Edgeworth Price Cycles, Cost-based Pricing and Sticky Pricing in Retail Gasoline Markets

This paper examines dynamic pricing behavior in retail gasoline markets for 19 Canadian cities over 574 weeks. I find three distinct retail pricing patterns: 1. standard cost-based pricing, 2. sticky pricing, and 3. steep, asymmetric retail price cycles that, while seldom documented empirically, resemble those of Maskin & Tirole [1988]. I use a Markov switching regression to estimate the prevalence of the regimes, the pattern of markup in each, and the structural characteristics of the price cycles themselves. Retail price cycles prevail in over 40% of the sample. I show they are more prevalent in markets and at times where there is a greater penetration of small, independent firms. The cycle is accelerated and amplified in markets with very many small firms. In markets with few small firms, sticky pricing is dominant. Each of these findings is consistent with the theory of Edgeworth Cycles. I discuss both welfare and policy implications of such pricing behavior, and compare the Canadian experience with that of seemingly similar retail gasoline markets in the United States. JEL Classification L13, L41, L81 “This is why marketers and individual retailers watch one another’s price signs like hawks. When one competitor lowers the price, others follow right away. Consumers have the impression that the prices all change in unison, but they don’t — it’s a rapid chain reaction. Eventually, prices spiral down to the point where the margin disappears altogether, until one competitor restores the price.” — Roger Purdie, V.P. Imperial Oil Canada, 2000. ∗Comments welcome to [email protected]. I would like to thank Glenn Ellison, Sara Ellison, Nancy Rose, Emek Basker, Bengte Evenson, Dean Karlan and seminar participants at Berkeley Haas, Chicago GSB, Clemson, Duke, MIT, Michigan, Northwestern, Oregon, UC San Diego, and Stanford GSB for helpful comments. I gratefully acknowledge financial support from the Social Sciences and Research Council of Canada and the MIT Schultz Fund.