in the examples above, the equilibria that do not involve full disclosure require a proper
specification of the probability distribution of product types and consumer types. Second,
as shown by
Koessler and Renault (2012), there exists a class of match functions that
are consistent with some horizontal matching, such that the unique outcome is full
information disclosure independent of the probability distribution over types.
To illustrate, consider the following example adapted from
Koessler and Renault
(2012)
. A firm sells a video game whose type is either s
1
or s
2
. Buyers may be ranked
according to how many hardcore or casual players there are in the [0,1] interval, where
a higher t means more hardcore. Matches are depicted in
Figure 4.3. If the consumer is
sufficiently hardcore, she is willing to pay more than a more casual gamer for both games
but prefers s
1
, which is more elaborate. However, the sophistication of game s
1
turns
away a more casual gamer, who therefore prefers s
2
. Because the match with both games
is higher for a hardcore gamer, the expected match is also larger. Hence if no information
is revealed, either the firm sells only to some of the hardcore gamers or it sells to all hard-
core gamers and some casual ones. Then it is fairly easy to see that in the former case firm
type s
1
would deviate from a pooling equilibrium and, in the latter case, firm type s
2
would deviate.
35
There must therefore be full disclosure in equilibrium.
In the above example, the match function satisfies what
Koessler and Renault (2012)
call pairwise monotonicity: it requires that, for any pair of product types and any pair of
consumer types, either both consumer types prefer one product to the other or one
consumer type has a higher match with both products than the other consumer type.
Match value
Casual gamers Hardcore gamers t
Game type s
1
Game type s
2
Figure 4.3 A match value for which product information is always disclosed.
35
For instance, if the firm sells to some casual gamers, then the type who has the lowest match with s
2
among
those who buy is necessarily casual and therefore prefers s
2
. Firm type s
2
if it outs itself can therefore
increase its price without losing customers.
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Handbook of Media Economics
Pairwise monotonicity is sufficient in order for full disclosure to be the only equilibrium
outcome. Furthermore, whenever it does not hold, there exists a probability distribution
of firm and consumer types such that some other equilibrium can arise.
I next return to a discussion of how competition affects the disclosure incentives of
advertisers.
4.3.4.3 Competition and Disclosure of Product Attributes
The work on product attribute disclosure discussed up to this point assumes a monopoly
firm. One may wonder how competition might change the firm’s incentives to disclose
product information. In particular, is there a sense in which it induces more or less infor-
mation disclosure? Note that oligopoly involves two important differences with monop-
oly. First, a firm may choose to reveal information pertaining not only to its own product
but also to that of a competitor, as in
Meurer and Stahl (1994) or Anderson and Renault
(2009)
, discussed in Section 4.3.3. Second, the outcome may depend on whether prices
are chosen simultaneously with product information disclosure or afterward.
36
A first remark that applies quite generally is that it is straightforward to adapt the argu-
ment in
Koessler and Renault (2012) for the existence of a fully revealing equilibrium to
an oligopoly framework. For instance,
Janssen and Teteryanikova (2014) consider a
duopoly model where the firm’s type and the consumer’s type are represented by a loca-
tion on Hotelling’s linear segment. Types of the two firms and the consumer are i.i.d. and
transport costs are quadratic. They show that, whether or not firms are allowed to reveal
each other’s location and whether product information is disclosed simultaneously with
or prior to pricing decisions, there exists a fully revealing equilibrium. The general argu-
ment is that, after any deviation, it is always possible to specify worst-case consumer
beliefs that put all the weight on the least profitable type consistent with the information
disclosed by the firm. It is to be expected that this simple argument carries over to a fairly
general class of oligopoly models.
Given the above remark, the relevant question is whether and when there exist equi-
libria where product information is only partially revealed or not revealed at all. For
instance,
Board (2009) considers a vertically differentiated duopoly with heterogeneous
consumer tastes. He assumes that firms first decide whether to disclose quality and then
choose prices and that a firm can only disclose its own quality. To illustrate, assume that
firm 1’s type/quality is 1 and firm 2’s type/quality is either
s or s, with 0 < s <s < 1. The
consumer’s type is t 2 0, 1½and the match is rs, tðÞ¼st . If the consumer holds passive
beliefs at the pricing stage (meaning she bases her expectation of 2’s quality on the infor-
mation disclosed at the previous stage), then
Board (2009) shows that firm 2’s profit is
concave in its expected quality and is 0 if that expected quality is either 0 or 1. Hence,
36
The case where firms would commit to prices prior to disclosure seems less relevant and, to my knowl-
edge, has not been considered.
