Measuring+market+concentration

Herfindahl-Hirschman Index (HHI)
Perfectly competitive markets are characterized by a large number of firms with tiny market shares whereas a few dominant firms characterize an oligopolistic industry. Most economists use the Herfindahl-Hirschman index (HHI) as a measure of market concentration. The HHI is derived by summing the squared market shares of all the firms in the relative market. The HHI is found by squaring and summing the market shares of all firms in the same relavant market. It varies between 0 and 10,000. When a market is dominated by one firm, the HHI equals its maximum value of 10,000. The HHI takes a value closer to zero when a greater number of firms exist in the market or when the existing firms are more equally sized. The HHI is the preferred method of measurement because it captures the distribution of output among the largest firms in the industry. An industry is considered to be tightly concentrated when the HHI is greater than 1,800. As the market concentration increases, competition and efficiency decrease and the chances of collusion and monopoly increase.

The Department of Justice (DOJ)
The U.S. Department of Justice uses the HHI for evaluating mergers. The U.S. DOJ considers a market with a result of less than 1,000 to be a competitive marketplace a result of 1,000-1,800 to be a moderately concentrated marketplace and a result of 1,800 or greater to be a highly concentrated marketplace. As a general rule, mergers that increase the HHI by more than 100 points in concentrated markets raise antitrust concerns.

Formula
HHI = s1^2 + s2^2 + s3^2 + ... + sn^2 (where sn is the market share of the ith firm). The Herfindahl Index (H) ranges from 1/N to one, where N is the number of firms in the market. Equivalently, the index can range up to 10,000, if percents are used as whole numbers, as in 75 instead of 0.75. The maximum in this case is 100^2 = 10,000.

Sample Questions
1. The HHI is used by which government agency: a. Social Security Administration b. Central Intelligence Agency c. Federal Bureau of Investigation d. Department of Justice (ANSWER: D)

2. A monopolty would have an HHI measure of: a. 1 b. near 10,000 c. around 500 d. near 2,000 (ANSWER: B)