Petrol companies have the market structure of an oligopoly. An oligopoly is a market structure where there are a few dominant firms whose behavior is interdependent. There are a few dominant firms relative to market size, and they each command a large proportion of the market share, thus having strong monopoly power. Examples of petrol companies include Shell, Caltex and Exxon Mobil. Their demand curve is downward sloping, meaning that they are price setters.

Petrol is a homogeneous product, hence the oligopoly is known to be pure or perfect. Theoretically only one firm can prevail, but since the firm’s demand is not perfectly elastic, the firm has price control over its pricing policy. There is a great fear of rivals’ reactions to each …show more content…
Prices in an oligopoly tend to be sticky and rigid. Nonetheless, firms do have some price-setting ability due to their market power.

In a competitive model, there could be price wars or predatory pricing in an oligopoly. However, this is not a preferred means of competition as this means lower profits for all firms in the short run. The firm with the largest minimum efficient scale is likely to initiate them so as to drive rivals out of industry, gain a larger market share and earn higher profits.

In a collusive model, firms may collude to reduce the unpredictability of rivals’ reactions to the firm’s pricing strategies and to increase the profits of the group as a whole. Collusion is a formal or informal agreement among oligopolistic firms on what prices to charge and how to divide the market. Petrol firms may limit competition among themselves through fixed prices and limits on the extent of product promotion or development. However, there is an incentive to cheat ‘secretly’ by increasing output beyond the given quota so as to increase profits above their share of the joint profits. The rise in supply causes prices to fall, affecting all member firms in the agreement. Hence, collusion may seem like a fragile agreement resulting in unstable outcomes, as the objective of the collusion may not be met at the end of the day. Tacit collusion may also occur; a case where unwritten rules of collusive behaviour arise and firms take care not to engage