Market concentration

There are various factors that affect the concentration of specific markets which include; barriers to entry(high start-up costs, high economies of scale, brand loyalty), industry size and age, product differentiation and current advertising levels. There are also firm specific factors affecting market concentration, including: research and development levels, and the human capital requirements.[9]

Although fewer competitors doesn't always indicate high market concentration, it can be a strong indicator of the market structure and power allocation.

After determining the relevant market and firms, through defining the product and geographical parameters, various metrics can be employed to determine the market concentration. This can be quantified using the SSNIP test.

A simple measure of market concentration is to calculate 1/N where N is the number of firms in the market. A result of 1 would indicate a pure monopoly, and will decrease with the number of active firms in the market, and nonincreasing in the degree of symmetry between them. This measure of concentration ignores the dispersion among the firms' shares. This measure is practically useful only if a sample of firms' market shares is believed to be random, rather than determined by the firms' inherent characteristics.

Any criterion that can be used to compare or rank distributions (e.g. probability distribution, frequency distribution or size distribution) can be used as a market concentration criterion. Examples are stochastic dominance and Gini coefficient.

Herfindahl–Hirschman Index

The Herfindahl–Hirschman Index (HHI) (the most commonly used market concentration) is added portion of market attentiveness. It is derived by adding the squares of all the market participants[10] market shares. A higher HHI indicates a higher level of market concentration. A market concentration level of less than 1000 is typically seen as low, whilst one of more than 1500 is regarded as excessive.

${\displaystyle H=\sum _{i=1}^{N}s_{i}^{2}}$

Where ${\displaystyle s_{i}}$ is the market share of firm i, conventionally expressed as a percentage,[11] and N is the number of firms in the relevant market.

If market shares are expressed as decimals, an HHI of 0 represents a perfectly competitive industry while an HHI index of 1 represents a monopolised industry. Regardless whether the decimal or percentage HHI is used, a higher HHI indicates higher concentration within a market.[12]

Section 1 of the Department of Justice and the Federal Trade Commission's Horizontal Merger Guidelines is entitled "Market Definition, Measurement and Concentration" and states that the Herfindahl index is the measure of concentration that these Guidelines will use.[13]

Herfindahl-Hirschman Index

https://www.youtube.com/watch?v=jMJCLwBJYnQ

The relationship between market concentration and profitability can be divided into two arguments: greater market concentration increases the likelihood of collusion between firms which, resulting in higher pricing. In contrast, market concentration occurs as a result of the efficiency obtained in the course of being a large firm, which is more profitable in comparison to smaller firms and their lack of efficiency.[23]

Implications of market concentration

A high level of market concentration can lead to a decrease in competition[31] and increased market power for the dominant firms. This might lead to greater costs, less quality, fewer options, and less innovation. Thus, consumers and society may be negatively impacted by large levels of market concentration.

Although, not as common as the Herfindahl–Hirschman Index or Concentration Ratio metrics, various alternative measures of market concentration can also be used.

(a) The U Index (Davies, 1980):

${\displaystyle U=I^{*a}N^{-1}}$ where ${\displaystyle I^{*}}$ is an accepted measure of inequality (in practice the coefficient of variation is suggested), ${\displaystyle a}$ is a constant or a parameter (to be estimated empirically) and N is the number of firms. Davies (1979) suggests that a concentration index should in general depend on both N and the inequality of firms' shares.

The "number of effective competitors" is the inverse of the Herfindahl index.

Terrence Kavyu Muthoka defines distribution just as functionals in the Swartz space which is the space of functions with compact support and with all derivatives existing. The Media:Dirac_Distribution or the Dirac function is a good example.

