A collusive oligopoly occurs when firms in an oligopolistic market—where only a few companies dominate—agree to work together instead of competing against each other. They might set prices, limit aggregate supply, divide markets into segments, or engage in other practices that would typically be undercut by competition. Such collusion can be explicit, forming cartels like OPEC, or tacit, where firms indirectly coordinate actions without explicit agreement.

The impact of a collusive oligopoly can be significant. For the firms involved, it often leads to higher prices, greater market share, and stabilized profits as the uncertainties of competition are reduced. For consumers, however, it typically results in fewer choices and higher prices than would exist in a competitive market, as the benefits of innovation and efficient pricing are reduced. This leads to a deadweight loss, reducing overall economic efficiency.

The advantages of collusive oligopolies for firms include reduced competition, higher profit margins, and the ability to control market fluctuations more effectively. Collectively, firms can behave similarly to a monopoly, setting prices where marginal revenue equals marginal cost, but at a higher level than in competitive markets.

However, collusive oligopolies face limitations and challenges. They are often illegal and subject to antitrust laws designed to protect consumers and ensure market competitiveness. Moreover, such collusion can stifle innovation and efficiency, as firms have less incentive to improve when the collusion protects them. Cartels also face internal stability issues, as individual firms have an incentive to cheat on the agreement by slightly undercutting the cartel price to gain market share.