Andy Morriss and Don Boudreaux explain the consequences of the fragmented market for gasoline in the United States (gated):
For most of the 20th century, the United States was a single market for gasoline. Today we have a series of fragmentary, regional markets thanks to dozens of regulatory requirements imposed by the federal Environmental Protection Agency (EPA) and state regulators. That's a problem because each separate market is much more vulnerable than a national market to refinery outages, pipeline problems and other disruptions. ...
The role of regulators in fuel formulation has become increasingly complex. The American Petroleum Institute today counts 17 different kinds of gasoline mandated across the country. This mandated fragmentation means that if a pipeline break cuts supplies in Phoenix, fuel from Tucson cannot be used to relieve the supply disruption because the two adjacent cities must use different blends under EPA rules.
To shift fuel supplies between these neighboring cities requires the EPA to waive all the obstructing regulatory requirements. Gaining permission takes precious time and money. Not surprisingly, one result is increased price volatility.
Another result: Since competition is a key source of falling gas prices, restricting competition by fragmenting markets reduces the market's ability to lower prices.
Jonathan Adler comments:
While most of the fuel standards were adopted in the name of the environmental protection, many are actually the result of special interest pleading. Producers of various products, ethanol in particular, sought fuel content mandates or performance requirements that would benefit their particular product. (I detailed part of this history in “Clean Fuels, Dirty Air,” in Environmental Politics: Public Costs, Private Rewards (Greve & Smith eds. 1992).) Worse, some of the content requirements are irrelevant for new cars due to modern pollution control equipment. Federally imposed boutique fuel requirements have outlived whatever usefulness they ever had.
The market for gasoline is often characterized as a Bertrand oligopoly because of the standardized nature of the product. In Bertrand markets, because there is no product differentiation, firms compete in price, driving price down to marginal cost. That's a good approximization when we're talking about local/state gasoline markets, but not when we have a market that's fragmented because of regulatory differences between states that results in product differentiation. Because of the fragmentation, gasoline providers between states are not selling identical products and that reduces the price competition in the market. We would expect to see the biggest difference in prices between gasoline stations near state borders, especially with wildly different regulations that result in a lot of product differentiation.
My family and I travel to northern Iowa a lot, and it is always the case that gasoline prices in stations in Iowa are a dime to fifteen cents cheaper than across the border in Minnesota (I'm going from memory here). Part of that is no doubt due to tax differences, but it could also be due to differences in regulation.