Political Competition and Advertising as a Barrier to Entry

Abstract

In the industrial organization literature there are few issues as controversial as the relationship between advertising and competition. The protagonists in this debate are those who feel that advertising improves resource allocation and those who argue that advertising is an anticompetitive device that promotes distortions in the efficient allocation of resources. One of the principal arguments that advertising is anticompetitive is based on the view that advertising can be used by established firms to erect barriers to entry into an industry. While this hypothesis has been studied extensively no consensus has been reached on its validity. This paper presents an alternative and novel test of this hypothesis based on a data source previously untapped by researchers in industrial organization. Economic theory predicts that the presence of monopoly power in an economy will distort the efficient allocation of resources. While entry of other firms should eventually eliminate the monopoly (or cartel), the entry process may itself be slowed by the defensive actions of the established firm(s). Firms earning excess profits have an incentive to take actions that deter entry. As Posner [16] has noted, resource distortions generated by efforts to protect monopoly may exceed the welfare loss of an uncontested monopoly. One technique that established firms could possibly use to reduce entry is advertising. Authors such as Bain [2], Comanor and Wilson [5], and Porter [15] have contended that in some industries established firms have a significant advantage in advertising effectiveness over potential entrants. Therefore, they argued that for some types of products, where advertising is an important method of product promotion, advertising can create barriers to entry. Established firms may be able to use advertising to create a barrier to entry because of a fundamental difference between an estalished firm and a potential entrant. Consumers are more familiar with an existing brand than a new brand of a product. This may convey a marketing advantage that enables the existing firms to formulate advertising campaigns that reduce the effectiveness of potential entrants' advertising in stimulating sales. A significant reduction in the ability of entrants to attract customers with advertising can