Advertising as a complementary good

Since George Stigler’s paper on information costs (1961), the issue of advertising is widely discussed among economists. For many of them, advertising is a means to reduce consumer’s transaction costs and therefore, to increase demand by decreasing the real price of the product. However, as many advertisements do not provide objective information, some economists see them also as a means to change consumer’s preferences about the product. Therefore a distinction is made between informative and persuasive advertisement: informative ads are perceived as socially useful because they cut transaction costs, while persuasive ads generate artificial, if not lousy, needs (Dixit and Norman, 1978). This approach raises two issues: first, it is nearly impossible to separate informative from persuasive advertising as most messages carry the two aspects; second, from a theoretical point of view, if the consumer has free will, his or her preferences cannot be manipulated by third parties (Stigler and Becker, 1977).

This is why Becker and Murphy (B&M, 1993) uphold that advertising should be seen as a complementary good being positively or negatively valued by the consumer. Advertising is then an informational complement, comparable to a quality surplus or deficit, that helps to better discriminate among consumers: consumers who value more advertising will get more of it attached to the product while others will buy the product according to their valuation of its plain utility. Since the meaning associated with information can have a social value, the information complement may carry network effects increasing the utility of the good with the number of consumers. Such analysis of a meaning value brought by advertising to the product is both in line with the free will consumer hypothesis, and with the change in product utility that publicity can bring.

In their approach, B&M define advertising as giving a “favorable notice” to the good advertised so that an increase in ads raises the marginal utility of this good. They underline that such “notice” can either be paid by the advertiser and given away to the consumer, or sold to him or her through various media channels.

For example sports columns in newspapers provide plenty of notice about local professional teams, even though sports sections are not free to readers, and team owners do not pay for the columns.” (p.946).

Such notice generate additional audience to sporting events, whatever their distribution channel.

Marketers commonly distinguish three kinds of channels: paid media that is used for traditional advertising (TV, radio, Press, etc.); owned media, that is the information delivered by the product itself, by an integrated distributor, by an owned website and all the channels related to it; earned media that is the information published by reviewers or consumers, more and more through social networks (Edelman and Salsberg, 2010). In other words, the information complement associated with the product is not only paid advertising it is the accrued meaning resulting from all media channels. This is why we prefer to call it “mediatisation”. Mediatisation economics consists in getting the most valuable complement at the cheapest cost.

thinkofthat.net

A good illustration is given by the historic launch of the Apple Macintosh by Steve Jobs in January 1984 (Isaacson, 2012, Chapter 15). At that time, Jobs had financed a commercial movie shot by Ridley Scott setting up the myth of the liberating machine. The ad was such a storybook that the machine did not even appear in it. Jobs decided to broadcast it during the Super Bowl, reaching at once 96 million Americans. The ad created a massive expectation enabling Jobs to disclose the product in a theatrical keynote echoed as a global event. In other words, while the paid ad was focussed on persuasion, the informative side was covered by the keynote, which got relayed for free all across the world. This “publishing protocol” became a routine that helped Apple to establish its brand as a powerful context adding value to all the new products marketed by the firm. The innovative genius of Steve Jobs did not only focus on products but also on their mediatisation that catalysed their commercial success.

The multiplicity of media channels and the differences in their pricing schemes underline the importance of external effects in providing the media complement. The quest of such effects does not concern only marketers, but all the talents involved in the product, as well as media professionals and consumers. In the Apple example, the media earned by Jobs’ keynotes are external effects of the initial ad investment. The heuristics of marketing aim at generating the most valuable mediatisation as possible. It is frequently related to the maximisation of the externalities associated with the release investment.

Mediatisation results from a publishing protocol

www.dulwichclassics.com

Schematically, two components contribute to the media complement value: one is the myth, the story conveyed by the media; the other is the reach, the social coverage of the message. The myth, which starts with the design or the packaging, the visible appearance of the product, relies on a creative work. It adds a universe that can be more or less valued by the consumer. (For instance, Alfred P. Sloan (1965, pp. 272-273) explains how the curvaceous design of the 1929 Buick has been mocked as « the poor Buick enceinte » leading to a pitiful commercial flop.) The social coverage can either be obtained trough paid, owned or earned media. It may generate network or snob effects according to the positive or negative valuation of the number of consumers. In some cases, the buzz corresponding to earned media can get hi-jacked by angry consumers willing to spoil the image of the product.

