The Impact of Inflation On Advertising
All else held equal, higher consumer prices will be associated with more advertising, not less.
Today’s latest US inflation data from the Bureau of Labor Statistics (which showed a 6.0% year-over-year gain for the lowest annual rate of growth since September 2021) reminded me of a topic I have found myself regularly explaining over the past two years: the relationship between inflation and advertising.
I have observed that many industry participants, investors and others have tended to conflate inflation with stagflation, or high inflation and economic decline, in part because of the expectation that high interest rates typically used to curb inflation may also curb economic growth. As I was arguing early last year all of this may occur at the same time, but there is no law which says these relationships necessarily hold.
At the same time, there is a widespread view that real (inflation-adjusted) economic growth and nominal (not inflation-adjusted) advertising growth are related. To be sure, there are relatively strong relationships between economic growth and advertising growth in many countries, but those relationships should be assessed in common terms (such as nominal economic growth and nominal advertising growth rather than real economic growth and nominal advertising growth). Otherwise it’s essentially an apples-and-oranges comparison.
The explanation for this is relatively simple: the vast majority of marketers will budget for advertising on a percentage of revenue basis. If revenues go up – whether because of superior sales and product efforts or because of inflation – so too does a budget for advertising. There will undoubtedly be situations where various costs go up by more for a given marketer than revenues do, and some of those marketers will surely reduce advertising spending in order to maintain margins. But in an inflationary environment, there shouldn’t be a reason to expect that costs go up by more than the prices that can be passed along to consumers.
As another explanation for this outcome, in many or possibly most categories featuring large oligopolistic brands, advertising has prisoners’ dilemma-like elements to consider. If a marketer exists in a competitive category, they may prefer to cut their spending on advertising and hope that sales hold up. But if advertising has a modest or significant impact on sales in the near term and a competitor holds the line on their spending while that first marketer cuts, the competitor will take market share. Under these circumstances, if any one brand owner is convinced that everyone else in the category will cut their spending, then cuts may occur without consequence. This may have happened to some degree in the latter part of 2022 when many large brands reduced spending because of economic concerns and – critically – generally believed that almost everyone else believed the same thing. Of course, the data that came out showed that during the fourth quarter on a year-over-year basis and in real/inflation-adjusted terms there was 2.7% growth in the US, while the UK was up 1.9% and Europe grew 1.7%.
However, as most marketers will have observed that conditions aren’t as bad as they feared, the opposite can occur where the competitive consequences of not spending become more evident. This is not to say that the first quarter will necessarily be strong across the industry as there are incredibly difficult comparables to consider, especially given the significant strength among digital endemic marketers in the year-ago period. To point on the reverse-prisoners’ dilemma, if you’re in a category where you know your direct competitors are no longer meaningful advertisers, odds are good that you can cut your spending and still grow.
For some added global context and historical perspective I thought it would be useful to illustrate an economy which features sustained inflation and which should similarly feature high levels of advertising growth. Here I looked at Argentina, using IMF data for GDP, inflation data from Oxford Economics (as aggregated by Refinitiv) alongside GroupM data for media owner ad revenue growth covering the periods between 2000 and 2021. Given the aforementioned points, it should be unsurprising that inflation is generally closer to advertising growth than real / underlying economic activity is.
Source: GroupM, Oxford Economics, IMF