“Last” class we talked about:
Summary from last class
Price information, quality information.
To “educate” consumers? provide infor- But how informative is prime–time televi- Outside economics, people tend to think advertising is about changing tastes.
Persuasive versus informative advertising.
Advertising is a big business.
U.S. advertiser collectively pay more than all of the six countries that follow in spend- Second: Japan, Third: Germany.
Advertising provides 50% of revenues of We will study the effect advertising has on prices, entry barriers and consumer welfare.
Search goods (quality can be judged by
Experience goods (quality can be judged
Credence goods (quality cannot be judged,
Informational versus persuasive advertising
Informational advertising: describing prod- uct’s objective characteristics (price, com-pare to rival’s prices, describe features, listuses).
Persuasive advertising: make claims to stim- ulate purchase (cowboy riding into sunset),try and change consumers’ perception (repo-sition brand in product space: Dr Pepper).
Producers of search goods are more likely
Producers of experience goods are more
likely to use persuasive advertising.
Three times more advertising on expe-
Profit–Maximizing Advertising
Advertising is designed to increase the demand Marginal cost of advertising = Marginal benefit More is advertised as the cost of advertising is By 1630 printing allowed wide–scale adver- Then radio and television.
These days even internet.
Effect of Advertising on Welfare
Many social commentators attack advertising.
Yet it might be beneficial for consumers.
Price advertising increases welfare.
Advertising might solve the lemons prob- But, there also might be too much spent on Price advertising increases welfare
Truthful advertising informs consumers where Price advertising lowers market price (through Because it’s costly, firms only advertise when Empirical studies confirm this, sometimes coupled with decline in quality (legal ser- Advertising to solve the lemons problem
Suppose low and high quality goods are indistinguishable at time of purchase (ex- Advertising might solve lemons problem if Repeated interactions necessary.
Once consumers buy the good they will Excessive advertising
When products are differentiated, firm may en- gage in too much advertising (both persuasive Unitl recently little could be said about ef- If advertising “changes” consumers’ tastes, it’s tough to compare pre– and post–advertising Advertising till marginal cost equals marginal At equilibrium, a small decrease in advertis-ing increases welfare.
Too much is spent on advertising (in this model).
Advertising as a barrier to entry
Persuasive advertising can be anticompetitive.
Consumers might fall prey to spurious prod- Potential entrants have to advertise exces- sively to overcome goodwill created by the Depends on how long effects of advertising False advertisement

Source: http://www.sfb504.uni-mannheim.de/~grosskop/teaching/18_ad.pdf

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