Bertrand's Oligopoly: A different take on NCB

Thursday, August 31, 2006

If you've never heard of Bertrand's Oligopoly, you're probably not alone, but this esoteric economic theory provides an interesting take on national competitive bidding.
The French mathematician Joseph Louis Francois Bertrand (1822-1900) says that as long as two or more parties participate in a competitive bid, a marginal--or lowest possible price--will ultimately be achieved. That means the Hobson-Tanner bill, which is designed to allow more small providers a place at the NCB table, will not significantly reduce CMS's anticipated savings, according to Kenneth Brown. Brown is a University of Northern Iowa economist who performed an economic analysis of Hobson-Tanner for the VGM Group and referenced Bertrand's Oligopoly in his report.
"It doesn't matter if there are three or 300 (bidders)," said Jim Walsh, president of VGM Management. "The first guy to bid may bid below his marginal price and go out of biz. The second guy may bid higher than the marginal price and be doing fine, but then someone else is going to figure that out and bid under him. It is a learning system, not just as to what other bidders are going to do but a learning system as to what is your marginal price, where do you go broke."
By definition, an oligopoly is a market dominated by a small number of sellers (oligopolists). Because there are few participants in this type of market, each oligopolist is aware of the actions of the others. Oligopolistic markets are characterized by interactivity. The decisions of one firm influence, and are influenced by, the decisions of other firms. Strategic planning by oligopolists always involves taking into account the likely responses of other participants.
Enter Hobson-Tanner: It allows any qualified provider that submits a bid under the current allowable to participate in business at the winning bid's price.
Bertrand's Oligopoly is "common sense if you think about it," Walsh said. "If you have more than two active bidders for a piece of equipment, theory says they will ultimately drive the cost down to the marginal, the lowest amount they can survive on," he said.