Advertising and Aggregate Consumption: A Bayesian DSGE Assessment

Aggregate data reveal that in the U.S. advertising absorbs approximately 2% of GDP and has a well-defined pattern over the business cycle, being strongly procyclical and highly volatile. Because the purpose of brand advertising is to foster sales, we ask whether such spending appreciably affects the dynamics of aggregate consumption and, through this avenue, the economic activity. This question is addressed by developing a dynamic general equilibrium model in which households' preferences for differentiated goods depend on the intensity of brand advertising, which is endogenously determined by profit-maximizing firms. Once the model is estimated to match the U.S. economy, it argues that in the long run the presence of advertising raises aggregate consumption, investment, and hours worked, eventually fostering the whole economic activity. We also find that advertising has a relevant impact on fluctuations in consumption and investment over the business cycle. All of the above mentioned effects are proven to depend crucially on the degree of competitiveness of advertising at the firm level.