However, these components are not independent. For instance, the disclosure of the product relates both to the story and to the coverage: the product’s entry into the public sphere, its arrival to the world takes part in its mythology. The delivery of the Macintosh coming after the Super Bowl announcement and brilliantly staged by its creator, is fully part of Apple’s myth. The disclosure sets up a before and an after which has the dimension of an event. If spectacular, such event can be covered and echoed freely through the news. A resounding release establishes both the newness and the coverage of a product whatever its objective innovation.

In other words, mediatisation proceeds from a “publishing protocol” which provides the product – whether material or not – its meaningful complement (Bomsel & al., 2013). We use this expression by analogy with a correspondence protocol, which connects together two identified agents who agree to start an information exchange. A publishing protocol connects an identified emitter to indistinct receivers. It announces the disclosure of a message and establishes its public status. By doing so, it creates a context adding meaning to the published expression. Hence, such protocol has the economic dimension of a creative work: nobody knows in advance what its utility will be and how much it will add to the product. Although a mediatisation is needed to give the product its public status, it can be perceived either as a good or as a bad.

In this process, the information complement (the myth) is embedded in a set of names: the emitter of the expression who can be a single artist, a sportsman, a politician, or a cast, a team, provides a context which adds sense to the expression. It is the role of the publishing protocol to make the emitter identified by the public and to provide his name – in fact, his brand – with a contextual value. A publishing brand can be seen as an informational asset providing the branded expression with a context valued by the consumer. Such context has cumulative properties: its meaning value changes at every occurrence. A football team, where each player gets mediatised at every game, is a contextual asset portfolio (Bomsel & al., 2013).

Once the utility of the myth is tested, many techniques can be used to maximise its social coverage and the sales revenue. Because a “publishing protocol” deals with disclosure, it is also a piece of news. Hence, it can benefit from the externalities of the news echo. In effect, the news is not restricted by copyright and fuel media competition: a sensational event is instantly relayed on all the news channels including social networks (Facebook, Twitter, Instagram, Weibo, Weixin, QQ, etc.). Moreover, the brand value of popular artists attracts audiences on every platform that takes up the news. The importance of such externalities in producing the media complement deserves a specific focus. It will refer to the concept of ecosystem, which we explore in the next post of this series.

In a previous post, I described the success story of Alex Tew who managed to raise $1 million for his university education by selling one million pixels on a web page, at at price of $1 per pixel. In exchange for the pixels that they bought, purchasers had the possibility to display tiny images on them, have these images linked to some URL, and have a message appearing when hovering the cursor over the image.

I took this story as an example of the sort of self-fulfilling prophecies that may result from network effects; as I wrote in the post:

If each potential user expects that many other users will join a particular network, then this network will look very attractive and will indeed attract many users, which will confirm the initial expectations. [Yet] another self-fulfilling prophecy may well work in the exact opposite direction: if users believe that the network will never expand, they will have no reason to join and the network will indeed stagnate…

So, depending on expectations being optimistic or pessimistic, self-fulfilling prophecies may turn into success or failure. The key questions are then the following: Is it possible to generate favorable expectations and if yes, how?

In the case of Alex Tew, as reported by Wikipedia, the deciding factors were a combination of initial investments by friends (in the hope of making the snowball roll) and of sheer luck (unexpected exposure in the media amplified the word-of-mouth):

The first sale, three days after the site began operating [in August 2005], was to an online music website operated by a friend of Tew’s. He bought 400 pixels in a 20 × 20 block. The site was initially marketed only through word of mouth; however, after the site had made $1,000, a press release was sent out that was picked up by the BBC. The technology news website The Register featured two articles on The Million Dollar Homepage in September. By the end of the month, The Million Dollar Homepage had received $250,000 and was ranked Number 3 on Alexa Internet’s list of “Movers and Shakers” behind the websites for Britney Spears and Photo District News.

Alex Tew’s story has inevitably inspired other entrepreneurs. I know at least of two of them as they have taken the pain of contacting me personally to ask for some coverage of their project. To meet their request, I reproduce here the messages that they sent me. The first project is named LogoBrowser:

(November 8, 2013) Dear Professor, I have found your article about Alex Tew and his Million Dollar Homepage and follow-up ideas that you used to write on IPdigIT. I would like to ask you if it is possible to write an article about my startup/project which is based on Tew’s idea? The project is named LogoBrowser and it is an innovative way to promote the strongest brands Logos online! I think that my project has a great potential and needs publicity, which could help press release.

