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Strategic Advertisement with Externalities: A New Dynamic Approach

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  • Reinoud Joosten
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    Abstract

    We model and analyze strategic interaction over time in a duopolis-tic market. Each period the firms independently and simultaneously choose whether to advertise or not. Advertising increases the own immediate sales, but may also cause an externality, e.g., increase or decrease the immediate sales of the other firm ceteris paribus. There exists also an effect of past advertisement efforts on current sales. The 'market potential' of each firm is determined by its own but also by its opponent's past efforts. A higher effort of either firm leads to an increase of the market potential, however the impact of the own past efforts is always stronger than the impact of the opponent's past efforts. How much of the market potential materializes as immediate sales, then depends on the current advertisement decisions. We determine feasible rewards and (subgame perfect) equilibria for the limiting average reward criterion using methods inspired by the repeated-games literature. Uniqueness of equilibrium is by no means guaranteed, but Pareto efficiency may serve very well as a refinement criterion for wide ranges of the advertisement costs.

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    Bibliographic Info

    Paper provided by Max Planck Institute of Economics, Evolutionary Economics Group in its series Papers on Economics and Evolution with number 2007-02.

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    Date of creation: Apr 2007
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    Handle: RePEc:esi:evopap:2007-02

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    Keywords: advertising; externalities; average rewards; equilibria Length 21 pages;

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    References

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    1. Kydland, Finn, 1977. "Equilibrium solutions in dynamic dominant-player models," Journal of Economic Theory, Elsevier, vol. 15(2), pages 307-324, August.
    2. F. Forges, 2010. "An Approach to Communication Equilibrium," Levine's Working Paper Archive 516, David K. Levine.
    3. Reinoud Joosten & Thomas Brenner & Ulrich Witt, 2003. "Games with frequency-dependent stage payoffs," International Journal of Game Theory, Springer, vol. 31(4), pages 609-620, 09.
    4. Brenner, Thomas & Witt, Ulrich, 2003. "Melioration learning in games with constant and frequency-dependent pay-offs," Journal of Economic Behavior & Organization, Elsevier, vol. 50(4), pages 429-448, April.
    5. Gustav Feichtinger & Richard F. Hartl & Suresh P. Sethi, 1994. "Dynamic Optimal Control Models in Advertising: Recent Developments," Management Science, INFORMS, vol. 40(2), pages 195-226, February.
    6. R. Joosten, 2005. "A small Fish War: an example with frequency-dependent stage payoffs," Papers on Economics and Evolution 2005-06, Max Planck Institute of Economics, Evolutionary Economics Group.
    7. Dockner,Engelbert J. & Jorgensen,Steffen & Long,Ngo Van & Sorger,Gerhard, 2000. "Differential Games in Economics and Management Science," Cambridge Books, Cambridge University Press, number 9780521637329, December.
    8. Prescott, Edward C., 1973. "Market structure and monopoly profits: A dynamic theory," Journal of Economic Theory, Elsevier, vol. 6(6), pages 546-557, December.
    9. Fershtman, Chaim, 1984. "Goodwill and Market Shares in Oligopoly," Economica, London School of Economics and Political Science, vol. 51(23), pages 271-81, August.
    10. Schmalensee, Richard, 1978. "A Model of Advertising and Product Quality," Journal of Political Economy, University of Chicago Press, vol. 86(3), pages 485-503, June.
    11. Reinoud Joosten, 2004. "Strategic Interaction and Externalities: FD-games and pollution," Papers on Economics and Evolution 2004-17, Max Planck Institute of Economics, Evolutionary Economics Group.
    12. Darby, Michael R & Karni, Edi, 1973. "Free Competition and the Optimal Amount of Fraud," Journal of Law and Economics, University of Chicago Press, vol. 16(1), pages 67-88, April.
    13. Nelson, Phillip, 1970. "Information and Consumer Behavior," Journal of Political Economy, University of Chicago Press, vol. 78(2), pages 311-29, March-Apr.
    14. Sugden, Robert, 1995. "A Theory of Focal Points," Economic Journal, Royal Economic Society, vol. 105(430), pages 533-50, May.
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    Cited by:
    1. Reinoud Joosten, 2007. "Patience, Fish Wars, rarity value & Allee effects," Papers on Economics and Evolution 2007-24, Max Planck Institute of Economics, Evolutionary Economics Group.

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