Cournot competition is an economic model in which businesses compete based on the quantity of product they produce. This model is named after Antoine Augustin Cournot, who was inspired in 1838 after watching a competition in the spring water industry in which there were only two competitors. The Cournot competition model is usually only observable when there is a monopoly or oligopoly. The general premise of the model is that oligopolies will have higher output and lower prices than monopolies, but lower output and higher prices than perfect competition.
The basics of this model require competition to be centered around the quantity produced of a specific good. In general, when more of a good is produced, its price decreases. This is not necessarily the case with this model since monopolies or duopolies are not faced with pressure from competition to lower prices. Prices will decline only if production exceeds demand, so the business will not overproduce, and it will encourage competitors to do the same. This makes the market inefficient and not favorable for consumers.
In the Cournot competition model, the products across suppliers are homogeneous, they are not storable and the prices are set by the market. The goods in this model are able to be sold and delivered immediately at the price set by the market. The types of products that are most favorable to this competition model are agricultural, such as rice, wheat and cotton.
Use of the Cournot competition model is generally found in situations in which businesses want to maximize profits based on the level of output in the market. The purpose is to avoid oversupplying the market so the prices are not driven down and to ensure enough products are produced to capture the maximum amount of revenue. Businesses will use the total output level of the market and measure this against the demand to calculate how much it should produce. The different businesses will act as a monopoly by taking the same strategy.
Inefficiencies occur in an industry where Cournot competition exists. The equilibrium price is higher than the marginal cost of production, so consumers are paying more than they would in a perfect competition situation. Surpluses also exists since there is no downward pressure for the business to reduce production. Cartels or collusions also can occur in industries with Cournot competition. Businesses have an incentive to raise prices or reduce production in order to increase profit. Cartels are illegal in most countries, but informal agreements are often made.