Lerner Index Calculator
Calculate the Lerner Index L = (P − MC)/P to measure market power.
From 0 (perfect competition) to 1 (pure monopoly), with implied price elasticity of demand.
Measuring market power
The Lerner Index, developed by economist Abba Lerner in 1934, measures a firm’s ability to set price above marginal cost:
L = (P − MC) / P
Where P is the selling price and MC is the marginal cost of producing the last unit. L runs from 0 (perfect competition, where price equals marginal cost) to 1 (pure monopoly extracting maximum surplus). Antitrust regulators and industrial organization economists use it to quantify how much pricing power a firm has in its specific market.
Why this matters
Marginal cost is the floor price below which no firm can profitably operate in the long run. The gap between P and MC is the firm’s markup, and L expresses that markup as a fraction of price. A grocery store selling bread at $3.50 with MC of $3.15 has L = 0.10, modest markup consistent with competitive retail. A pharmaceutical company selling a patented drug for $50 that costs $2 to produce has L = 0.96, extreme market power typical for patent monopolies.
A higher Lerner Index does not automatically mean abuse. It just means the firm faces less competitive pressure on its price. The reason might be patents, brand differentiation, network effects, regulatory barriers, or genuine product superiority. The index measures the outcome (pricing power) without judging the cause.
Connection to price elasticity of demand
A profit-maximizing firm chooses output such that its Lerner Index equals the negative inverse of the price elasticity of demand it faces:
L = −1 / ε_d
Where ε_d is the price elasticity of demand (negative for normal goods). A firm facing elastic demand of ε_d = −5 has L = 0.2, meaning a 20 percent markup. A firm with inelastic demand of ε_d = −1.5 has L = 0.67, meaning a 67 percent markup. This is why monopolists serving inelastic demand (insulin, addictive substances, essential utilities) can charge extreme prices: customers cannot easily walk away.
The relationship works in both directions. If you observe a firm sustaining a high Lerner Index, you can infer that consumers in that market are not very price-sensitive. Conversely, a firm with low L is either in a competitive market or facing very elastic demand.
Typical values by industry
| Industry | Approximate Lerner Index |
|---|---|
| Grocery retail | 0.03 to 0.07 |
| Restaurants | 0.05 to 0.15 |
| Department stores | 0.10 to 0.20 |
| Airlines | 0.20 to 0.40 |
| Branded consumer goods | 0.30 to 0.50 |
| Pharmaceuticals (patent-protected) | 0.50 to 0.90 |
| Regulated utilities | 0.40 to 0.70 |
| Software with strong network effects | 0.60 to 0.95 |
Lerner Index near 1 corresponds to near-pure monopoly with inelastic demand. The pharmaceutical patent system deliberately grants this kind of pricing power for a limited time to incentivize R&D investment. After patent expiry, generic entry typically collapses L from above 0.5 to below 0.1 within a year, sometimes within months.
What L does not capture
The Lerner Index is a static measure of pricing power at a moment in time. It does not capture potential competition: a firm with L = 0.4 in a contestable market (where entry is cheap and quick) faces real pricing pressure from would-be entrants even without actual rivals. Microsoft Windows in the 1990s had a massive Lerner Index but eventually lost share to Apple, Linux, and mobile operating systems that did not yet exist when its L was measured.
It also conflates market power with product differentiation. A firm charging double the cost for a genuinely better product earns its markup through value creation, not market manipulation. The Lerner Index treats both the same way. A premium coffee shop charging $5 for a coffee with MC of $1 has the same L = 0.8 as a monopoly drug company. Whether that markup is “fair” depends on context the index cannot see.
Finally, MC is not directly observable. Accountants report average cost, not marginal cost. Industry studies infer marginal cost from production functions or comparable firms, so reported Lerner Indices are estimates rather than exact measurements.
Antitrust use
US antitrust enforcement does not use the Lerner Index alone. The Department of Justice and Federal Trade Commission combine it with market concentration measures (Herfindahl-Hirschman Index), pricing dynamics, evidence of barriers to entry, and observed conduct. But the Lerner Index does appear in merger reviews: if two firms with combined L of 0.5 propose to merge into a single firm with projected L of 0.8, that is strong evidence of competitive harm.
International regulators (EU Competition Authority, UK Competition and Markets Authority, Japan Fair Trade Commission) use similar multi-factor approaches. Lerner Index is one input among several, not a sufficient test on its own.
Quick interpretation
| L value | Market structure | Pricing power |
|---|---|---|
| 0.00 to 0.05 | Perfect or near-perfect competition | Negligible |
| 0.05 to 0.15 | Monopolistic competition | Modest |
| 0.15 to 0.40 | Oligopoly or differentiated competition | Moderate |
| 0.40 to 0.70 | Strong market power | Substantial |
| 0.70 to 1.00 | Near-monopoly | Dominant |
A Lerner Index of 0.3 means the firm captures 30 percent of its price as markup above marginal cost. Equivalently, the consumer pays 30 percent above the cost of producing the last unit they bought. Over the lifetime of a typical purchase, that markup adds up to substantial transfer from buyer to seller.