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

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.