Cartels:

Mainly, cartels are formed among the firms due to the uncertainty arising out of mutual interdependence. Typically, there can be two types of cartels, viz.,

a) cartels aiming at joint profit maximisation  
b) cartels aiming at the sharing of markets
a) Cartels Aiming at Joint Profit Maximisation

Often cartels are formed for maximising the industry profit. The situation is similar to that of a multi-plant monopolist. Generally, the firms appoint a central agent to which they delegate the authority to decide the total quantity to be produced and the price to be charge, to maximise the joint profit. It is the central agency, which allocates the output to be produced among the firms, and it distributes the joint profit. To be able to do this, the central agency must have an access to the cost conditions of the firms. This knowledge is crucial as allocation and distribution depend crucially on them.  

To analyse let us consider two profit maximising firms A and B forming a cartel for joint profit maximisation. The cost conditions are represented in terms of the marginal and average cost curves (MC and AC respectively). Based on the individual MC curves of the two firms, we derive the aggregate MC curve (AMC) as the horizontal summation of MC₁ and MC₂. Given the market demand curve (DD₁), by equating MR with AMC, we can derive the industry output and the corresponding industry price as shown in figure.

The individual output of each firm is obtained by drawing a line through the point E (where MR = AMC) and extending it back to the two adjoining figures whereby we get MC₁ = MC₂ = AMC = MR. Dropping perpendiculars from the point of intersection of the line MC1 = MC2 = AMC = MR we get the output to be produced by each firm. 

We find that the firm having the flatter MC, implying lesser per unit cost, produces the more output. But this by no way means that the firm with the flatter MC or the least cost gets a bigger share of the profit of the cartel.

Drawbacks in Cartels:

There might arise situations when the joint profit maximisation of the firm may not be achieved. The main reasons could be the following: 

1) Mistakes in the estimation of the market demand.

2) Mistakes in the estimation of the MC

3) Slow process of cartel negotiations

4) 'Stickiness' of the negotiated price

5) 'Bluffing' nature of the members

6) Existence of high-cost firm

7) Government interference