Measuring Market Structure. Concentration ratios
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Measuring Market Structure
We have seen that the two polar extremes of market structure are monopoly, with one firm, and perfect competition, where there are many firms. Plus, we saw that the perfect competition situation was more efficient in the sense that total surplus for producers and consumers together was maximized.
In the real world of business we see the number of firms varies from industry to industry. In an attempt to find a numerical measure to indicate which industries are more like monopoly and which are more like competition, concentration ratios were devised.
Concentration ratios typically use percentage of output produced as the concept used in the numerical measure.
The closer the HHI is to 10,000 the more the industry is like a monopoly. The closer to 0 the more the industry is like a competitive industry.
Issues with CR4 or HHI
How do we define a market? At issue is how narrow or broad do we define the industry. Is aluminum foil and waxed paper in the same market? What about that plastic wrap that gets all stuck together before you cover the food? Should that be included with the aluminum foil and waxed paper?
The relevant geographical market also has to be settled. These issues have to be settled before we can even calculate the CR4 or the HHI.