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Modest Advertising Signals Strength

Ram Orzach, Per Baltzer Overgaard and Yair Tauman
The RAND Journal of Economics
Vol. 33, No. 2 (Summer, 2002), pp. 340-358
Published by: Wiley on behalf of RAND Corporation
Stable URL: http://www.jstor.org/stable/3087437
Page Count: 19
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Modest Advertising Signals Strength
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Abstract

We reexamine the role of prices and advertising expenditures as signals of quality. Consumers are either "fastidious" or "indifferent." Fastidious individuals value high quality more and low quality less than do indifferent individuals. Then a sensible and robust separating equilibrium exists in which both types set their full-information prices. However, the high-quality firm cuts advertising below the full-information level of the low-quality firm, even if the full-information advertising expenditures of the high-quality firm are larger than those of the low-quality firm. Consumers respond favorably to advertising cuts and correctly identify quality. Hence, modest advertising may signal high quality.

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