Rigged Auctions? Why Top Bidders Don’t Always Feel Like Winners
https://www.gsb.stanford.edu/insights/rigged-auctions-why-top-bidders-dont-always-feel-winners
This article describes issues that arise from dishonest sellers in second-price auctions. Advertisements are auctioned off to advertisers who suspect they are being cheated by auctioneers. In second-price auctions with sealed bids, there is nothing enforcing honesty. Thus, auctioneers can easily report the second highest bid as something greater than the actual bid and pocket the difference. But once bidders notice that something fishy is going on, they will stay away from these rigged auctions and the auctioneers lose in the long run since no one will want to bid in any of their future auctions. Even though second-price auctions make bidding easier because the dominant strategy is bidding your true value (as we learned in class), bidders leave themselves vulnerable to dishonest auctioneers. Now, is it really the worst if you aren’t paying more than your true value? That’s up to you. Most people would be upset if they found out they paid more for something than they should’ve even if the price they paid is less than their true value.
First-price auctions require more analysis and more complex strategies but it’s harder for auctioneers to lie. If auctioneers try to cheat bidders in first-price auctions with ‘chandelier bids’, i.e. fictitious bids to potentially raise the price, they can create more issues for themselves than if they were dishonest in a second-price auction. Technically, auctioneers can only submit chandelier bids up until a certain amount (the lowest price that the seller will accept) but since this value is not usually disclosed, bidders have no way of knowing whether or not the auctioneer is playing by the rules. But if the auctioneer overshoots in a first-price auction, they risk losing the sale completely since the real bidders will all drop out. So there is a certain sliver of motivation for them to be honest but if they are willing to gamble, there’s nothing preventing them from dramatically raising the bid.
Thus, both auction formats are self-policing in the sense that if auctioneers try to cheat bidders too much, they will hurt themselves by losing sales. Even so, they could get by with a little here and there and walk away with a large amount of revenue accumulated over several auctions. But these historical auction formats clearly work so maybe it’s really not the biggest problem to bidders if auctioneers are ‘reasonably’ dishonest.