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Does advertising stimulate sales
or mainly deliver signals?
A multivariate analysis
The main purpose of this article is to empirically examine the Galbraithian hypothesis that
advertising adjusts aggregate demand to the changing industrial development and
consequently stimulates sales. The causal relations between sales and advertising are tested
in the context of a vector autoregressive system using the US aggregate data over the
post-Second World War period. Our empirical results fail to support the Galbraithian
thesis, and suggest instead the presence of a potent reverse causality running from
aggregate sales to advertising. We use the signalling theory to interpret our results.
Advertising expenditures in the USA have dramatically increased from about $31 billion in 1950 (or less than 2% of the nation\u2019s Gross Domestic Product) to more than $168 billion in 1999 (approximately 2.5% of the GDP).1While several factors may account for such a phenomenal growth in advertising, a major culprit is likely to be the
common belief, espoused by Galbraith (1967) and others, that advertising stimulates sales by altering consumers\u2019 behaviour (see Balasubramanian & Kumar 1990).
Galbraith (1967) contends that advertising is primarily a societal response to the needs of highly specialised technologies that require heavy investment which cannot be converted easily to other uses. Once such technology is in place, its maintenance depends on consumers\u2019 demand. Advertising helps manage aggregate demand to fit the needs of industrialised economies. Since the development of the industrial system is rather slow and takes an extended period of time, the Galbraithian hypothesis predicts that the relationship between advertising and aggregate sales is of a long-term nature. Another related issue is that disposable income might intervene between advertising and personal consumption expenditures (Jacobson & Nicosia 1981). When disposable income rises, firms/ advertisers will attempt to attract more household consumption and hence intensify their advertising campaign. Thus, the role of disposable income should be accounted for when studying the dynamic relationship between advertising and aggregate sales (consumption). Hence, Galbraith\u2019s (1967) hypothesis implies that higher personal income from the industrial development yields more advertising, which in turn leads to increased aggregate consumption. However, empirical research does not provide unequivocal support for this proposition (e.g. Solow 1967; Schmalensee 1972; Ashley et al. 1980; Sturgess 1982; Duffy 1991; Chowdhury 1994).
Besides the advertising-to-sales nexus, another plausible presump- tion contends that sales drive advertising rather than vice versa. Researchers who ascribe to this sales-to-advertising linkage include Nelson (1975), Kihlstrom & Riordan (1984), Milgrom & Roberts (1986), Tellis & Fornell (1988), and Abe (1995). Indeed, such a chain of causation is consistent with an advertising\u2013sales ratio rule whereby the advertising budget is decided as a percentage of sales (see Shimp 1997).
In this article, we use recent econometric techniques to investigate the aggregate relationship between advertising and sales in the USA over the period 1948 to 1995. We investigate the long-term nature of this relationship using the Johansen (1991) cointegration test. Contrary to the Galbraithian hypothesis, we do not find any long-term relationship binding advertising, aggregate sales and disposable income. Results from the Granger-causality tests identify a
unidirectional causal relationship running from aggregate sales to advertising, but no feedback is found. This finding appears inconsis- tent with the Galbraithian argument, and we provide a plausible explanation \u2013 signalling theory \u2013 to interpret the results.
The rest of the article is structured as follows. The second section reviews the literature on the relationship between advertising and sales; the third section introduces the data and illustrates the methodology; the fourth section presents the empirical results; the fifth section attempts to provide a logical interpretation in linking the findings to the signalling theory; and the sixth section concludes the study.
The relationship between advertising and sales (consumption) has received considerable attention in the marketing literature. Zanias (1994) observes that a large number of studies on the advertising\u2013 sales nexus may be categorised into two groups. The first group uses the regression approach to model advertising expenditure as an explanatory variable with appropriate dynamics, while the second group of studies employs a Box\u2013Jenkins time-series model. In terms of the levels of aggregation, researchers use different data ranging from the firm level (e.g. Leone 1983) to the national level (e.g. Jacobson & Nicosia 1981; Chowdhury 1994). Alhough disaggregated data at the firm or industry level may be better suited for studying the advertising\u2013sales relationship for specific brands and/or product categories, we believe that aggregate data used in this article have the advantage of providing more stable results.2
Using Australia\u2019s data, Metwally & Tamaschke (1981) find evidence to support the Galbraithian hypothesis, and conclude that advertising intensity has a positive and significant effect on the propensity to consume. Peel (1975) also reports similar evidence for the UK, but Sturgess (1982) derives contradictory results from similar data. As for the US data, Schmalensee (1972) reports evidence in support of the
For example, a McGraw-Hill (1969) study shows that, in terms of the advertising- to-sales ratios, the variation among firms in the same industry is almost as much as between different industries. Note, however, that aggregate data do not provide information on advertising and sales at different stages of the product life cycle.
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