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Advertising and Limit Pricing

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  • Kyle Bagwell
  • Garey Ramey

Abstract

We enrich Milgrom and Roberts' (1982) limit-pricing model to allow an incumbent to signal his costs with both price and advertisements. Our fundamental result is that a cost-reducing distortion occurs, in that the incumbent behaves as if there were complete information but his costs were lower than they are. Preentry price is therefore distorted downward, and demand-enhancing advertising is distorted upward, as a consequence of signalling. If advertising is a purely dissipative signal, it is not used, nor therefore distorted. Recent refinements of the sequential equilibrium concept are featured.

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Bibliographic Info

Article provided by The RAND Corporation in its journal RAND Journal of Economics.

Volume (Year): 19 (1988)
Issue (Month): 1 (Spring)
Pages: 59-71

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Handle: RePEc:rje:randje:v:19:y:1988:i:spring:p:59-71

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References

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  1. Kyle Bagwell, 1987. "Introductory Price as a Signal of Cost in a Model of Repeat Business," Discussion Papers 722, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
  2. Nelson, Phillip, 1970. "Information and Consumer Behavior," Journal of Political Economy, University of Chicago Press, vol. 78(2), pages 311-29, March-Apr.
  3. Milgrom, Paul & Roberts, John, 1986. "Price and Advertising Signals of Product Quality," Journal of Political Economy, University of Chicago Press, vol. 94(4), pages 796-821, August.
  4. Nelson, Philip, 1974. "Advertising as Information," Journal of Political Economy, University of Chicago Press, vol. 82(4), pages 729-54, July/Aug..
  5. Paul Milgrom & John Roberts, 1998. "Limit Pricing and Entry Under Incomplete Information: An Equilibrium Analysis," Levine's Working Paper Archive 245, David K. Levine.
  6. Butters, Gerard R, 1977. "Equilibrium Distributions of Sales and Advertising Prices," Review of Economic Studies, Wiley Blackwell, vol. 44(3), pages 465-91, October.
  7. Salop, Steven C, 1979. "Strategic Entry Deterrence," American Economic Review, American Economic Association, vol. 69(2), pages 335-38, May.
  8. Kihlstrom, Richard E & Riordan, Michael H, 1984. "Advertising as a Signal," Journal of Political Economy, University of Chicago Press, vol. 92(3), pages 427-50, June.
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Citations

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Cited by:
  1. Doh-Shin Jeon & Joel Shapiro, 2004. "Downsizing, Job Insecurity, and Firm Reputation," Working Papers 144, Barcelona Graduate School of Economics.
  2. Govindan, Srihari & Wilson, Robert B., 2008. "Decision-Theoretic Forward Induction," Research Papers 1986, Stanford University, Graduate School of Business.
  3. Cesaltina Pires & Sílvia Jorge, 2012. "Limit pricing under third-degree price discrimination," International Journal of Game Theory, Springer, vol. 41(3), pages 671-698, August.
  4. Kyle Bagwell & Robert W. Staiger, 1988. "Private Cost Information and the Multinational Enterprise," NBER Working Papers 2657, National Bureau of Economic Research, Inc.
  5. Srihari Govindan & Robert Wilson, 2007. "On Forward Induction," Levine's Bibliography 321307000000000788, UCLA Department of Economics.
  6. Bagwell, Kyle, 1992. "Pricing to Signal Product Line Quality," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 1(1), pages 151-74, Spring.
  7. Andrea Mantovani & Giordano Mion, 2006. "Advertising and endogenous exit in a differentiated duopoly," LSE Research Online Documents on Economics 42665, London School of Economics and Political Science, LSE Library.
  8. Claude D. Fluet & Paolo G. Garella, 1995. "Advertising as a Signal of Quality, A New Explanation," Working Papers 231, Dipartimento Scienze Economiche, Universita' di Bologna.
  9. Wang, Shinn-Shyr & Stiegert, Kyle W., 2006. "The Duopolistic Firm with Endogenous Risk Control: Case of Persuasive Advertising and Product Differentiation," Staff Paper Series 496, University of Wisconsin, Agricultural and Applied Economics.
  10. Kyle Bagwell, 1991. "Competitive Limit Pricing Under Imperfect Information," Discussion Papers 954, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
  11. Bagwell, Kyle, 1987. "Introductory Price as a Signal of Cost in a Model of Repeat Business," Review of Economic Studies, Wiley Blackwell, vol. 54(3), pages 365-84, July.
  12. John G. Riley, 2001. "Silver Signals: Twenty-Five Years of Screening and Signaling," Journal of Economic Literature, American Economic Association, vol. 39(2), pages 432-478, June.
  13. Fruchter, Gila E. & Messinger, Paul R., 2003. "Optimal management of fringe entry over time," Journal of Economic Dynamics and Control, Elsevier, vol. 28(3), pages 445-466, December.
  14. Victor Tremblay & Stephen Polasky, 2002. "Advertising with Subjective Horizontal and Vertical Product Differentiation," Review of Industrial Organization, Springer, vol. 20(3), pages 253-265, May.

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