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Assumptions of Kinked Demand Curve

The assumptions of the kinked demand curve theory for price rigidity are: 1) There are a few companies within an oligopolistic sector producing identical products. 2) Each company's demand curve is kinked such that they will match a price cut but not a price increase by competitors. 3) The theory explains price rigidity but not how the prevailing price is determined.

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Bhawna Puri
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592 views2 pages

Assumptions of Kinked Demand Curve

The assumptions of the kinked demand curve theory for price rigidity are: 1) There are a few companies within an oligopolistic sector producing identical products. 2) Each company's demand curve is kinked such that they will match a price cut but not a price increase by competitors. 3) The theory explains price rigidity but not how the prevailing price is determined.

Uploaded by

Bhawna Puri
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as DOCX, PDF, TXT or read online on Scribd
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Assumptions of Kinked Demand Curve

The following are the assumptions that have to follow for Kinked Demand
Curve theory for price rigidity:

1. There are a few companies within the oligopolistic sector.


2. The product made by one company is an exact substitute for other
firms’ products.
3. The product is of the same high quality. There isn’t any differentiation in
the product.
4. There are no advertising expenses.
5. There is a regular price in the marketplace for the product that all sellers
are happy with it.
6. The attitudes of their competitors determine each seller’s attitude.
7. Any attempt of a seller to drive up sales by reducing the cost of his
product will be challenged by other sellers following the seller’s move.
8. If the seller raises the price, other customers aren’t likely to follow.
Instead, they will stick with the current price and serve the customer
who is not the seller.
9. A marginal cost curve runs through the dotted part of the marginal
revenue curve, ensuring that any changes in marginal cost don’t affect
output cost.
Critiques of the Kinked Demand Curve
The critiques of kinked demand curves explains in the following
motives:
1 It Doesn’t Provide a Way to Explain How the
Prevailing Price is Determined
The kinked demand curve provides a clear explanation of why and how
prices are fixed and remain constant in the marketplace. That is why it
only explains the half-truth, not the complete further explanation. Hall
and Hitch provide another variation of the kinked demand curve that
explains how the current prices decide according to demand and
supply. It is, however, not a legitimate explanation, either.
2. It Doesn’t Explain the Determination of
Price-Output
Companies behave in concerted ways in a collusive Oligopoly. Under
this kind of Oligopoly, there is no kink in the firm’s demand curve.

3. Kinked Demand Curve Theory applies to


Depression only
When demand decreases in line with an inverse demand curve, the
price probably stays steady. However, this only happens when there is
an increase in demand, i.e., the price will stay the same. So, it is
possible to say that this model is valid only in depression and not during
the boom. The demand curve’s kink could change depending on the
boom’s conditions.
4. The Reason for Price Rigidity Explains in
Differential Oligopoly.
This theory can explain price rigidity only in differentiated Oligopolies.
However, its use only sometimes provides guarantee in differentiated
Oligopoly also. The marginal cost curve’s position vertically of the
kinked demand curve may not be large enough to allow that marginal
cost curve to pass through it.

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