Manipulated Prices in Second-Price Auctions
Second-price auctions are common in programming, in which buyers bid on a publisher’s inventory and the buyer with the winning bid pays one cent higher than the second highest bid (clearing price). Although the concept is simple, the lack of transparency behind the actual process leads to price manipulation on the part of ad exchanges, technology platforms that facilitates the buying and selling of media advertising inventory. Since everything that occurs between a buyer’s bid and the clearing price happens in a black box, ad exchanges are free to do as they wish without consequence, which includes driving up prices.
The two main techniques used are dynamic floor pricing and bidding fees. Dynamic floor pricing allows publishers to adjust their floor price (the minimum amount they would sell for). Most exchanges do not show the price floor so that bidders do not know the lowest value that they can bid. Dynamic floor pricing is most dangerous in auctions where there is only one bidder, in which case the bidder ends up paying the price floor. Since the price floor can be adjusted, the price that the bidder pays can be inflated without any controls. The second technique, arbitrary bidding fees (also called buyer fees) are added on to each bid. The only obligation that exchanges face is that the bidding fee cannot exceed the price of the first bid. However, this means that exchanges can still add arbitrary fees up until one cent less than the first bid and charge it to the bidder, therefore inflating the prices that the bidder pays.
As mentioned in lecture, the dominant strategy in second price auctions is to bid the true value. In contrast, first price auctions do not have truthful bidding as the dominant strategy and therefore bidding becomes more strategic. Second price auctions ensures effective allocation of inventory, as the person who values the inventory the most will obtain the item. The efficiency of the system is compromised by the fact that few controls are in place for the ad exchanges. In effect, ad exchanges can force bidders to pay an artificially inflated price that is not tied to the value of the second place bid. These manipulated prices pose a troubling problem in an industry that is already riddled with ad fraud.
The Dark Arts of Second Price Auctions