Exchange Rate Fluctuations, Consumer Demand, and Advertising: The Case of Internet Search

Exchange Rate Fluctuations, Consumer Demand, and Advertising: The Case of Internet Search

By Susan Athey, Maya Cohen Meidan
November 17,2010Working Paper No. 3355

This paper addresses the question of how exchange rates affect consumer demand in markets where advertising plays an important role. We identify an effect that has not been emphasized in the existing literature: when foreign exchange rates appreciate, a foreign product becomes more expensive to domestic consumers, but at the same time, advertising becomes cheaper for the foreign advertiser. Thus, demand depends on exchange rates through two channels, the price charged in domestic currency, and the extent of advertising. Our paper attempts to quantify the impact of exchange rates in a market where advertising prominence, its cost to foreign firms, and its impact on consumers can all be directly measured: internet search advertising, a $25 billion international market. We decompose the impact of exchange rate shocks into its impact on the prominence of foreign advertisements and its impact on consumer demand conditional on advertising prominence. We show that in some cases, when foreign currency appreciates, despite foreign products becoming more expensive to domestic consumers and consumers responding to this effect, consumers visit foreign websites more often, due to increases in advertising prominence.

Keywords
on-line consumer behavior, Advertising Effects