Four Common Types of Auctions
During lectures, we have covered two types of auctions: the English Auction and the Dutch Action. In this blogpost, we will be covering several other types of auction we may encounter in the real world and their pros and cons. We will review the English Auction and the Dutch Action first and introduce the types of actions: Sealed-bid Auction and Double Auction.
ENGLISH AUCTION
The most seen type of auction, it’s also known as Open ascending auction. The buyers will start bidding with a low price, then the bid prices go up until there’s no more price bidding a higher price. The last person to bid, which is also the person who bids the highest price, will get the item. If the seller has a predetermined reserved price, we need to make sure the highest bid excesses the reserved price, or the item will not be sold to anyone (the seller keeps it since he/she values the item more than any bidder). The dominant strategy of bidder in an English auction is to bid a price less than their value for the item. However, in the real-world scenario, there exists a term called the “Winner’s Curse”, which refers to the circumstance when a bidder behaves irrationally and bid a price that’s higher than his/her value of the item.
DUTCH AUCTION
Dutch action is the opposite of English auction, it’s also known as Open descending auction. The seller will initiate a high value and bidders will bid down from this high price, in other words, the bid price will go down until a bidder’s willing to take it. Dutch auction usually takes a short time to complete, if there’s more than one item in bid, the bidding process will continue until the supply is equal to demand.
SEALED_BID AUCTION
Bidders will send their bid prices to the sellers before the seller publish the bid prices and compare to find the winner. The Sealed-bid auction usually happens online, and it’s commonly used for advertisements, construction contracts, commodities, real estate, and it’s also widely used by many countries’ governments for refinancing credit and foreign exchange or selling inventory goods.
In first price sealed-bid auction, the winner pays the highest price and if there’re more than one items, the rest of the item will go to the bidders with second-highest price, third-highest price… etc.
William Vickrey was award 1996 Nobel Memorial Prize in Economic Sciences for his study in auctions, therefore the second price sealed-bid auction is also known as Vickrey auction. Unlike first-price sealed-bid auction, the winner will pay the second-highest price instead of the highest, all bidders tend to bid higher than they would in first price sealed-bid auction.
DOUBLE AUCTION
Both buyers and sellers will posts their acceptable prices to a board/list and double auction will find a match for buyers and sellers, then execute the trade at the desired price. Institutional sale and purchases of stocks/shares is a perfect example for double auction, the third-party middle person (in this case the stock exchange or trading desk at investment banks), a match between the bid-price and ask-price is found and a trade is executed when the match is found. Double auction works well for items that bidders know well about since they need to precisely evaluate the item. Thus, double auction is commonly used for commodities.
Citation:
EconPort, http://www.econport.org/content/handbook/auctions/commntypes/firstpricesealed.html, 2006.
Corporate Finance Institute, https://corporatefinanceinstitute.com/resources/knowledge/other/vickrey-auction/, 2015.
Investopedia, Evan Tarver, https://www.investopedia.com/terms/a/auctionmarket.asp, 2021.