The acoustic realisation of a speech sound varies, often showing allophonic variation triggered by surrounding sounds. Listeners recognise words and sounds well despite such variation, and even make use of allophonic variability in processing. This study reports five experiments on processing of the reduced/unreduced allophonic alternation of Japanese high vowels. The results show that listeners use phonological knowledge of their native language during phoneme processing and word recognition. However, interactions of the phonological and acoustic effects differ in these two processes. A facilitatory phonological effect and an inhibitory acoustic effect cancel one another out in phoneme processing; while in word recognition, the facilitatory phonological effect overrides the inhibitory acoustic effect. Four potential models of the processing of allophonic variation are discussed. The results can be accommodated in two of them, but require additional assumptions or modifications to the models, and primarily support lexical specification of allophonic variability.