A Cluster Analysis of Petrol Profit Margins across Various Regional and Urban Locations in Australia

By Valadkhani, Abbas; Chen, George et al. | Australasian Journal of Regional Studies, January 2014 | Go to article overview

A Cluster Analysis of Petrol Profit Margins across Various Regional and Urban Locations in Australia


Valadkhani, Abbas, Chen, George, Anderson, John, Australasian Journal of Regional Studies


1. INTRODUCTION

The present study is one of the few attempts to examine the spread between the retail and wholesale prices using disaggregate data as most of the previous empirical studies on petrol prices in Australia utilised mainly national and/or state level data (see inter alia Donnelly, 1982; Newman and Kenworthy, 1989; Samimi, 1995; Fatai et al., 2004; Dodson and Sipe, 2007; Hensher and Stanley, 2009; Li et al., 2010; Gargett, 2010). Using a unique database, this study provides a cross-sectional comparison of retail profit margins using a hierarchical cluster analysis to determine whether or not the observed large variations in petrol margins can be described as 'excessive'. As an example, the average difference between retail and wholesale prices of petrol varies from 24.1 cents per litre in Tennant Creek to only 2.4 cents per litre in Mackay during the period October 2007-January 2012. This paper seeks to identify whether such large profit spreads can be explained by the extent of economies of scale and scope, the market size and the associated overhead costs. In other words, is the spread between the retail and wholesale prices high mainly in rural, less-populated and remote areas or is it a ubiquitous phenomenon everywhere?

In order to examine these issues, a cluster analysis is conducted to classify all retail locations into various groups each exhibiting similar magnitudes of gross profit spread and a set of control variables. Due to the unavailability of the data for various petrol stations within each of the 109 retail locations, we use two proxy variables to capture the effects of transport cost and the extent of economies of scale and scope, namely population and the distance between retailers and wholesalers. The major objective of this paper is to identify several clusters in which gross profit margins are relatively comparable. This allows us to analyse whether large existing differences in margins across various locations can be justified against the factors associated with location, cost and the size of the market.

The findings presented here not only contribute significantly to our understanding of substantial regional differences in petrol margins, but also have direct practical implications for motorists and provide a guideline for relevant regulatory authorities across various geographical locations. Instead of the prevailing use of aggregate data, our disaggregated study can lead to an in-depth understanding of competition, or lack thereof, and the extent of profiteering in the petrol market. The location-specific results of this study make price monitoring by regulatory bodies more cost effective as they can readily identify and target price setting in those locations pursuing comparatively higher margins. Hence, this study assists both motorists and regulatory bodies to make more informed and objective assessments of retail profit margins within the identified homogeneous clusters, leading to greater efficiency and transparency of the petrol market.

The rest of the paper is structured as follows. Section 2 presents a succinct review of literature on this topic. Section 3 briefly discusses how we conduct our cluster analysis at a disaggregate level for benchmarking purposes. Section 4 describes the sources and summary statistics of the data employed. Section 5 presents the results of our cluster analysis using 109 cross-sectional observations within a trivariate system. Section 6 discusses the policy implications of the study followed by some concluding remarks in Section 7.

2. REVIEW OF LITERATURE

The fuel consumption-economic activity nexus has been examined extensively in the literature since the 1973 oil embargo. According to Hamilton (1983), fuel price hikes were responsible for the majority of post-war U.S. recessions until the mid-1970s. However, Hamilton's study only focused on periods when the economy was subject to significant upward fuel price movements and controls. …

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