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04/22/2015

Should We Outlaw Advertising?


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Megan McArdle, a libertarian-oriented commentator on economics, recently recalled her reaction to a proposed class-action suit of the early-2000s dealing with fast-food companies’ impact on public health.[1] McArdle challenged an author involved in the anti-obesity cause to point to any research demonstrating that the restaurant chains’ advertising induced children to increase their consumption of fast food. 

The question confused the author, who simply assumed that corporations would not spend millions of dollars on advertising unless it increased sales.  McDonald’s does not, however, advertise with an eye toward convincing kids to eat more fast food.   The goal is rather to persuade them to eat it at McDonald’s (NYSE: MCD) instead of Burger King or some other chain.  In general, advertising is better at stimulating specific demand (brand selection) as opposed to primary demand (the decision to consume).

This point was emphasized in the mid-20th century by critics of advertising, which at that time was mired in political controversy, much as the financial industry is today.  It became an article of faith among many economists that because advertising did nothing to increase overall consumption, it represented a waste of resources. 

A Startling Breakthrough

The stage was thus set for a memorable homework assignment in economics class at Henry Ford High School in Detroit in 1970.  Our instructor, Mr. Kraus, brought great credibility to his teaching, based on his practical experience in cost studies at General Motors (NYSE: GM).  “Come back next time,” Mr. Kraus told the students, “with evidence that advertising stimulates overall demand for a product, as opposed to demand for a particular brand.”  Mr. Kraus seemed confident that no one would succeed.

When the class met again, one student after another failed to contradict the thesis.  Most did not really understand the assignment.  Finally, Mr. Kraus called on me. 

“Until recently,” I began, “the Federal Communications Commission prohibited feminine hygiene sprays from advertising on television.  My mother works for McKesson & Robbins[2] (NYSE: MCK), a wholesaler to drugstores.  I spoke to the man at the warehouse who’s responsible for these products. He confirmed that after the manufacturer of FDS began to run TV commercials, sales of all brands increased.”

Nervous titters began to break out as I spoke.  The tension in the classroom was palpable and for a long moment Mr. Kraus did not respond to my analysis.  Fearing that my exposition had not been clear, I helpfully added, “They call it ‘the other deodorant.’”  Mr. Kraus snapped, “I know what you’re talking about!” 

I was the only student to mount a challenge to the accepted wisdom about advertising, but Mr. Kraus did not consider my findings conclusive.  He rightly said that I had not presented hard data in the form of sales figures.  As a 17-year-old in an introductory course, I was not yet fully familiar with economists’ professional standards of scholarship. 

Even today, however, with a more extensive knowledge of methodology, I believe I deserved an “A” on research design.  Compared with physics and chemistry, economics offers few opportunities to conduct controlled experiments.  Identifying an unusual case that makes it possible to test a proposition is a useful contribution. 

Advertising’s Changing Political Fortunes

It is fascinating how the debate over advertising has evolved.  In the 1950s, proponents of state intervention made a case for restricting advertising on the grounds that it wasted resources by virtue of having no impact on overall consumption.  Madison Avenue’s defenders responded with the non sequitur, “In the United States, unlike Soviet Russia, the consumer is king.”

In the 1960s, big-government types, inspired by John Kenneth Galbraith’s The Affluent Society, accused the era’s Mad Men of diverting resources to frivolous purposes by creating artificial demand for non-essential consumer goods.  This contradicted the anti-laissez-faire crowd’s earlier view that advertising influenced only brand selection.

The argument has now come full circle.  To counter efforts to restrict advertising, libertarians embrace the notion that it stimulates no primary demand.  Non-dogmatic types such as McArdle refrain from making absolute statements, however.  After all, somewhere in America at this very moment a high school senior may be documenting an exception to the rule.

–Martin Fridson, CFA

Martin S. Fridson, CFA, is a Wall Street veteran and the Chief Investment Officer of Lehmann Livian Fridson Advisors, LLC. 


[1] Megan McArdle, “Why Do Americans Put Their Faith in Corporations?” Bloomberg View,  February 24, 2015

[2] Now known as McKesson Corporation.

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