2006 Reports

Signaling and entry deterrence: A multi-dimensional analysis

Bagwell, Kyle

This paper considers a long-standing question in the field of Industrial Organization: Can an incumbent firm price and advertise so as to deter entry that otherwise would be profitable? For the most part, the first economists to consider this question give affirmative answers. Braithwaite (1928) and Robinson (1933) offer early informal remarks in support of the view that advertising has an entry-deterrence effect. Bain (1949) provides an early argument that an incumbent may deter entry by limit pricing (i.e., by pricing below the monopoly price), and Williamson (1963) later develops an analogous argument that an incumbent can deter entry by committing to a low price and a high advertising level. Important early empirical contributions by Bain (1956) and Comanor and Wilson (1967, 1974) offer inter-industry evidence that is broadly consistent with the hypothesis that advertising by established firms generates an entry barrier.