1. The Four-Firm Concentration Ratio
The four-firm concentration ratio is the percentage of the value of sales accounted for by the four largest firms in an industry. A four-firm concentration ratio that exceeds 60 percent is regarded as an indication of a market that is highly concentrated and dominated by a few firms in an oligopoly. A ratio of less than 40 percent is regarded as an indication of a competitive market—monopolistic competition.
The Herfindahl-Hirschman Index (HHI) is the square of the percentage market share of each firm summed over the 50 largest firms (or summed over all the firms if there are fewer than 50) in a market. If the HHI is greater than 1,800, the market is regarded as being uncompetitive. This measure is used as a guideline by the Justice Department for decisions regarding whether to challenge a merger.
3. Limitations of Concentration Ratios
a. Geographic Scope of the Market
Concentration ratios take a national view of the market but some goods are sold in regional markets (in which case the extent of competition might be overstated) and others in global markets (in which case the extent of competition might be understated).
b. Barriers to Entry and Firm Turnover
Concentration ratios don’t take account of the absence or presence of barriers to entry.