(b) The Linda index (1976)

${\displaystyle L={\frac {1}{N(N-1)}}\sum _{i=1}^{N-1}Q_{i}\left[{\frac {n-i}{i}}\right]\left\vert {\frac {CR_{i}}{CR_{n}-CR_{i}}}\right\vert }$

where Q_i is the ratio between the average share of the first ${\displaystyle i}$ firms and the average share of the remaining ${\displaystyle N-i}$ firms and ${\displaystyle CR_{i}}$ is the concentration coefficient for the first ${\displaystyle i}$ firms. Although it doesn't capture the peripheral firms like the HHI formula, it works to capture the "core" of the market, and masure the degree of inequality between the size variable accounted for by various sib-samples of firms. This index, does assume pre-calculation on the users' behalf to determine the relevant value of ${\displaystyle CR_{i}}$[35] However, there is little empirical evidence of regulatory usage of the Linda Index.

(c) Comprehensive concentration index (Horwath 1970):

${\displaystyle CCI=s_{1}+\sum _{i=2}^{N}s_{i}^{2}(2-s_{i})}$

Where s₁ is the share of the largest firm. The index is similar to ${\displaystyle 2{\text{H}}-\sum s_{i}^{3}}$ except that greater weight is assigned to the share of the largest firm. When compared to the HHI index, it does present some advantages, such as giving more weight to the quantity of small firms, however the arbitrary choice to only include the absolute value of one firm has led to criticism over its accuracy and usefulness.[36]

(d) The Rosenbluth (1961) index (also Hall and Tideman, 1967):

${\displaystyle R={\frac {1}{2\sum is_{i}-1}}}$ where symbol i indicates the firm's rank position.

The Rosenbluth index assigns more weight to smaller competitors when there are more firms present in the marketplace, and is sensitive to the amount of competitors in the market, even if there is a small amount of large firms dominating. Its coefficients and ranking are similar to results produced through the use of the Herfindahl-Hirschman Index.[36]

(e) The Gini coefficient (1912)

${\displaystyle G=1-\sum _{i=1}^{N}S_{i}{\frac {(2i-1)}{N}}}$

The Gini coefficient measures the difference between firms' sizes without including the number of firms operating in a market. This is known as a relative concentration measure and differs from absolute concentration measures (like the Rosenbluth index) which includes the number of firms and firms' distribution sizes. It is used in conjunction with the Lorenz curve. Originally, the Lorenz curve measured the inequality of income distributed with a population and ranked individuals from highest to lowest earnings.[37] Therefore, in this context the Gini coefficient is located between the 45° line representing an equal distribution of income and the Lorenz curve representing the actual distribution of income within the population.[38] In a market concentration context, the Lorenz curve can be plotted ranking firms' market shares from smallest to largest to simulate a concentration curve. The firms’ cumulative percentage shares would remain on the y axis and the cumulative percentage of sellers would remain on the x axis. ${\displaystyle {\frac {(2i-1)}{N}}}$ would the sum of weighted market share located in the area above the concentration curve. The Gini coefficient is 0 when the concentration curve aligns with the 45° line representing a single firm's market share, meaning the market is a monopoly.[37]

• Concentration ratio
• Dominance (economics)
• Gini coefficient
• Herfindahl index
• Horizontal Merger Guidelines
• Lorenz curve
• Inequality of wealth
• Market failure
• Monopoly
• Probability distribution
• Stochastic dominance
• Relative market share

• Bain, J. (1956). Barriers to New Competition. Cambridge, Massachusetts: Harvard Univ. Press.
• Curry, B. and K. D. George (1983). "Industrial concentration: A survey" Jour. of Indust. Econ. 31(3): 203–55
• Shughart II, William F. (2008). "Industrial Concentration". In David R. Henderson (ed.). Concise Encyclopedia of Economics (2nd ed.). Indianapolis: Library of Economics and Liberty. ISBN 978-0865976658. OCLC 237794267.
• Tirole, J. (1988). The Theory of Industrial Organization. Cambridge, Massachusetts: MIT Press.
• Weiss, L. W. (1989). Concentration and price. Cambridge, Massachusetts : MIT Press.

• Department of Justice and Federal Trade Commission Horizontal Merger Guidelines