Unit 2.

7:

Market (industry)
concentration
(Additional notes)

Outcomes
Define, explain (problems and examples),
calculate and interpret the:
Concentration ratio (CR)
Herfindahl-Hirschman index (HHI)
Discuss the advantages and critique of the HHI
and CR.
Recalculate the HHI and CR to explain the effect of
merging on the economy given the HHI criteria.
Discuss the shortcomings of concentration
standards.

Defining a market
Determine whether or not a firm is a
monopoly
Is there (and who are the) competitors?

Beware NOT to define to broadly or

narrowly
Might include firms who are not competitors or
exclude firms who are competitors!!!
E.g. how would you define market for Coca-Cola
(carbonated drinks)?

Concentration Ratio (CR)

Percentage of industries sales accounted for by
x number of firms in the industry (e.g. CR4,
CR8)
High CR versus low CR?
Eg. CR4 = 90% versus CR4 = 15%
Can you think of SA examples with high CR?

Problems with CR
Foreign competition
Intensity of competition among firms
Degree of barriers to enter

Herfindahl-Hirschman index (HHI)

Measures the degree of concentration in an
industry. It is equal to the sum of the squares of
the market share of each firm in the industry.
HHI = (S1) + (S2) + (S3).(Sn)
Please make sure that you can calculate the market
share from sales data!

Advantage of HHI over CR4?

Critique of HHI and CR4?
No direct relationship between size and market
power!

What are the advantages of HHI

over CR4
HHI reflects both the distribution of the
market share of the top 4 firms & the
composition of the rest of the market.
HHI allocates a proportional larger weight
to the market shares of larger firms.
Acknowledgement of the larger firms
relative importance in competitive
interactions.

HHI
between:

Concentration

0 999

Unconcentrated
industry /
competitive
industry
Moderatly
concentrated
industry
Highly
concentrated
industry
Monopoly

1 000 1
800
1 800
9 999
10 000

Change in HHI
in case of
merger:
No competitive
concern

> 100 = raises

competitive
concern
> 50 = raises
competitive
concern

Example:
Firm

Sales

Market
share (%)

24000

15

19200

12

17600

11

16000

10

12800

11200

11200

9600

9600

9600

9600

9600

CR4 =
HHI =

HHI if merger = 2 x market

share A x market share B

Problems with concentration

measures
The competition of imports are ignored
Use national data domination in small
areas are not considered
Entry only current firms are being
considered
Competition is not 1 dimensional
- Indirect substitutes are just as important as
direct substitutes