Have you run an errand in Casper recently? Maybe a few weeks ago you dropped your daughter off at school in Laramie, or visited a friend in Gillette. Or maybe you went to an Avalanche game in Denver and bristled at all the prices beginning with a 1.
Douglas’ gas prices might be infuriating when you compare them to numbers in major cities around Wyoming or costs in other states, but there’s no conspiracy. The 40 cent difference between here and Casper is likely a result of tacit collusion and a captive market, both of which are common, experts said. It’s highly unlikely that the local gas stations are violating any anti-trust laws or fixing prices. They’re simply playing a game that market conditions in Douglas encourage them to play – a game that makes them more money.
“This often comes down to just the dynamics of competition at the retail level,” University of Wyoming Associate Professor of Economics and Director of the Center for Energy Economics and Public Policy Robert Godby explained this week.
What Drives Prices Generally?
Before the price of gas lies in the hands of local gas station managers, a host of factors determines the price at the pump.
The biggest determinant is the cost of oil. When oil prices go up, gas prices go up. When oil prices fall, gas prices fall, too . . . but more slowly.
In economics, this is known as the rockets and feathers theory. When oil prices spike, gas prices rocket up with them. But when oil struggles, gas doesn’t keep pace, instead drifting down like a feather. Local competition drives this rockets and feathers effect.
After crude prices, local refinery costs are the most important determinant. Different refineries are specifically designed to handle different types of crude. This plays a role in gas prices at the national level, but likely isn’t a big factor in explaining differences between Douglas and Gillette, or Casper, even if they get their fuel from different refineries.
“The price differences are probably not due to the fact that they are captive to one refiner,” Godby said.
Then there are a host of other smaller factors that play in. For example, in metropolitan areas, gas prices fluctuate seasonally because different additives are included in gasoline to limit air pollution issues in hot, bright summer months. Additives aren’t making Douglas an outlier. Taxes on gasoline in different states also play a role, but they don’t explain the large gap between Wyoming and Colorado gas prices – Wyoming’s higher gas tax only accounts for 2 cents of the difference.
Why Don’t Douglas Gas Stations Compete?
Local competition and economic conditions at the retail level can help explain the half dollar gap between Douglas and Gillette. The key is the small size of Douglas’ market.
Douglas only has six primary gas stations. Two of them are located off of I-25: The Shell at Douglas’s north exit, and the Sinclair at the South. These two stations tend to have the highest prices in town because, from the market’s perspective, they’re more convenient for individuals travelling along I-25. Essentially, Shell and Sinclair merely need to set a price that doesn’t cause too many drivers to look for gas down the street.
The four other gas stations are Loaf ‘n Jug, Maverik, Conoco (Pump-n-Pak) and Safeway. These four stations typically offer nearly identical prices, which is common.
“There are two incentives that you face as a retailer, and they work in opposite directions,” Godby explained.
On the one hand, you want to out-compete your rival to attract more customers. On the other, you want to charge the highest price possible to maintain better margins.
Even with those incentives, why doesn’t one of the four stations aggressively undercut the rest in an attempt to snag a larger share of the market?
The reason is that the stations know aggressive competition won’t be good for them.
Say you’re the manager at Maverik, directly across the street from Pump-n-Pak. You figure, ‘Hey, let’s drop our prices by a penny, and everyone will come to us instead.’
That works for a while, but it doesn’t take long for the Pump-n-Pak manager to notice the 1 cent difference. Obviously she can’t keep her prices higher, so she decides to match Maverik. Or maybe she decides turn the tables and undercut Maverik by a penny . . .
“You end up in a price war, where you alternately change your prices until you end up the lowest price that you can charge and still make a profit,” Godby explained. “They realize if they compete too intensely, it’s bad for both of them.”
So the gas stations play a coordination game, tacitly collude, for the sake of mutual self-interest, he said.
“You kind of have an unspoken agreement of, ‘I won’t lower my price unless you lower yours,’” Godby said. “You can keep the prices higher longer and you’re probably going to both benefit.”
But why don’t they play the same game in Cheyenne or Casper?
The game becomes harder to play when you jack up the number of participants. When you have 20 stations, the odds that one will be aggressive increases. And it might only take one to lower everyone’s prices.
“You’re much likelier to get more intense competition when you have what we call a thicker market,” Godby said.
Other Factors at Play
Douglas’ small market size hurts gas consumers in more ways than one.
“(Gas prices) are wedded to the price paid for fuel at the time of purchase in small communities,” University of Wyoming H.A. “Dave” True, Jr. Professor of Petroleum and Natural Gas Economics Charles Mason said.
When oil prices go up, gas stations can raise their prices immediately, even if they haven’t actually been hit by the increase yet. But when gas prices fall, they can’t match crude’s drop in value, because they’ve already paid the old price for the gas in their underground tanks.
“Small markets tend to draw those stocks down pretty slowly,” Mason said. “It turns over really rapidly in Denver and Ft. Collins.”
Summer tourism introduces a market pressure, too. In the summer months, traffic is high, and thousands of people pass through Wyoming.
“At this time of the year (winter) there’s just less competition in general across the gasoline market, because you have far less traffic,” Godby said.
Free Markets Aren’t Always Cheap
The gas stations aren’t doing anything nefarious by keeping prices high. They make more money at higher prices, but if the market forced them to compete more, they would, the experts said.
While Douglas’ price differentials are a bit drastic, there are other cities with similar price gaps.
Laramie is significantly cheaper than Cheyenne, and Godby expects this occurs, in part, because more Laramie residents are willing to drive to Ft. Collins to fill up.
If people in Douglas start to show a willingness to leave town for gas, the market would adjust.
University of Wyoming J.E. Warren Distinguished Professor of Energy and Environment Emeritus Tom Crocker said that, with six gas stations, effective tacit collusion isn’t a given in Douglas. It’s possible that one station will eventually try to undercut the others.
“I would expect at some point somebody would be cheating,” he said.
The corporate offices of Loaf ‘n Jug, Conoco, Maverik and Safeway did not respond to requests for comment.