In new research, Eric Dunaway, Ana Espinola-Arredondo, and Felix Munoz-Garcia examine the Herfindahl-Hirschman Index (HHI) as a tool for merger review and show where it diverges from the consumer-surplus and total-welfare standards. In particular, the HHI fails to account for potential efficiency gains.
Competition authorities around the world rely on different tools to assess whether mergers are likely to harm consumers or undermine competitive market structures. In the United States, the Department of Justice and the Federal Trade Commission have long anchored their merger review process in metrics that calculate market concentration—especially the Herfindahl–Hirschman Index (HHI) and its change after the merger (ΔHHI). HHI ranges from zero to 10,000, with zero representing a market of numerous small firms and 10,000 representing pure monopoly. It is calculated by summing the squares of each firm’s market share (expressed as a percent).
The 2023 Merger Guidelines reaffirmed this approach, lowering the HHI and ΔHHI thresholds that trigger closer scrutiny. Yet this reliance on the HHI puts the U.S. at odds with many of its peer jurisdictions, including the European Commission and the United Kingdom’s Competition and Markets Authority. These entities explicitly avoid HHI-based thresholds, which in their simplicity can miscalculate the impact a merger has on welfare outcomes. The divergence raises a critical policy question: are HHI-based screens reliable proxies for evaluating the true welfare effects of mergers, which consider how mergers impact efficiencies, prices, output, and innovation? A pervasive wariness among American courts about the use of highly technical tools further compounds the urgency of this question, which we take up in our new article.
Focusing on market concentration ignores potential cost savings that can be created by allowing firms in the same market to merge, and these cost savings can manifest as both additional profit (producer surplus) for the merging firms along with lower prices for consumers, which increases their consumer surplus. In short, some mergers can make both firms and consumers better off but are challenged by regulators simply because they increase market concentration by more than the allowed threshold.
The U.S. reliance on HHI: a double-edged sword
Projected HHI increases form the backbone of enforcement actions in the U.S. Enforcers used them to successfully argue against mergers between Staples and Office Depot in 1997 and Penguin Random House and Simon & Schuster in 2022. Though, the metric failed to convince the court in Illumina’s acquisition of Grail in 2023.
As our study underscores, the economic rationale for these numerical thresholds is thin. Scholars like Carl Shapiro, and Volker Nocke and Michael Whinston have argued that the theoretical foundations behind specific HHI benchmarks are limited. Nocke and Whinston’s work shows that their calibration remains problematic, rely on industry assumptions, and may be too lax unless efficiency gains exceed five percent or more. This means the numerical thresholds can misclassify mergers if efficiencies or competitive responses differ from those assumptions. More generally, HHI and ΔHHI summarize market shares, not the mechanisms that drive prices or innovation, so concentration measures and prices can move in the same direction, even when one is not causing the other. Relying on concentration alone therefore risks blocking mergers that benefit consumer surplus and allowing mergers that harm consumer surplus. Recent Stigler Center discussions have highlighted similar concerns, questioning whether concentration metrics alone can capture the complexity of merger efficiencies.
Divergence from consumer surplus
Instead of studying how mergers change concentration, an alternative metric to evaluate the impact of a merger on competition is to predict how it will change consumer surplus or welfare, generally measured by expected changes to prices, supply, or innovation. Our paper provides a systematic comparison between merger decisions under the HHI criterion and those under a consumer surplus criterion that measures the impact of a merger on consumer prices. We distinguish between false positives—mergers approved by the HHI criterion but harmful under the consumer surplus criterion—and false negatives—mergers rejected by HHI but beneficial to consumers.
False positives are particularly likely when the merging firms have small pre-merger market shares and the merger itself generates minimal cost reductions. In these cases, an HHI-based screen may view the merger as harmless, even though the efficiency gains may be too small to offset potential price increases, quantity reductions, and harms to innovation.
False negatives, by contrast, arise most often when a merger would significantly increase market concentration but also delivers substantial cost reductions. In such cases, HHI screens automatically flag the merger as risky, even though the efficiency effects may dominate and ultimately benefit consumers.
