Advertising and Consumer Search in a Duopoly Model

Abstract

We consider a duopoly in a homogenous goods market where part of the consumers are ex ante uninformed about prices. Information can come through two different channels: advertising and sequential consumer search. The model is similar to that of Robert and Stahl (1993) with two major (and some minor) modifications: (i) a (small) percentage of consumers is fully informed and (ii) less informed consumers do not have to pay a search cost for buying at a firm from which they have received an ad. We derive the symmetric Nash equilibria and show that price dispersion is an essential ingredient of any equilibrium. Despite the similarities in the models, our results differ substantially from those obtained by Robert and Stahl (1993). First, advertising and search are substitutes for a large range of parameters. Second, there is no monotone relationship between prices and the degree of advertising. In particular, it is possible that high prices are advertised, while low prices are not. Third, when the cost of either one of the information channels (search or advertising) vanishes, the competitive outcome arises. Finally, both expected advertised and non-advertised prices are non-monotonic in search cost. One of the implications is that firms actually may benefit from consumers having low (rather than high) search costs.

Keywords: Consumer search, advertising, price dispersion

JEL Classification: D83, L13, M37