DYNAMIC PRICING STRATEGIES IN COMPETITIVE RETAIL MARKETS

Abstract

In markets with minimal product differentiation, a firm's pricing strategy is essential to achieve its objectives. In competitive environments, instead of seeing prices converge to marginal cost, there is a noticeable variation in prices across different retailers and over time due to their dynamic pricing strategies. A considerable amount of research is built on analytical models that depend on a static market framework, viewing market conditions as stable and unchanging, where firms employ mixed strategies in equilibrium. However, real-world market conditions are quite dynamic and experience ongoing fluctuations because of external shocks. Additionally, the role of mixed strategies in explaining specific pricing paradigms in such markets is limited. Given that competitive markets are highly dynamic, this thesis aims to address the following questions: i) How does retailer pricing react to external cost shocks in a dynamic and competitive market? ii) In such markets, what pricing paradigms or routines are followed by retailers to adjust prices over time? The first paper in this thesis examines the impact of two specific external shocks on retailer pricing in the retail gasoline market. We show that external shocks such as wholesale price increases and a carbon tax directly and indirectly affect retailer pricing. The direct effect of both results in higher prices charged by retailers. However, the indirect impact of these shocks works in contrasting ways. The imposition of the carbon tax increases consumers’ search intensity, thereby making the market more competitive, while increases in wholesale prices have the opposite effect. The second paper in the thesis studies the pricing paradigms or routines followed by retailers to adjust prices in the gasoline market. We first evaluate what constitutes the critical dimensions of retailers’ pricing paradigms and find that they are price level, price variance, and price adjustment frequency. We then identify three typical pricing paradigms in the gasoline market, going from high price, stable paradigms to low price, very volatile paradigms. We further find that the likelihood of retailers adopting a pricing paradigm is associated with gas station and market characteristics.