The central insight is both intuitive and policy relevant: HHI-based merger evaluations work reasonably well only when the merger’s efficiency effects fall within an intermediate range. Beyond that range, concentration metrics can produce misleading signals and fail to anticipate large efficiencies that can significantly reduce prices for consumers.
Our findings contribute to a growing empirical and theoretical literature emphasizing that concentration is an imperfect proxy for merger harms. ProMarket has echoed this point in its discussions of merger guidelines: concentration screens are useful, but downstream effects depend on industry-specific conditions, such as competitive dynamics and cost structures.
Mergers which improve efficiency
Concentration-based screens systematically ignore efficiency effects, even though economic theory and empirical evidence indicate that efficiencies can be substantial in many industries.
For example, research by Dario Focarelli and Fabio Panetta on the Italian deposit market shows that mergers among banks can lead to long-run improvements in efficiency that ultimately benefit depositors. Similarly, recent work by Mert Demirer and Ömer Karaduman finds meaningful efficiency gains in U.S. power plant mergers. Cost-reducing synergies are not mere academic hypotheticals—they have measurable welfare impacts in real markets. Yet under both the HHI and ΔHHI criteria, such mergers may be blocked even when they enhance consumer surplus.
Use of ΔHHI can be even more restrictive than HHI itself, as it not only looks at the market concentration, but the change in concentration due to the merger. In our model, ΔHHI approves mergers only when both the merging firms’ market shares and their cost reductions are small, as these are the only types of mergers which do not increase the HHI by more than the allowed threshold under current regulation. Consequently, ΔHHI screening generates a high frequency of false negatives, systematically rejecting mergers that would increase consumer surplus. The only mergers for which ΔHHI reliably aligns with the consumer surplus criterion are those with negligible cost reductions, where both screens agree that the merger provides no consumer benefit.
Total welfare vs. consumer surplus standards
Consumer surplus is not the only measure of welfare. Total welfare includes producer welfare and counts gains in efficiencies to the merging firms as beneficial in themselves. Our analysis shows that a total welfare criterion is naturally more permissive: mergers that reduce costs but increase prices may still improve total welfare if efficiency gains are sufficiently large. Consequently, using total welfare rather than consumer surplus increases the rate at which mergers are approved.
False positives disappear when total welfare replaces consumer surplus as the benchmark, as mergers that decrease welfare would also not be profitable to the merging firms, and thus not proposed in the first place. However, false negatives increase, because HHI continues to flag high-concentration mergers even when they generate substantial efficiency gains that raise overall welfare.
The role of economies and diseconomies of scale
For completeness, we also consider non-linear cost functions—specifically diseconomies and economies of scale. This helps us disentangle situations where the shape of the cost function changes post-merger and how that interacts with incentives and regulatory assessments.
Under diseconomies of scale, as firms produce more, their costs grow faster than their output, which puts larger firms at a disadvantage relative to the situation where costs are linear. As a result, merged firms have strong incentives to reduce their output to benefit from lower average costs. This output reduction harms consumers, as they typically must pay a higher price for fewer units of the product, and their consumer surplus decreases. This decrease in consumer surplus makes the consumer surplus criterion stricter.
At the same time, this incentive for the merged firm to reduce their output means less market share for the merged firm, which means the HHI increases less in this situation, and HHI-based criteria becomes more permissive. Diseconomies of scale thus tend to generate more false positives. Following parallel logic, economies of scale make the consumer surplus criterion more lenient and HHI stricter, giving rise to more false negatives.
Conclusion
Our findings show that while HHI-based thresholds provide a convenient screening tool, they may fail to capture the true welfare effects of mergers. By overlooking efficiency gains and focusing narrowly on concentration, these metrics can misclassify mergers that help consumers and the broader economy. A more effective policy approach would pair concentration measures with evidence on efficiencies and pricing incentives, ensuring merger review aligns with actual competitive outcomes.
Authors’ Disclosures: The authors report no conflicts of interest. You can read our disclosure policy here.
Articles represent the opinions of their writers, not necessarily those of the University of Chicago, the Booth School of Business, or its faculty.
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