Collusion, firm numbers and asymmetries revisited [Rhodes]

In an infinitely repeated game where market demand is uncertain and where firms with (possibly asymmetric) capacity constraints must monitor the agreement through their pri- vately observed sales and prices, we analyse the firms’ incentives to form a cartel when they could alternatively collude tacitly. In this private monitoring setting, tacit collusion involves price wars on the equilibrium path if a firm cannot infer from its low sales whether the realisation of market demand was unluckily low or whether at least one rival has undercut the collusive price. In contrast, explicit collusion involves firms secretly forming an illegal cartel to share their private information to avoid such price wars, but this runs the risk of sanctions. We show, in contrast to the conventional wisdom and consistent with the empirical evidence, that the incentives to form an illegal cartel can be smallest in markets with a few symmetric firms, because tacit collusion is most successful in such markets