My project is the fruit of intensive work as I was inspired by the idea of creating a distinctive and recognizable place on the internet, with a smart layout and specially designed space for use by the largest possible number of globally and/or locally strong Logos or Logos aspiring to become such.

For advertisers a participation in the LogoBrowser project is a chance to emphasize their presence and succeed in being recognised/distinguished among the prestigious well known brands.

I hope that you will appreciate my idea. And now you can try and find out the potential of the LogoBrowser project visiting our DEMO page at www.demo.logobrowser.com and soon, the main project that is starting in a few days, as you’ll find at www.logobrowser.com.
You can check Us also: www.facebook.com/logobrowser

I would be very grateful for any kind of help.

With regards,
Marcin Gburski (LogoBrowser originator, Poland)

The second project goes by the name of Worldpixel:

(January 31, 2014) Lol i have no friends and i can’t begin my project worldpixel.fr.I hope it’s a great idea and i’m sure that some pixels are going to be sold soon because a pixel cost only 0.01 €.

It’s really cheap and your advertise will be display for life.

Nevertheless it’s a game and i promised to let clue in my post.

So (United kingdom : One of two pixels is free)

Matt

So, I have done my part. I wouldn’t pretend that IPdigIT has the same leverage as the BBC to start a loop of positive feedback and turn these two projects into new success stories. But who knows?

I am very curious to know your views about these two projects and their probability of success.

“Know Thy Customers!”

This is the very first motto of marketing. The idea behind this motto is simple: the more information a firm has about its current and potential customers, the more it can segment its customer base into smaller groups, to which specific prices, product features and ads can be adjusted. Thereby, the firm has the potential to increase not only its sales (by informing customers about – and by making them buy – products that are closer to their needs or tastes), but also the margin it makes on each sale (as customers can be charged prices that are closer to the maximum amount that they are willing to pay).

Up to three or four decades ago, knowing one’s customers was more easily said than done: collecting and processing relevant information was as costly as adjusting the product range and prices on a regular basis. Things are, however, completely different today. The massive deployment of information technologies and of the Internet has indeed equipped firms with unprecedented tools to gather and process detailed information about their potential customers. As a result, achieving an increasingly finer segmentation of customer bases is made not only widely possible, but also commercially feasible.

Targeted advertising

The most visible part is targeted advertising. When surfing the Internet, you must have noticed that the ads you are exposed to are closely connected to pages you visited or to items you bought (or considered buying) in the past. This is of course no coincidence: Internet advertising is increasingly targeted so as to raise the chances that the right person sees the right ad at the right time. Targeting relies on a number of proxies: online web activities of consumers are tracked; mobile web activities too (with the added advantage of localizing consumers); the historical demographics of consumers visiting a particular web page is used to predict this web page access in the future; implied interest is inferred from search words; automated systems select and serve ads on the basis of the content displayed to the user; etc.

Note that targeted advertising is by no means limited to the Internet. For instance, the UK’s two big pay-TV operators will soon start showing targeted ads to viewers in 2013. Similar tools are also transposed to the off-line, brick-and-mortar, world.

Good news for firms, bad news for consumers?

At first glance, all this is good news for firms and, conversely, bad news for consumers. Yet, this claim has to be qualified in at least two ways.

The effects of competition

First, competition forces have to be taken into account. As explained in Belleflamme and Peitz (2010, p. 194),

“In monopolistic industries, more information and a wider range of tariff instruments can only increase the firm’s profits (at the expense of consumer surplus, the effect on welfare being ambiguous). In oligopolistic industries (or in monopoly markets in which the monopolist lacks commitment power), however, it is much less clear whether more information and more instruments translate into higher profits. The positive surplus-extracting effect of price discrimination may be offset by its negative competition-enhancing effect.”

The last sentence deserves some explanations. The “surplus-extracting effect” is the one I described above: by knowing its consumers better, the firm can charge them higher prices (thereby reducing the “consumer surplus”, which is computed as the difference between the maximum price that a consumer would agree to pay and the price that she actually pays). As for the “competition-enhancing effect”, it corresponds to the idea that if a firm can tell its own loyal consumers apart from those of its competitor, it can set lower prices so as to target aggressively the rival’s customer base. As the other firm will act likewise, competition will increase.

