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Pre-entry advertising, entry deterrence and multi-informational signaling

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  • Weinem, Michael
  • Heil, Oliver
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    Abstract

    Advertising is commonly regarded as a strategic tool to increase demand and steal business from competitors. The present work studies the competitive effects of advertising in a two-period game with incomplete information about the opponent's cost structure. Bagwell and Ramey (1988) showed that deterring entry is possible by signaling lower costs even if the post-entry game is independent of the pre-entry advertising decision. Assuming that pre-entry advertising by an entrant affects the post-entry game, then the incumbent is forced to do more than in the Bagwell/Ramey case to deter entry; he needs to distort costs downwards more extensively. On the other hand, introductory advertising does not facilitate entry if the entrant learns from the signal that competition with the incumbent is unprofitable. In this case, the entrant abstains from entry after performing introductory advertisng. Furthermore, if the incumbent has private information on cost and advertising effectiveness, then he can deter entry by acting as if he had lower production costs and a better advertising effectiveness. In this scenario, entry deterrence is associated with overinvestment in advertising but not with limit pricing, which is a new prediction. The use of multi-informational signals, i.e. pooled information on more than one type of private information transferred by one signal, is methodologically a new development of the classical signaling game.

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    File URL: http://mpra.ub.uni-muenchen.de/35001/
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    Bibliographic Info

    Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 35001.

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    Date of creation: 2010
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    Handle: RePEc:pra:mprapa:35001

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    Related research

    Keywords: advertising; entry deterrence; advertising effectiveness; pre-entry advertising; signaling;

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    References

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    1. Cho, In-Koo & Kreps, David M, 1987. "Signaling Games and Stable Equilibria," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 102(2), pages 179-221, May.
    2. Milgrom, Paul & Roberts, John, 1986. "Price and Advertising Signals of Product Quality," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 94(4), pages 796-821, August.
    3. Alemson, M A, 1970. "Advertising and the Nature of Competition in Oligopoly Over Time: A Case Study," Economic Journal, Royal Economic Society, Royal Economic Society, vol. 80(318), pages 282-306, June.
    4. William J. McNally, 1999. "Multi-dimensional signaling with fixed-price repurchase offers," Managerial and Decision Economics, John Wiley & Sons, Ltd., John Wiley & Sons, Ltd., vol. 20(3), pages 131-150.
    5. Wilson, Robert, 1985. "Multi-dimensional signalling," Economics Letters, Elsevier, Elsevier, vol. 19(1), pages 17-21.
    6. Brown, Randall S, 1978. "Estimating Advantages to Large-Scale Advertising," The Review of Economics and Statistics, MIT Press, vol. 60(3), pages 428-37, August.
    7. Lester G. Telser, 1962. "Advertising and Cigarettes," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 70, pages 471.
    8. Cubbin, John S & Domberger, Simon, 1988. "Advertising and Post-entry Oligopoly Behaviour," Journal of Industrial Economics, Wiley Blackwell, Wiley Blackwell, vol. 37(2), pages 123-40, December.
    9. Schmalensee, Richard, 1983. "Advertising and Entry Deterrence: An Exploratory Model," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 91(4), pages 636-53, August.
    10. James M. Ferguson, 1967. "Advertising and Liquor," The Journal of Business, University of Chicago Press, University of Chicago Press, vol. 40, pages 414.
    11. Thomas, Louis A., 1999. "Incumbent firms' response to entry: Price, advertising, and new product introduction," International Journal of Industrial Organization, Elsevier, Elsevier, vol. 17(4), pages 527-555, May.
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