... firm. If the firm was to reduce prices, it could risk starting a price war. This is because, other firms are likely to follow, in order to stay competitive. Therefore, all firms in the industry would suffer from a sharp fall in profits as they continuously cut prices to compete with each other. Eventually, prices will have to rise again to restore profitability and the firm that started the price war could have lost market share. Therefore firms want to avoid price competition as all firms will lose out in the long term due to reduced profits. So there is an incentive for firms to form a price agreement in order to reduce uncertainty. There is a greater incentive to form price agreements in markets where the demand for the product is inelastic e.g. sugar, petrol and oil. This is because, increases in prices will lead to increased revenue and in ...

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