Pricing and persuasive advertising in a differentiated market
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Pricing and persuasive advertising in a differentiated market Baojun Jiang 1 & Kannan Srinivasan 2
# Springer Science+Business Media New York 2015
Abstract This paper examines the effects of consumer preferences, firms’ costs, and advertising efficiencies on firms’ pricing and persuasive advertising strategies. We show that as the firms’ horizontal differentiation increases, the firm with a lower value-added product tends to increase persuasive advertising, whereas its competitor tends to reduce advertising. Second, the firm receiving a favorable shock in product valuation will complement the favorable change with additional persuasive advertising rather than reduce advertising spending. Third, an equal improvement in advertising efficiency in the industry will lower the profits for both firms, whereas a decrease in advertising efficiency in the industry can benefit both firms. Fourth, a larger shock that improves a firm’s product valuation or unit cost is more likely to induce higher advertising spending in the industry. Lastly, an exogenous increase in the separation between firms’ product valuations or perceived qualities may actually reduce the price dispersion in the industry. Keywords Competitive strategy . Persuasive advertising . Pricing . Product differentiation . Competition . Game theory
1 Introduction Many demand-side and supply-side factors can lead to shocks in consumers’ preferences, firms’ production costs, or advertising efficiency. For example, surveys reveal Electronic supplementary material The online version of this article (doi:10.1007/s11002-015-9370-1) contains supplementary material, which is available to authorized users.
* Baojun Jiang [email protected] * Kannan Srinivasan [email protected] 1
Olin Business School, Washington University in St. Louis, St. Louis, MO 63130, USA
2
Tepper School of Business, Carnegie Mellon University, Pittsburgh, PA 15213, USA
Mark Lett
that consumers are willing to pay at least 20 % more for service products with a fivestar rating than those with a four-star rating (comScore and The Kelsey Group 2007). The consumer’s valuation for a firm’s product or service may increase if its online reviews are overwhelmingly positive or if the product is endorsed by third parties such as Consumer Reports. The availability of price shocks in complementary products can also influence the consumer’s valuations for the firm’s product. Even actions by nonprofit organizations or governments can generate significant shocks to the consumer’s valuation; for example, if the governments or other organizations create campaigns to promote green causes and car efficiency, the consumers’ valuation for electric or hybrid vehicles may become higher because of the consumers’ increased positive image associated with living sustainably and environmental conscientiousness. Similarly, a firm’s production cost may change due to many exogenous factors such as shocks in labor costs, production input prices, and new government subsidies or tax regulations. This paper examines the effect
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