A mid-sized oil company contacts you with a consulting opportunity. The company

Question

A mid-sized oil company contacts you with a consulting opportunity. The company has a gas station in a rural town in west Texas. The nearest competitor gas station is nearly 50 miles away. The gas station in question, then, has a fair degree of market power in the local area. Nevertheless, the gas station is experiencing losses. These losses prompted the oil company to contact you. Your point of contact at the oil company states that she believes they should just raise prices since the gas station is a local monopoly.

a. Evaluate this strategy.

b. How might the market power of the rural gas station be measured?

c. What options should the rural gas station consider in the long run?

Explanation / Answer

Since the gas station has a fair degree of market power and competitor gas station is nearly 50 miles away which means raising prices will definitely earn higher revenue for the company and eliminate its losses.

b) The market power of the rural gas station can be measured by the formula of monopoly power = P(1- 1/elasticity of demand).

c) In the long run rural gas station can merge with rhe competitor and can control the full market.

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