Question

a) Outline Hannah and Kay’s (1977) general criteria for a concentration measure to reflect the most important characteristics of the firm size distribution.10 marks

b) Explain the advantages and disadvantages of the n-firm concentration ratio as a measure of seller concentration. 10 marks

Answer 1

a) They have suggested a number of general criteria for a concentration measure to reflect the most important characteristics of the firm size distribution mentioned below:-

1. Suppose there are 2 industries named as A and B that have equal number of firms. A should be rated as more highly concentrated than industry B if the firms' cumulative market share is greater for industry A than for industry B at all points in the size of distribution. This is possible when the firms are ranked in descending order of size.

2. A transfer of market share from a smaller to a larger firm should always increase concentration.

3. There should be a market share threshold such that if new firm enters the industry with a market share below the threshold, concentration is reduced and vice versa. If an incumbent firm with a market share below the threshold exists from the industry, concentration is increased.

4. If two incumbent firms are merged then it should always increase concentration.

This was the theroritcal part.

B) The advantages of concentration ratio as a measure of seller concentration are mentioned below:-

1- Shows degree of competition- It is useful in showing degree of competition. For example- if the five-firm concentration ratio rises from 40% to 60% , it will indicate fall in competitive pressures but lead a higher prices for consumers.

2- Indication of monopoly power- A firm with more than 25% market share has the monopoly according to the legal definition in UK. So it gives the advantage to the firm to have an important market position.

3- provide regulatory oversight- suppose if there is a three firm concentration ratio of more than 80%,then there is a greater scope for collusion and abused of monopoly power. That's why government may need to use a regulator to check monopoly power isn't being abused. In this way it becomes advantage for the government.

The disadvantages of n-firm concentration ratio as a measure of seller concentration are mentioned below:-

1- Not east to decide the width and depth of the market- An evaluatuve point to the use of the concentration ratio is that there may be problems defining the market. If a competition watchdog used the ratio to measure whether or not a firm is defined as a monopoly (if the ratio produces a result greater than 25%) it would be diffcult to decide the width and depth of the market.for example - watchdog while trying to identify the market share of facebook inculde photo sharing websites but not includr the phone apps.

2- Misleading result- sometimes also the concentration ratio may provide a misleading result. For example- If we are told that the 5-firm concentration ratio is 90% , this may mean that one firm has 80% of the market and other four firms have the remaining 10% share. This is a worse sitaution than if all firms had an 18% share each. Therefore it would be difficult to conclude the situation of the market based only on the results of the concentration ratio without more information.