Behavior-Based Advertising

This paper considers the effect of firms sending advertising messages to consumers based on their past purchase behavior. If past purchase behavior on a product category is positively correlated with a consumer having high preferences in another category, a firm may want to advertise more intensively to those consumers that purchased the former category, if possible. This paper finds that this can lead to lower prices in the initial category if the annoyance of receiving advertising is large, and to higher prices if the annoyance of receiving advertising is not too large, as consumers expect a possible additional surplus from the category affected by behavior-based advertising. If receiving advertising does not yield too much annoyance to consumers, firms end up better off due to both higher prices and the increased demand of better matching of advertising. Behavior-based advertising may also lead firms to sell less in the initial category than without behavior-based advertising, as a way to be able to better target the most valuable consumers. If the consumer annoyance of receiving advertising is large, firms may end up serving only a few consumers initially, as attracting more consumers requires prices that are too low, and the initial consumers are attracted because of the possibility of lower prices in the following period. The paper also investigates the effects of joint behavior-based pricing and advertising, and of different firms benefiting from the purchase information.