Bertrand competition is a model of oligopoly in which firms choose prices and consumers buy from the lowest-price seller.
Core model logic
The standard Bertrand setup assumes:
- firms sell identical products,
- each firm can meet the whole market demand,
- consumers choose the lowest price,
- marginal cost is constant.
Under those assumptions, any price above marginal cost gives a rival an incentive to undercut slightly and capture the market. That logic pushes the equilibrium price down to marginal cost.
Why the result matters
This is the famous Bertrand paradox: even with only a small number of firms, price competition can reproduce the competitive outcome if products are homogeneous and capacity is unconstrained.
The result changes if:
- products are differentiated,
- firms face capacity limits,
- consumers have switching costs,
- repeated interaction softens rivalry.
Economic interpretation
The model shows that market outcomes depend not only on the number of firms, but also on the variable they compete over and the frictions present in the market.
Related Terms
Knowledge Check
### In the standard Bertrand model, what do firms choose?
- [x] Price
- [ ] Quantity only
- [ ] Advertising expenditure only
- [ ] Wage rates only
> **Explanation:** Bertrand competition is defined by price-setting behavior rather than quantity choice.
### Why does the standard Bertrand model often produce price equal to marginal cost?
- [x] Because any higher price can be undercut by a rival selling the same product
- [ ] Because firms collude automatically
- [ ] Because demand is perfectly inelastic
- [ ] Because consumers ignore prices
> **Explanation:** With identical products and no capacity constraint, a slightly lower price can capture the market, so undercutting continues until price reaches marginal cost.
### What can prevent the Bertrand outcome from fully holding in real markets?
- [x] Product differentiation or capacity constraints
- [ ] The existence of consumers
- [ ] The use of money
- [ ] The law of demand
> **Explanation:** Once firms are not selling perfect substitutes or cannot supply the whole market, price competition becomes less extreme.