What Is the Lerner Index?
The Lerner Index is a classic measure of market power introduced by economist Abba Lerner in 1934. It quantifies how much a firm can raise its price above marginal cost, expressed as a fraction of the price itself. A value of 0 indicates a firm with no pricing power (perfect competition, where price equals marginal cost), while values approaching 1 indicate substantial market power, characteristic of a monopoly.
How to Use This Calculator
Enter the product's price (P) — the amount customers actually pay — and the marginal cost (MC) — the cost of producing one additional unit. The calculator returns the Lerner Index along with the price-cost margin as a percentage and the markup over marginal cost.
The Formula Explained
The Lerner Index is defined as:
$$L = \frac{\text{Price} - \text{Marginal Cost}}{\text{Price}}$$
Because price is the denominator, the index is bounded: it equals 0 when price equals marginal cost and rises toward (but never reaches) 1 as marginal cost falls toward zero. Under profit maximization, the Lerner Index also equals the negative inverse of the price elasticity of demand, \(L = -1/E\), linking market power directly to how sensitive customers are to price.
Worked Example
Suppose a firm sells a product for a price of $10 with a marginal cost of $6. The Lerner Index is $$(10 - 6) / 10 = 4 / 10 = 0.4.$$ This means 40% of the price is markup above marginal cost, and the markup over marginal cost is \((10 - 6) / 6 = 66.67\%\). An index of 0.4 indicates meaningful but not dominant market power.
FAQ
What is a "good" Lerner Index? There is no universally good value — it depends on the industry. Higher values simply indicate more pricing power, which may or may not reflect efficiency.
Can the index be negative? Yes, if price is below marginal cost (selling at a loss per unit), the index becomes negative. This is unusual and typically unsustainable.
Does the index account for fixed costs? No. It uses marginal cost only, so it measures pricing power, not overall profitability.
