The purpose of the example was to illustrate was that in the long term equilibrium, the only food options will be food trucks, cheap+bad restaurants and expensive restaurants. Medium price/quality restaurants die out. Also, food trucks usually only run during the day, leaving residents with the option of either cheap+bad restaurants or expensive restaurants in the evening. That is pretty bad situation that should be avoided.
The purpose of my reply is to explain how there can be equilibrium and competition even in the face of a seeming monopoly.
The critical thing is that threat of competition is as effective as competition when there are low barriers to entry.
"Undercut and then raise prices" is not a terribly creative strategy - no offense, but you are not the first to come up with it, nor will you be the last. Since it is an obvious strategy, it is always a hanging threat to any restaurant or food truck proprietor. Artificially high prices are not a stable long term equilibrium.
If you are so certain that there is a neglected middle in the restaurant market, then open a restaurant and serve medium-quality food at prices a bit higher than medium-quality prices. It seems to me that if the world you posit that we live in exists, that there should be huge profit opportunity in such a market.
Anecdotally, in my travels everywhere I have been has multiple food options. This spans from small towns of a few thousand to large cities. These options tend to span a price range that is reasonable based on income demographics of the locations they are in.
People's preferences are not wrong!
If people no longer want to give patronage to any kind of establishment that establishment is not entitled to continued business.
Under what circumstances should a restaurant go out of business if not these in your opinion?
The long term equilibrium will be that places to eat that attract people's business will continue to flourish.
