What is the meaning of a four-firm concentration ratio of 30 percent? 85 percent

Question

What is the meaning of a four-firm concentration ratio of 30 percent? 85 percent? Suppose five firms in industry A have annual sales of 30, 30, 20, 10, and 10 percent of total industry sales. For the five firms in industry B, the figures are 60, 25, 5, 5, and 5 percent. Calculate the Herfindahl index for each industry. If industry B were at&t (60%) and T-Moble (25%) would the Justice Department allow the two firms to merge? Why or why not? If at&t had 20% of the market and T-Moble had 2% would the answer be the same? Why? What was the final outcome?

Explanation / Answer

A four-firm concentration ration of 30 % means the largest four firms in an industry account for 30 % of sales; a four-firm concentration ratio of 85 % means the largest four firms account for 85 percent of sales.

For industry A we have: Herfindahl index = 30^2 +30^2 +20^2 +10^2 +10^2 = 900+900+400+100+100= 2400

For industry B we have: Herfindahl index = 60^2 +25^2 +5^2 +5^2 +5^2 = 3600+625+25+25+25= 4300

The Justice Department wouldn’t allow them to merge because then there would be no competition if the two companies merged together becoming 85% of the industry which ruins the competition allowing them with the price leadership.

If at&t were 20% and t-mobile was 2%, they would be able to merge because then there will be competition within the rivals.

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