Macroeconomics The concentration ratio refers to the size of the firms in an industry relative to its size (Investopedia, 2011). The concentration ratio is expressed as a market share. So in this situation, the choice is between two industries -- one has twenty firms with a 30% concentration ratio and the other has twenty firms with an 80% concentration ratio. This means that in the first industry, the top twenty firms have a combined 30% market share while in the second industry the top twenty firms have a combined 80% market share.

Industry A is the one with the 30% concentration ratio. This industry is unconcentrated. In this type of industry, monopolistic competition applies. Firms in the industry compete on the basis of individual strengths, and not all competitors will operate on price competition. If increased demand for the product pushed up the price of goods, in the long run it would be expected that new firms would enter. An unconcentrated...

With higher prices, more firms can produce the good at a profitable level. As a result, new firms would enter the industry in order to absorb the added demand. Over time, the new firms will bring the price down to a new equilibrium point as supply begins to meet demand.
This anticipated price adjustment implies that the concentration ratio will decline if demand increases. More firms are likely to enter the industry if prices rise. However, if demand falls, some firms will exit the industry, increasing the industry concentration.

Industry B. is a concentrated industry. It may still exist in a state of monopolistic competition, but there could be oligopolistic tendencies, depending on the size of the largest competitors. Competitors in this industry -- and consumers -- are likely to be highly price sensitive. Firms therefore are likely to compete on the basis of price, and respond to…