Advertising and the Theory of the Firm

However, the above mentioned market structures are very rare in practice. In reality there mostly exist imperfect competition such as monopolistic competition and oligopoly. In these structures most of the firms do compete very aggressively against each other and therefore advertising is a very important tool. Monopolistic competition is a structure with quite a large number of firms. Each firm has an insignificantly small share of the market. In a monopolistic competition, firms are quite independent. As a result of this, an individual firm is unlikely to affect its rivals to any great extent. In making decisions it does not have to think about how its rival will react. Advertising is used for product differentiation. For example, a hairdresser offers to pluck the eyebrows for free if you get a haircut and advertises this.
Oligopoly is defined as an industry in which there are a few firms. By a few it is meant that the number of firms should be sufficiently small for there to be conscious interdependence, with each firm aware that its future prospects depend not only on its own policies, but also those of its rivals. The firm's products are close substitutes, which is why there is a high and positive cross elasticity of demand. Therefore the firms use lots of advertising to get consumers to buy their products instead of the products of a competitor. That can be seen in the example of the supermarkets, outlined above.
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