159
Advertising in Markets
if s is close enough to 0 while s is close enough to 1, there exists an equilibrium such that
firm 2 does not reveal its quality.
The above result is in sharp contrast with the unraveling result for the persuasion
game. It can be understood as follows. If firm 2’s quality is too close to 0, then it cannot
make much profit whereas if it is too close to 1, there is not enough product differen-
tiation and competition is harsh so its profit is low as well. Firm 2 chooses not to disclose
so its expected quality takes on some intermediate value which yields a higher profit. It
chooses to hide its quality even if it is high in order to benefit from the strategic effect on
firm 1’s price, which is larger if firm 1 faces a competitor with low expected quality.
37
The results would be very different if firms had to commit to a price at the same time as
they disclose quality information. There would then be unraveling as in the monopoly
case: results in
Koessler and Renault (2012) show that, because the match difference
between the products of the two firms satisfies pairwise monotonicity, it is a best response
for firm 2 to disclose its product information.
Consider now the following simple model of a horizontally differentiated duopoly,
which is a stripped-down version of the model studied by
Janssen and Teteryanikova
(2014)
. Each firm is at either end of Hotelling’s product segment with independent
and equal probabilities: s
i
2 0, 1
fg
is firm i’s type i ¼1, 2. The consumer has type
t 2 0, 1½and the match is rs, tðÞ¼R js tj (R is taken to be large enough that the mar-
ket is covered). Firms know each other’s product but the consumer does not. First con-
sider the case where firms cannot resort to comparative advertising so they can only reveal
their own type. Then it is easy to construct an equilibrium where no product information
is revealed and both firms price at zero whether or not price is chosen at the disclosure
stage or after product information has been disclosed. This equilibrium can be sustained
by assuming that, if a firm unilaterally deviates by revealing its own product type, then the
consumer believes with probability 1 that the other firm sells the same product. Since the
other firm is charging zero, the deviating firm cannot earn positive profits.
The more substantial insights from the analysis in
Janssen and Teteryanikova (2014)
concern the case where firms can resort to comparative advertising. First consider the case
where prices are chosen after firms have disclosed product information. Then it is again
possible to sustain a fully pooling equilibrium, although it is very different from the one
above. In this equilibrium, firms do not disclose any information in the first stage and
both charge a price of 1 in the second stage. If a firm deviates to full disclosure of both
product types in the first stage, then they play the full information-pricing game in the
second stage (where the symmetric price is 0 if products are identical or 1 if products are
different). If a firm deviates in the second stage by charging a price different from 1, then
the consumer believes it is located at 0 while the other firm is located at 1.
38
Then, the
37
A similar intuition underscores the analysis in the quality choice setting of Shaked and Sutton (1982).
38
This is only a partial description of the sequential equilibrium that focuses on the most relevant deviations.
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Handbook of Media Economics
best a firm can achieve by deviating is to share the market at a price of 1, which is exactly
what happens in equilibrium.
Things change drastically if pricing and disclosure decisions are simultaneous.
The above equilibrium would not survive because, if both firms happen to sell the
same product, each of them could profitably deviate by revealing product information
and undercutting the other firm. This would yield a profit of 1 as opposed to the
equilibrium profit 1/2. It can be shown that, in any equilibrium, consumers learn
whether products are identical or different. In this simple example, however, this
information may be conveyed through prices alone without any direct product informa-
tion disclosed by firms (price is 0 if products are identical and 1 if they are different).
Janssen and Teteryanikova (2014) show that, with a continuum of product types over
the whole Hotelling segment, the probability that product information is not directly
disclosed is zero. These results show that there is a role for comparative advertising even
with ex ante symmetric firms, because it rules out equilibria where product information is
not revealed (to be contrasted with the results in
Anderson and Renault, 2009,in
Section 4.3.3).
From this discussion, there are no clear theoretical grounds for arguing that compe-
tition induces more informative advertising than monopoly or the reverse. It is still the
case that full revelation may emerge as an equilibrium under very general circumstances.
