Should bundling agreements between rival firms involve persuasive advertising differentiation?

Abstract

This paper analyzes if a bundling agreement between separate sellers, consisting of price differentiation between single- and joint-product consumers, should also involve persuasive advertising differentiation (AD). Since AD allows firms to target separately each type of consumers, it would be expected to be more profitable than a uniform advertising (UA) strategy. Nonetheless, profitability of AD requires an in-depth analysis because of the usual externalities linked to advertising. This question is studied using a duopoly model with heterogeneous consumers, along with persuasive advertising and externalities linked to the rival’s advertising efforts. The comparison of AD and UA in terms of profits and welfare outcomes yields two main results. First, AD delivers higher profits than UA if products are complementary, independent or moderate substitutes. However, UA becomes more profitable than AD if the degree of substitutability between the products is sufficiently high. Second, when AD yields higher profits, consumers have less surplus, and social welfare can be either smaller or greater than under UA. By contrast, if UA is a more profitable option, consumer and total surpluses are greater than under AD