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Woolworths and Coles Microeconomic Analysis

Introduction to Increased Concentration In Supermarkets

The weak competition can lead to increase in the problems of the economy. There is not enough competition in the big two supermarkets of Australia. The evidence shows that the concentration within the industries is increasing. This report performs a microeconomic analysis of the market structure in the top big supermarkets in Australia: Woolworths and Coles. It is hard to think of supermarkets in Australia that aren’t dominated by just a few behemoths. It seems that consumers do not have a great deal of choice when it comes to where they should get their goods from (Bariacto and Nunzio, 2014).

The reason behind the increase in the concentration within the industries could be the slow economic growth and lack of improvement in the productivity. Data shows that there is a decline in the fate at which the new businesses are being formed. The average annual rate at which the new businesses are created have declined to 13 per cent from 16 per cent after 2010. The biggest four firms in the supermarkets comprise of more than 80 per cent of the market. The increased concentration in the market gives the small number of big firms rise in the “market power". This increase in the market power would impact their ability to influence the prices they charge. There are chances that it may also give the big firms the power to extract lower -than -reasonable prices from their suppliers (Keith, 2012).

Supermarkets in Australia

It is anticipated that the price competition in the supermarkets would remain strong, however, competition is projected to be less intense. The major two players of the industry- Woolworths and Coles have been improving their stores as well as digital capabilities to differentiate their brands from the low cost supermarkets. Woolworths is operating 995 stores across Australia. Basically Woolworths has succeeded in its advertising campaign of – “We're the fresh food people" (Sutton- Brady, 2015).

 A duopoly exists in the supermarket industry in Australia. Most of the retailers do not enter into the supermarket and grocery industry because of the two big bulls already present in the market. They cannot afford and thus avoid entering into this market. Both the firms, Coles and Woolworths have wider and extensive distribution systems and have large number of stores both in the rural as well as urban areas of Australia. A large investment is required by the firm which wants to enter in this industry (Knox, 2015).

Oligopoly Structure

The market structure of the supermarket industry in Australia is oligopoly. There are firms to compete in the market but the two big firms are dominating. These are Woolworths and Coles in Australia. The concentration ratio of the total sales in the market is in the hands of there two major firms. The seller concentration ratio in the grocery market of Australia is 80 per cent approximately where the two major big firms- Woolworths and Coles account for the 80 per cent of the total sales of grocery in Australia.

The competition is intense in the case of oligopolistic market structure where both price and non- price techniques are used to compete. The common aspects are warranties and tricky advertisements. The firms would not be beaten on price. If one of the firm reduces its price, the other would try to match it its price. In oligopoly market structure, mutual interdependence is a must. If one of the firms changes its policy or price, it becomes necessary for the other firm to react on this change as it would affect the sales of the firms.

This can be understood with the help of an example: Suppose both Coles and Woolworths sell tomatoes at $6 per kg. If Woolworth decides to lower its price by $1 per kg, this resulted in rise in the sale of tomatoes from 15,000 kg per week to 30,000 kg per week. This implies that at this particular stage, the demand curve of tomatoes is elastic. This is because a 17 per cent decrease in price has led to 50 per cent increase in the volume of sales. So, this lead to loss of sales to Woolworths by Coles. Thus, Coles also will reduce the price by $1. Suppose if Coles reduces the price to $3 per kg to attract more consumers. This would lead to increase in the sales of Coles but the sale would only rise from 20,000 kg per week to 25,000 kg per week. This is because of the kinked demand curve which most of the oligopoly market faces. One part of the linked demand curve is elastic and the other part is inelastic demand curve.

In the case of Woolworths, the demand curve of tomatoes was elastic but in the case of Coles, the demand curve turned out to be inelastic. This is because greater amounts cannot be purchased forever. The total demand of the tomatoes would be inelastic with falling prices. This lead to lower profits for both the firms. Therefore, it is profitable for both the firms to operate at the link and not lower its prices below the kink. The best choice is to produce at kink, that is, at point E, where the equilibrium occurs (Ginevicius and Krivka, 2008).

Woolworths knows that if the price reduction step is also taken by Coles in response, it would not be profitable to reduce the prices as the profits would fall. If both of the firms reduce its price in response to each other, there will be no profits overall for both of the firms. Thus, it is profitable to produce at the point E.

Game Theory

The game theory technique is used to find the equilibrium in the market. The role of game theory is to study the behaviour of people in strategic situations. In oligopolistic market, the profits of each firm depends on the strategic actions of other firm. This results in prisoners’ dilemma. This prisoners' dilemma highlights the difficulty of cooperation even when it is in the best interests of the market players. The firms select the dominant strategies as they are influenced by the short sighted profits. The result is that both the firms are worse off at the equilibrium. If they would have cooperated, then both could have been made better off (Mazzeo, 2002).

There are basically two strategies that can be followed by the firms Coles and Woolworths: High Price (HP) and Low Price (LP). The payoff matrix is given below:

Firm 2 (Coles)

FIRMS

High Price

Low Price

High Price

( $ 15, $ 15 )

( $ 10, $ 20 )

Low Price

( $ 20, $ 10 )

( $ 12, $ 12 )

Firm1

(Woolworths)

The payoff matrix shows the strategies of both the firms: firm 1 and firm 2. The payoff of firm 1 and firm 2 is $ 15 each when both firms choose high price. The payoff of both the firm falls to $15 when both firms choose $12. The dominant strategy for both the firm is low price. Thus, the nash equilibrium of this game is low price. The payoff on this equilibrium is $12 for both the firms. However, both the firms are worse off at this nash equilibrium. If they would have cooperated and tried to stuck at high price, both have been better off. The payoffs could be increased to $15 for both the firms, if cooperated.

Conclusion on Increased Concentration In Supermarkets

There are both pros and cons of having oligopoly market. The firms in the oligopolistic market is not interested to keep intense competition with other firms and benefitting the customers by lower prices. Rather the firms in the oligopoly market tries to keep cosy share in the market and thus gain high profits (Mortimer, 2013). This is the reason why most of the times the prices in the oligopoly market remains steady for long time. The major problem is poor regulation of these markets. The government should take proper measures so that unethical actions could be avoided. The government must add civil fines for unconscionable conduct. There should be penalty for formation of cartels and also for breaches of consumer protection laws.

References for Increased Concentration In Supermarkets

Bariacto, N., & Di Nunzio, J. (2014). Market power in the Australian food system. Dalkeith, WA, Future Directions International, 148-60.

Ginevičius, R., & Krivka, A. (2008). Application of game theory for duopoly market analysis. Journal of Business Economics and Management9(3), 207-217.

Keith, S. (2012). Coles, Woolworths and the local. Locale: The Australasian-Pacific Journal of Regional Food Studies2, 47-81.

Knox, M. (2015). Supermarket monsters: The price of Coles and Woolworths' dominance (Vol. 6). Black Inc..

Mazzeo, M. J. (2002). Product choice and oligopoly market structure. RAND Journal of Economics, 221-242.

Mortimer, G. (2013). FactCheck: is our grocery market one of the most concentrated in the world?. The Conversation, (12).

Sutton-Brady, C., Kamvounias, P., & Taylor, T. (2015). A model of supplier–retailer power asymmetry in the Australian retail industry. Industrial marketing management51, 122-130.

Remember, at the center of any academic work, lies clarity and evidence. Should you need further assistance, do look up to our Accounting and Finance Assignment Help

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