Nicola Jentzsch, Geza Sapi, and Irina Suleymanova further develop this issue in an article recently published in the International Journal of Industrial Organization (entitled “Targeted pricing and customer data sharing among rivals”; you can find the working paper version here). They examine the incentives of competing firms not only to use but also to share detailed information about their customers. Their main results can be summarized as follows:

“First, information sharing incentives depend on the type of customer data, more precisely, only data on the flexibility [i.e., the ease with which consumers can substitute one brand for another] of consumers are shared. Second, the incentives to share such data depend on consumer heterogeneity in flexibility. Firms have stronger incentives to share data, when consumers are relatively homogeneous in their reaction to price changes. Third, customer data sharing is most likely to be detrimental to consumer surplus, while the effect on social welfare can be positive.”

So, according to their model, sharing customer data that can be used for price discrimination can turn out to be a profitable strategy for competing firms. As this strategy is likely to harm consumers, the authors advise competition authorities to pay more attention to customer data sharing agreements and to include competitive price discrimination as a possible theory of harm.

Ad-avoidance

The second reservation is that there are two reasons for which consumers may not necessarily suffer from the firms’ increased ability to discover details about them. On the one hand, targeted advertising may increase the relevance of the ads that consumers are exposed to, which is beneficial for them. On the other hand, if the first effect does not work, consumers still have the possibility to use advertising-avoidance tools. This is what Justin P. Johnson examines in an article published in the Spring 2013 issue of the RAND Journal of Economics (“Targeted advertising and advertising avoidance“). He first notes that

“a variety of techniques exist that allow consumers to avoid advertising, from the time-tested ignoring of ads or changing of the channel during commercials to recent innovations such as skipping past ads (while watching content stored on a digital video recorder; DVR), blocking online ads, filtering email, or subscribing to do-not-call, do-not-mail, or do-not- track programs.”

(For a do-not-track program, see for instance www.abine.com). In this context, how does targeted advertising affect market outcomes? Here are the author’s main findings:

“[I]mproved targeting raises the profits of all firms. This is despite the fact that consumers endogenously adjust their advertising-avoidance decisions and that (…) competition may increase for some available ad space.
Consumers do not fare as well. Although they may gain by witnessing more-relevant ads, there are two negative consequences of improved targeting. One is that the number of ads received may increase, which is bad for consumers because, in equilibrium, they tend to disdain marginal ads although they may appreciate inframarginal ones. The other is that, rather counterintuitively, improved information accuracy may lead consumers to receive ads that they prefer less than those that they receive when targeting is less precise.”

Source: www.digitaltrends.com

It seems thus that firms end up benefiting – and consumers end up suffering – from targeted advertising, even if consumers have somehow the possibility to avoid the intrusion of ads. Simon Anderson and Joshua Gans also share this view in their paper entitled “Platform Siphoning: Ad-Avoidance and Media Content” (American Economic Journal: Microeconomics, 2011; you can find the working paper version here). The difference with Johnson’s analysis is that Anderson and Gans also examine the impact of ad avoidance on the provision of content. For an informal account of the findings of this paper, see this blog entry of Joshua Gans on Digitopoly.

What do you think?

Do you see targeted advertising as an invasion of your privacy? If yes, do you already use (or intend to use) some ad-avoidance or do-not-track technology? In contrast, do you consider it as something positive (as it increases the chance that you will be made aware of products that you like), or as a necessary evil (“I have to accept some invasion of my privacy to keep, e.g., Facebook free of charge”)?

Express you own opinion and try to find on the web to which extend others share your opinion.

(You can read past comments here.)

The Bulletin is a magazine for expatriates moving to or living in Belgium. In its issue of July 10, 2008, the magazine picked up a story that had already been reported in the Belgian and international press. The article described a police raid at the fourth floor of the Conrad Brussels hotel, which had been rented by some members of the Nahyan royal family of the United Arab Emirates. These people were accused of exploiting and mistreating their servants.

The hotel management regarded the publication of these reports as “unethical” and decided to cancel its subscription to the magazine. Two other hotels from the same group soon followed suit.

At first glance, this looked like a minor event for the magazine. The three hotels together distributed about 700 copies of the magazine, which amounted to 5 percent of its circulation. Yet, the magazine’s editor in chief, Derek Blyth, declared to the New York Times: “Our financial stability is at stake with such a major response. We’re reeling from the impact.”

Hence, there seems to be a disproportion between the scale of readership loss and the economic consequences for the magazine. Some scholars refer to a vicious “circulation spiral” to describe this phenomenon.

• You are asked to use the theory of two-sided platforms to explain this conundrum.
• Also, what does this story tells you about press freedom (and its price)?

(This post was originally published in French in 2010. Past comments can be found here.)