Deceptive Advertising and Consumer Verification (CEIBS Working Paper, No. 007/2020/MKT)

We study the incentive of a firm to provide deceptive information on the value of its product. Consumers take into account the possibility of certain exaggeration or deception in firm’s claims. Therefore they may discount such claims and search for extra information to verify the messages. Such reactions from the consumers would in turn influence the firm’s incentives to conduct deceptive advertising. Based on a simple model we find that a monopoly firm with a low quality product has a stronger incentive to send out a deceptive message when the consumers’ prior belief is favorable to the product. We also investigate the firm’s choice on the format of the message when delivering false claims, i.e., explicit claims or subtle messages. Our result indicates that the direct claims are more persuasive than the subtle claims in a wide range of the parameter space. However, when both formats are effective, deceptions with subtle claims are more profitable to the firm because consumers will have less incentive to conduct the verification. Finally, we found that the presence of an independent information source does reduce the firm’s incentive to make deceptive claims, but it is most influential when the firm has a moderate reputation.