Abstract
In this paper, we study a simple model in which two horizontally differentiated firms compete in prices and targeted advertising on an initially uninformed market. First, the Nash equilibrium is fully characterized. We prove that when the advertising cost is low, firms target only their “natural markets”, while they cross-advertise when this cost is high. Second, the outcome at equilibrium is compared with random advertising. Surprisingly, we prove that firms' equilibrium profits may be lower with targeted advertising relative to random advertising, while firms are given more options with targeted advertising.
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