Herfindahl-Hirschman Index (IHH)


The Herfindahl-Hirschman Index (IHH) is a measurement used in the economic study. This focuses on the concentration levels existing in the markets. That is, the number of companies that operate in them and their power or control capacity in them.

Also known as the Herfindahl index, it is an indicator frequently used by rulers or authorities; responsible for maintaining and protecting competitive markets.

This is fundamental, since a large number of economic policies are developed in terms of market competition. So, for example, in the United States, if there is a merger between two companies and the level of the index increases by 100 points, it could be investigated by the corresponding organization.

Like the Lerner Index, it deals with the study of the market power of companies in the market or industry in which they are located. Very commonly both terms are used together.

Calculation of the Herfindahl index

The way in which this index is calculated is by adding the squares of the market shares of the companies in a given sector or market.

Mathematically it is expressed by the following formula, where 's' is the market share expressed as a percentage of company i:

The higher the index, the higher the concentration level we will find and the greater market power of the operating companies.

On the contrary, as it approaches zero, we will find less concentrated markets, and, therefore, with a greater number of operating companies and a lower level of influence.

It is usually considered that around 10,000, we would be talking about a monopoly situation, as we will see below.

Example of the Herfindahl-Hirschmann index

In the bicycle sales market in Madrid we have 10 companies, which share identical market shares. That is to say, quotas of 10%.

What we have done has been to apply the summation. That is, since each quota is 10%, we square 10% of each company and add them.

The final result is 1,000. Consequently, according to the Herfindahl-Hirschman index, we are facing a competitive market.

On the other hand, let's imagine the skateboard sales market in Madrid. A market in which only one company supplies the entire market share. That is, 100%.

In this case, as we can see, it would be, effectively, a perfect monopoly.

In the event that the fees are different, the calculation will be done in the same way.

Suppose there were 3 companies with quotas of 50%, 30% and 20%. We will square each quantity (502 + 302 + 202) and add the results. The result of the operation would be the Herfindahl index.

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