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Sherrill Shaffer and Laura Spierdijk

Decades of theoretical and empirical research have contributed numerous ways to measure competition and to compare the competitive impact of alternate regulatory policies and market environments. Several of the most convenient measures, unfortunately, are beset by very serious problems, while none are completely ideal. Faced with an ongoing and undiminished need to assess competition and market power nonetheless, we would advocate a focus on the scant handful of “least objectionable” measures. Among these, the Lerner index and the Rothschild–Bresnahan conduct index together provide complementary, well-established, easily understood measures that relate to policy-relevant aspects of market power according to formal underlying theoretical models of firms and industries. The latter approach is slightly more demanding with regard to data and estimation techniques, requiring nonlinear systems estimation except in a correlation version under additional assumptions; one tradeoff is that the correlation version yields only qualitative (rather than quantitative) conclusions about market power.

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Sherrill Shaffer and Laura Spierdijk

Although the theoretical literature has shown that the Panzar–Rosse H-statistic fails as a measure of market power, it is still a widely used statistic in empirical banking studies. Such studies still rely on the erroneous belief that H > 0 is inconsistent with significant market power. This chapter provides empirical evidence against the latter belief by analyzing a US banking duopoly. We find “competitive” estimates of H but, consistent with a priori expectations, non-competitive outcomes according to an alternate measure of competition, the Lerner index. Moreover, our bank-specific estimates of H are mutually inconsistent, suggesting additional problems with the Panzar–Rosse test.