Existing results suggest that non-disclosure of product attributes is less likely to happen
when the choice of prices is concomitant to the decisions to disclose.
Up to now, I have discussed product advertising assuming that the posted information
is perfectly certified, thanks to some laws against misleading advertising. Yet such laws
cannot possibly apply to all relevant information because it is not always verifiable by
a court. Besides, the legal implementation of such laws is likely to be imperfect.
4.3.5 Misleading Advertising
Once again, Nelson (1974) is an excellent starting point for a discussion of misleading
advertising. Recall that he postulates that a firm cannot certify the advertised information.
Nonetheless he argues that such information can be deemed credible by consumers. As
I have already mentioned, one instance is when the information concerns search char-
acteristics that the consumer can check on her own before purchase. But he also identifies
cases where an experience characteristic may be credibly advertised. In particular, this is
the case according to Nelson if “… consumers’ belief in the truth of that statement does
not increase the profit from initial sales …” (p. 731). I start my discussion of misleading
ads by exploring to what extent these two conjectures are indeed confirmed by the recent
theory on cheap-talk communication. Then I consider the implications of imperfectly
implemented laws on misleading advertising and the possibility that firms indeed make
false claims despite these laws.
161Advertising in Markets
4.3.5.1 Cheap Talk
I start by considering Nelson’s claim that statements regarding search attributes are inher-
ently more credible than those regarding experience attributes. Consider a monopoly
firm selling a product for which the consumer has a price-sensitive demand
dp, s, tðÞ¼Θ
s,t
p, where s is the product’s quality, which is either high, s ¼h,or
low, s ¼‘, and t is the consumer’s type, which is either high, t ¼h, or low, t ¼‘. Further
assume that Θ
h,h
¼6, Θ
h,‘
¼Θ
‘,h
¼2, and Θ
‘,‘
¼1. All types are independent and have
equal probability 1/2. Production costs are zero. If the consumer has perfect information
about quality while the firm only knows the probability distribution of t, then it is readily
verified that the high-quality firm only serves the high-type consumer at a price of 3 and
the low-quality firm charges a price of 3/4 and serves both types. Corresponding profits
are 9/2 for firm type h and 9/16 for firm type ‘. If the product was an experience good
and the consumer did not know the quality as in
Section 4.3.4, the firm could convey no
credible information to the consumer by advertising an unsubstantiated claim about its
quality: a low-quality firm would always claim its quality is high.
Now assume that the consumer must incur a visit cost γ > 0 in order to purchase the
product. If she does, she learns s as well as the price charged by the firm. Furthermore, in
case of a visit, the firm incurs a processing cost ρ > 0, whether the product is sold or not
(
Nelson, 1974 mentions such processing costs as deterrents to mislead consumers for
advertisers of search goods). The firm may post a cheap-talk message in an ad that the
consumer can observe before she decides whether to visit or not. This cheap-talk message
is a claim that s has some value ^s 2 ‘, h
fg
. Now, because the consumer observes quality
before buying, a firm’s profit gross of processing costs is its full information profit. Also
note that no matter how small γ is, a type ‘ consumer never visits the firm if it expects it to
have high quality because she then expects zero surplus. Now the high-quality firm gains
nothing from inducing a visit from a type ‘ consumer but it incurs the processing cost ρ.
By contrast, if ρ is not too large then a low-quality firm prefers to have both types of
consumer visiting and if γ is not too large, a type ‘ consumer visits the firm if it expects
it is low quality, since she expects a price of 3=4ðÞ< 1. Hence there is an equilibrium
where the firm truthfully and credibly reveals its quality in its ad.
39
I now turn to Nelson’s insight concerning the credibility of cheap-talk messages
pertaining to experience goods. He gives the example of a medicine that either cures
athlete’s foot or indigestion. Provided that the potential demand for the two types of
medicine is similar, the firm benefits nothing from making a false claim about its product
(if there are potential repeat purchases as Nelson assumes there are, then it is actually
39
This simple model is adapted from that of Gardete (2013). He also finds that cheap-talk revelation of
quality is possible for a search good but uses a different specification of preferences, such that it is profitable
for a type ‘ firm to be matched with a type ‘ consumer and for a type h firm to be matched with a type h
consumer. He has no processing costs.
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Handbook of Media Economics
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