Postprint version. Published in International Journal of Industrial Organization, Volume 27, Issue 1, January 1, 2009, pages 60-69. Copyright © 2009 Elsevier. All rights reserved. The definitive version is available at http://dx.doi.org/10.1016/j.ijindorg.2008.04.002.
This paper examines the welfare implications of informative advertising in differentiated product oligopoly markets. The analysis reconciles the conflicting results in previous studies that find advertising to be undersupplied in homogeneous product markets, but oversupplied in differentiated product markets when the degree of differentiation is "small". In equilibrium, purely informative advertising is undersupplied when brands are sufficiently close substitutes and oversupplied when brands are more differentiated. Product differentiation also has welfare implications for the effect of technological change in the advertising sector. In response to an advertising cost innovation, equilibrium prices fall and the market converges to the socially optimal resource allocation for brands that are sufficiently close substitutes, whereas equilibrium prices rise and divergence occurs when brands are more differentiated.