Abnormal Profit from Collusion in Oligopoly
Microeconomics
A diagram showing how firms in an oligopoly can earn abnormal profit when they collude and behave like a monopoly.
Curves and Elements
demand
AR = D: The average revenue curve, which is also the market demand curve.
marginal revenue
MR: The marginal revenue curve, which lies below the demand curve in imperfect competition.
marginal cost
MC: The marginal cost curve, showing the additional cost of producing one more unit.
average cost
AC: The average cost curve, showing cost per unit of output.
profit maximizing output
Profit-maximizing Output (Qm): The collusive level of output, found where MC equals MR.
collusive price
Collusive Price (Pm): The price charged at output Qm, found from the demand curve.
abnormal profit
Abnormal Profit: The shaded area between price and average cost at Qm, showing supernormal profit earned through collusion.
In collusion, firms cooperate rather than compete, often by agreeing on price or output.
When oligopolistic firms collude, they act like a monopoly and maximize joint profit by producing where marginal cost equals marginal revenue.
The collusive output is Qm, found where MC intersects MR, and the collusive price is Pm, found by projecting up to the demand curve.
Because average cost at Qm is lower than price, the firms earn abnormal profit.
The shaded area shows abnormal profit, equal to the difference between price and average cost multiplied by quantity sold.
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