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Price Uncertainty and Market Power in Retail Gasoline: The Role of Price Signs on an Italian Highway

45 Pages Posted: 29 Aug 2016  

Federico Rossi

Purdue University - Krannert School of Management

Pradeep K. Chintagunta

University of Chicago

Date Written: July 22, 2016

Abstract

We investigate the effect of consumers' price uncertainty and search costs on gasoline price levels. The introduction of a mandatory price disclosure policy on the Italian highway enables us to observe market prices when (a) consumers have no price information; and (b) some information about the prices of competing stations is available to consumers. To characterize the observed pricing outcomes in the marketplace we then propose a model of consumers' sequential search and purchase of gasoline and combine it with a model of gas station pricing. Using data on actual prices and traffic patterns on a particular segment of the highway, we obtain estimates for consumer search costs and other model parameters. Via a counterfactual analysis, we then predict the levels of prices that would prevail in a scenario where consumers have full price knowledge. We also use our model and estimates to measure the stations' market power as a consequence of consumers' lack of price information. We find that when consumers do not have price information, gas stations are able to charge 35.8% more, in terms of higher price-cost margins, than when prices are known. We provide welfare implications of the current mandatory disclosure policy, and quantify the additional benefit of making price information available to all consumers.

Keywords: Consumer search, Price Uncertainty, Retail Competition, Retail Gasoline

Suggested Citation

Rossi, Federico and Chintagunta, Pradeep K., Price Uncertainty and Market Power in Retail Gasoline: The Role of Price Signs on an Italian Highway (July 22, 2016). Chicago Booth Research Paper No. 16-15. Available at SSRN: https://ssrn.com/abstract=2819084

Federico Rossi

Purdue University - Krannert School of Management ( email )

403 W. State Street
West Lafayette, IN 47907-2056
United States

Pradeep K. Chintagunta (Contact Author)

University of Chicago ( email )

5807 S. Woodlawn Avenue
Chicago, IL 60637
United States
773-702-8015 (Phone)
773-702-0458 (Fax)

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