Firstly to define a cartel, it is simply a formal collusive agreement between firms aiming to maximise profits by mimicking a monopoly.
This will only work if the members involved act as a single firm by cooperating with each other. If done properly, a cartel will harvest monopolistic benefits by limiting their production, therefore causing the price to rise above the level it would have been if the firms would have remained in competition.The firms start by setting an unusually high price for their goods which no members are allowed to underbid, though every so often the associates agree to divide the market geographically and thus give all local monopolies without imposing a universal price. Although cartels are illegal in many countries because they drive up prices and profits against the public interest, some firms simply break the law or find a loophole. With loopholes firms may only tactically collude by regulating their prices in a similar fashion to others’ and avoid price wars or aggressive advertisement campaigns.
All of this has great benefits for the companies involved because their income shoots upwards with the absence of competition and low prices. The costs of this to the firms though would be that any single member within the cartel may have the “prisoners’ dilemma”, which is the weighing of self interest and loyalty. Jim and Frank are sentenced to six months in prison, but because of lack of evidence either of the two convicts can testify against the other to get out free. This would leave the other to stay in for a solid ten years.However, if both testify against each other, they both get convicted to whole five years in prison.
In terms of cartels and firms, if a cartel has a uniform price of two dollars for their goods, then they all make ten million dollars a year. On the other hand, if any of the cartel’s members choose to lower their price to one dollar eighty cent, then that firm will make a larger income of a total twelve million dollars a year leaving the others with only five million each. But again if all the cartels’ members imitate this action, then all of them will end up with only eight million a year.
