UK Supermarket Oligopoly

Did you know that a market is considered an oligopoly when 50% of the market share is controlled by four major firms? Well, the UK supermarket market is an oligopoly. The four biggest brands collectively hold a market share of approximately 67%. Surprised? Read on to find out more!

In an oligopoly, there are two or more firms with significant market power that can dictate prices and supply. The main way to identify whether a market is an oligopoly is to use the concentration ratios. Read our explanation on Market Structures to learn how to calculate them.

Supermarket oligopoly in the UK

As we said, the UK Supermarket industry is a clear example of an oligopoly. It’s dominated by Tesco, the leading supermarket with the highest market share, followed by ASDA, Sainsbury'’s, and Morrisons, which all make up the ‘big four’. One of the main reasons why this supermarket industry is described as oligopolistic is due to the interdependence between the leading companies, especially in regard to additional and special features or services rendered.

A kinked demand curve

The Kinked Demand Curve theory highlights the high degree of interdependence that exists in an oligopoly market. The kinked-demand curve shows that at higher and lower prices, the elasticity of demand changes: there is a dual demand curve. As a result of this, prices remain relatively rigid in an oligopoly.

Fig. 1 - Kinked Demand Curve

Figure 1 above illustrates the kinked demand curve. Firms are unlikely to be incentivised to increase or decrease their prices due to the significant impact of such an increase on the demand. Therefore, firms that increase their prices while others maintain theirs will lose customers. However, reducing the price won't increase the demand for a firm, as other firms will retaliate with a fierce price war.

Concentration ratios of the UK supermarket oligopoly

The United Kingdom’s grocery landscape has long been dominated by the ‘big four’. Other supermarkets such as Ocado, Co-op, and Iceland, however, managed to increase their market share during the Covid-19 Pandemic. Nonetheless, Tesco and Sainsbury’s remain the two largest supermarkets, with a combined market share of up to 42.3% as of May 2021.

Source: Statista, ‘Market share of grocery stores in Great Britain from January 2017 to May 2021’.

For an industry to be termed as an oligopoly, the largest firms need to have a concentration ratio of more than 50%. Calculating the UK supermarket industry concentration ratio would require us to sum up the market shares of Tesco, ASDA, Sainsbury’s, and Morrisons, which is 67.1%.

Taken together, the ‘big four’ supermarkets make up almost two-thirds of the total grocery retail market. Nevertheless, due to the post-Brexit uncertainty and growing inflation, consumer behaviour has shifted in favour of cheaper alternatives such as the discount giants Lidl and Aldi. Furthermore, there has been an increase in the competitiveness of the grocery market, accompanied by ‘price wars’, which have led supermarkets to lower their prices in order to retain more of their market share.

Fig. 2 - Picture of a Tesco, the largest supermarket chain in the UK.

Features of the UK supermarket oligopoly

Let’s explore some features of oligopolies and of the UK supermarket one specifically.

Interdependence

Economic theory suggests that in an oligopoly industry firms are unable to act alone or independently as would be the case in a monopoly. This is due to the fact that the actions that one supermarket takes will greatly affect the actions of its competitors. This results in what we know as the prisoner’s dilemma in game theory.

For instance, if Tesco expects ASDA to do a Christmas sale by lowering the prices of selected items during the holidays, Tesco might choose to do the same. However, this can have a sub-optimal effect as it reduces the competition in the market. This is because if indeed ASDA decided to do a Christmas sale and lower the prices of selected items, Tesco would not receive the full benefit of their strategy, as their competition already would have used it.

Barriers to entry

The barriers to entry into the UK supermarket industry are significantly high. It is particularly difficult to obtain the planning permissions required to build a new supermarket. These larger supermarkets have a credible reputation in the supermarket industry with a massive buying ability. Faced with this power, small retailers in the grocery industry would find it very difficult to compete against the leading supermarkets despite government aid.

Relationship between suppliers and supermarkets

Supermarkets with substantial buying ability and providers of essential products to suppliers might exploit their position. The producers could force the suppliers to provide their resources at discounted prices to reduce costs for themselves.

Non-price competition

This is one of the main characteristics of the UK supermarket oligopoly. Due to the fact that these supermarkets sell nearly homogeneous grocery products, and consumers would pick whichever was more convenient when shopping, supermarkets get more creative to increase their demand by engaging in non-price competition. They do this by engaging in activities and offering services that build brand loyalty among consumers. These can take the form of:

• Enhanced quality of services (such as delivery time slots and free collections).
• Extended guarantees on new products.
• Longer opening hours (such as 24/7 shops).

By engaging in this form of marketing strategy, which includes skillful promotions and product enhancement, supermarkets can retain larger market shares and grow.

Price fixing

Price fixing occurs when suppliers with common interests fix the price at a certain level, which is usually set at a monopoly level. This is considered anticompetitive behaviour.

Lack of effectual price competition

Lack of effectual price competition is a form of collusion, where each supermarket would try to match the prices of other supermarkets and would keep them at similar levels. There are even instances where supermarkets would state that they sell at comparable prices to another known supermarket.

Price leadership

Price leadership operates as a pricing policy that sets limits on prices. The leading supermarket sets the prices and the smaller supermarkets in the industry would have to set their prices below those to avoid losing their demand.

Price rigidity

The prices in UK supermarkets rarely change significantly, if at all. They may change slightly in order to catch up with inflation. This would not be the case if it were a perfectly competitive market with intense price competition.

Effects of the UK supermarket oligopoly on consumers

How does this oligopoly affect the consumers? Let’s see.

• In comparison to a monopoly, there is a good amount of competition, which leads to lower food prices on average.

• Due to the incentive to build brand loyalty to retain customers, supermarkets have tried to make better quality goods available alongside premium services, which are beneficial to consumers.

• Consumers have greater choices, as the number of supermarkets has increased along with the emergence of mini-markets.

• Consumers are now less particular about branding due to the emergence of supermarkets such as Aldi and Lidl, which produce similar goods at reduced prices.

• The prominence of collusion can be problematic for consumers, as supermarkets may collude to increase their prices in order to gain more profits. This would leave consumers with more expensive options.