Problem:

Suppose that the 6 firms in an industry have market shares of 35%, 20%, 15%, 15%, 10%, and 5%.

1. What is the four-firm concentration ratio in this industry?
2. What is the Herfindahl index for this industry.
3. Suppose another industry has a Herfindahl index of 4000. What can you conclude about the relative competitiveness of these two industries?

Answer:

1. The four firm concentration ratio is measured by the sum of the market shares of the four largest firms. In this example, the ratio is 85% = 35% + 20% + 15% + 15%.
2. The Herfindahl index is computed as the sum of the squared market shares for all firms in the industry. In this example, the index is 2200 = 352 + 202 + 152 + 152 + 102 + 52.
3. Larger index numbers correspond to more highly concentrated industries. Firms in the second industry are likely to have more market power.