A2 Economics – Dominant Firm Model

Price leadership (dominant firm model) was part of a question in last week’s A2 Economics exam and was not well answered. This example of collusive pricing sees one firm act as the leader in the market, setting the price which the other firms then adopt. The price leader is usually the ‘dominant firm’ in the market, this position being achieved through some factor such as size or cost advantage. The graph illustrates the dominant firm model. The dominant firm sets the price where MC = MR (profit maximisation) and then allows the other firms to supply as much as they wish at this price 0-Q1. The dominant firm supplies the remaining, or residual, market demand Q1-Q2. This behaviour offers all firms the advantage of certainty; the dominant firm is able to set the price, while the remaining firms know that they will be able to supply as much as they wish at the price set.

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