Claude Fluet and Paolo G. Garella

"Advertising and prices as signals of quality in a regime of price rivalry," International Journal of Industrial Organization Volume 20, Issue 7, September 2002, pages 907-30.

JEL codes: L13, D82
Keywords: Quality; Oligopoly; Signaling; Advertising; Regulation

Abstract: This paper reexamines the debate as to whether firms use price or advertising to signal quality and whether advertising has pro- or anti-competitive effects. We show that the signalling theory strongly predicts that advertising signals quality if price rivalry prevails, in contrast to single-firm models. Under price rivalry, price signalling prevails for sufficient inter-brand quality differences; combined price advertising signals must be used when this difference shrinks. From a welfare point of view, advertising leads to lower prices for both the high and low qualities. Finally, we analyze advertising signals in the form of variable rather than fixed dissipative costs.