An island off the coast of the mainland has 4 petrol stations supplying all driv

Question

An island off the coast of the mainland has 4 petrol stations supplying all drivers on the island. The national government has noted that petrol prices on the island are unusually high. A brief investigation has shown that no formal collusion exists between the petrol stations. Drivers have access to a mobile phone app which informs them of the lowest price available Describe briefly the market structure for petrol on the island, and discuss possible reasons for the prices being unusually high. 4. [Total: 10 marks]

Explanation / Answer

Because the area has only 4 petrol stations there must be a formal structure in the market belongs to oligopoly. Usually in oligopoly market structure there are few forms that charge a higher price and produce a lower or output overall as well as separately. With repeated interaction these oligopolies must have recognised that keeping a low price will lead to A reduction in profits.

There is no formal collision exist because even if there was a collusive agreement there were chances of one firm breaching it in order to earn more profit. By keeping the price unusually high there is an incentive to undercut the rival which would initiate the process of undercutting and eventually no Firm will earn higher profit. This makes the price sticky in the lower bound range.

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