when firms cooperate and almost like perfect competition when they fight.
Is collusion in an oligopoly always illegal?
Explicit agreements between competitors to fix prices, restrict output, rig bids or divide markets are illegal in the United States under Section 1 of the Sherman Act and are treated as per se violations. Tacit coordination, where firms independently fall into parallel behavior without an agreement, such as matching price cuts, is much harder to prosecute, because the law targets agreements, not merely similar behavior.
What is a real-world example of an oligopoly?
OpenStax’s standard examples are the automobile industry, cable television and commercial air travel. Large commercial aircraft are the classic duopoly, with Boeing and Airbus the only producers at global scale. Whether a given industry counts as an oligopoly depends on how the market is defined (national or global, broad or narrow), which is why the examples are best read as commonly cited illustrations rather than official designations.
Conclusion
The characteristics of an oligopoly form a chain. A few large firms dominate because barriers to entry keep the field small. Fewness makes each firm consequential to the others, so behavior becomes strategic and interdependent. Interdependence makes price wars dangerous and prices sticky, pushes competition into advertising and product design, and creates a permanent temptation to collude that antitrust law exists to frustrate. And because the whole structure is a matter of degree, economists pin it down with concentration ratios and the HHI rather than with firm counts. Understand the chain, and the apparently odd features of industries like airlines or automobiles (stable headline prices, fierce advertising, periodic fare wars, and regulators scrutinizing every merger) stop looking odd.
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Sources & references
- OpenStax (Rice University), Principles of Microeconomics, 2nd edition, section 10.2, "Oligopoly": definition of oligopoly; examples (automobiles, cable television, commercial air travel); why oligopolies exist (economies of scale, patents, brand barriers, Boeing and Airbus duopoly); collusion and cartel definitions; the prisoner's dilemma and the duopoly payoff table; the kinked demand curve and its airline example; the lysine cartel case; tacit collusion and antitrust enforcement roles.
- U.S. Department of Justice, Antitrust Division, "Herfindahl-Hirschman Index": HHI definition and calculation, worked example (four firms at 30, 30, 20 and 20 percent giving 2,600), and the concentration bands from the 2023 Merger Guidelines (1,000 to 1,800 moderately concentrated, above 1,800 highly concentrated; an increase of more than 100 points in a highly concentrated market presumed likely to enhance market power).
- U.S. Department of Justice and Federal Trade Commission, Merger Guidelines (2023), Guideline 1: post-merger HHI above 1,800 with an increase of more than 100 points, or a merged firm share above 30 percent with the same increase, raises a presumption that a merger substantially lessens competition.
- U.S. Census Bureau, Economic Census concentration ratios: classification of industries by the percentage of output accounted for by the largest 4, 8, 20 and 50 companies.
- Sherman Antitrust Act, Section 1 (15 U.S.C. section 1): contracts, combinations and conspiracies in restraint of trade declared illegal; the statutory basis for treating price-fixing agreements between competitors as per se unlawful.
