Price leadership and coordination in retail gasoline markets with price cycles

Abstract

This study examines the coordination mechanism used by gasoline stations in the midwestern United States where prices exhibit highly cyclical fluctuations known as Edgeworth cycles. Stations in these markets repeatedly coordinate large marketwide price increases following periods of aggressive price undercutting. By studying these periodic price jumps both over time and across cities, I find that a particular retail chain in each city acts as a price leader initiating each price restoration. The leader signals the new price level to competitors by simultaneously jumping prices at all its stations to a single price. Competitors follow quickly with a large majority of stations jumping to the exact same price within a 24 hour period. The characteristics of the leading firms and the nature of observed price coordination suggest that successful price jumps may be facilitated by the existence of a retailer controlling the prices of a significant number of stations in a city. Identifying the important role of these firms in the market contributes to a broader understanding of price leadership and coordination and highlights another potential reason why price cycles exist in some in retail gasoline markets and not others.