Economics of Advertising

Advertising is an invasive aspect of modern society. It is hard to look around without coming across advertising. In a way advertising leads to deadweight welfare loss. The money spent on advertising goods does not increase their quality, not does it increase the amount of goods and services in the economy. However, it does cost a lot leading to higher prices for consumers. A rational consumer may well say. ‘ The more a company spends on advertising the more expensive it will be, therefore, heavily advertised goods must offer the worst value’

However, most consumers do not think like this. They think, if the firm can afford to spend alot on advertising it must be good. Therefore, they trust the good to offer a minimum standard of service.

Nevertheless, it is said advertising does create some benefits. In particular, it helps to improve information for consumers.

Problems of Advertising

• Invasive into modern life. We have no choice but to view advertising.
• Cost which ultimately leads to higher prices
• Creates Barriers to Entry. Why do Coca Cola and Pepsi spend so much on advertising? Surely, people know what coca cola is by now. One reason is that by spending so much on advertising it makes it very difficult for new firms to enter the market. They cannot compete with Coca Cola’s advertising budget, so they are discouraged from entering the market. Advertising is an example of a sunk cost (non recoverable cost) and barrier to entry.

Advantages of Advertising.

• Increases Information
• Consumers like buying goods where they feel they can rely on a minimum standard. They may not be buying the best value goods, but, at least they know they will not be buying a dud.

• Profitability of firms