Common Value Auctions and the Winner's Curse

John H. Kagel is University Chaired Professor of Economics at Ohio State University. A leading economic theorist, he is coeditor of, and a contributor to, "The Handbook of Experimental Economics" (Princeton). Dan Levin is Professor of Economics and Joan Huber Fellow at Ohio State University. He has published numerous articles on competitive bidding and industrial organization in leading economic journals.

• Preface xiii Credits xv Chapter 1. Bidding in Common Value Auctions: A Survey of Experimental Research by John H. Kagel and Dan Levin 1 1.An Initial Experiment Demonstrating the Winner's Curse 4 Chapter 2. Sealed-Bid Auctions 5 2.1 Theoretical Considerations: First-Price Sealed-Bid Auctions 6 2.2 Some Initial Experimental Results: Inexperienced Bidders 7 2.3 Auctions with Moderately Experienced Bidders and the Effects of Public Information on Sellers' Revenue 7 2.4 Is the Winner's Curse a Laboratory Artifact? Limited Liability for Losses 13 2.5 Second-Price Sealed-Bid Auctions 16 2.6 Group versus Individual Bids 20 2.7 Summing Up 22 3.English Auctions and First-Price Auctions with Insider Information 23 3.1 English Auctions 24 3.2 Auctions with Insider Information 27 4.The Winner's Curse in Other Settings 33 4.1 The Winner's Curse in Bilateral Bargaining Games 33 4.2 The Winner's Curse in "Blind-Bid" Auctions 36 4.3 Lemons and Ripoffs: The Winner's Curse in Markets with Quality Endogenously Determined 39 4.4 The Swing Voter's Curse 40 4.5 Summing Up 46 5.How Do Bidders Learn to Overcome the Winner's Curse? 47 5.1 Bilateral Bargaining Games 47 5.2 Inexperienced Bidders in Sealed-Bid Auctions 48 5.3 Super-Experienced Bidders in Sealed-Bid Auctions 51 5.4 The Role of Information Feedback on Learning 52 6.Comparing Results from Field Studies with Experiments 53 6.1 Direct Comparisons between Laboratory and Field Data 56 6.2 Differences in Structure between Laboratory and Field Auctions 58 6.3 Summing Up 60 7.Concluding Remarks 60 7.1 Summary of Empirical Findings from the Laboratory 60 7.2 Theory Motivated by Experiments 62 7.3 Auction Theory and Experiments at Work: Airwave Rights Auctions 65 8.Overview of What Follows 66 Chapter 2. First-Price Common Value Auctions: Bidder Behavior and the "Winner's Curse" by John H. Kagel, Dan Levin, Raymond C. Battalio, and Donald J. Meyer 85 1.Introduction 85 2.Structure of the Auctions 86 3.Theoretical Considerations and the Winner's Curse 87 4.Experimental Results 89 4.1 Market Outcomes 89 4.2 Individual Bidding Behavior over Time 93 5.Summary and Conclusions 100 Appendix: Inexperienced Bidders in Second-Price Common Value Auctions 101 Notes 104 References 105 Chapter 3. The Winner's Curse and Public Information in Common Value Auctions by John H. Kagel and Dan Levin 107 1.Structure of the Auctions 108 1.1 Basic Auction Structure 108 1.2 Auctions with Public Information 112 1.3 Varying Numbers of Bidders 113 1.4 The Experience Factor 113 2.Theoretical Considerations 114 2.1 Private Information Conditions 114 2.2 Effects of Public Information 116 2.3 Summary of Research Questions of Primary Interest 118 3.Experimental Results 119 3.1 Bidding Patterns with Private Information 119 3.2 Effects of Public Information on Seller's Revenues 127 3.3 Summary of Experimental Outcomes of Primary Interest 131 4.Toward Generalizability: But Is This How the Real World Operates? 131 5.Conclusions 134 Notes 136 References 140 Addendum: Benchmark Equilibrium for First-Price Auctions with Public Information 141 Chapter 4. Comparative Static Effects of Number of Bidders and Public Information on Behavior in Second-Price Common Value Auctions by John H. Kagel, Dan Levin, and Ronald M. Harstad 149 1.Introduction 149 2.Structure of the Auctions 152 2.1 Basic Auction Structure 152 2.2 Auctions with Public Information 152 2.3 Subject Experience and Varying Numbers of Bidders 153 3.Theoretical Considerations 154 3.1 Naive Bidding under Private Information Conditions: A Model of the Winner's Curse 154 3.2 Nash Equilibrium Bidding under Private Information Conditions 155 3.3 Naive Bidding under Public Information Conditions 156 3.4 Nash Equilibrium Bidding under Public Information Conditions 157 4.Experimental Results 160 4.1 Bidding Patterns with Private Information 160 4.2 Effects of Public Information on Revenue 165 5.Summary and Conclusions 169 Appendix 171 Notes 173 References 175 Chapter 5. Information Impact and Allocation Rules in Auctions with Affiliated Private Values: A Laboratory Study by John H. Kagel, Ronald M. Harstad, and Dan Levin 177 1.Introduction 177 2.Structure of the Auctions 178 2.1 First-Price Auctions 178 2.2 Second-Price/English Auctions 181 2.3 Subjects 181 3.Theoretical Predictions 182 3.1 First-Price Auctions 182 3.2 Second-Price/English Auctions 186 4.Experimental Results 187 4.1 First-Price Auctions 187 4.2 Second-Price/English Auctions 197 5.Summary and Conclusions 202 Appendix A 203 Appendix B: Derivation of Risk-Neutral Nash Bid Function 204 Notes 205 References 209 Chapter 6. Revenue Effects and Information Processing in English Common Value Auctions by Dan Levin, John H. Kagel, and Jean-Francois Richard 210 1.Structure of the Auctions 211 2.Theoretical Considerations 213 2.1 Factors Promoting Revenue Raising in English Auctions 213 2.2 Forces Inhibiting Revenue Raising in English Auctions 216 3.Experimental Results 217 3.1 Revenue Effects of English Auctions 217 3.2 Bidding Behavior in English Auctions 221 4.Relationship to Field Data 232 5.Summary and Conclusions 232 Appendix A: Derivation of Equilibrium Bid Functions 234 Appendix B: Full Information Maximum Likelihood Estimates 236 Notes 240 References 243 Chapter 7. Common Value Auctions with Insider Information by John H. Kagel and Dan Levin 245 1.Structure of the Auctions 246 2.Theoretical Considerations 247 2.1 The Winner's Curse 248 2.2 Auctions with Symmetric Information Structure (SIS) 249 2.3 Auctions with Asymmetric Information Structure (AIS) 249 3.Experimental Results 251 3.1 Auctions with Inexperienced Bidders 251 3.2 Super-Experienced Bidders 256 3.3 Learning and Adjustments in Insider's Bids over Time 261 4.Summary and Conclusions 263 Appendix: Increases in Expected Revenue in Auctions with Insider Information 264 Notes 265 References 268 Chapter 8. Can the Seller Benefit from an Insider in Common-Value Auctions? by Colin Campbell and Dan Levin 270 1.Introduction 270 2.The Model 271 2.1 Environments of No Private Information 272 2.2 Homogeneous Private Information 273 2.3 Heterogeneous Bidders I: Partitioned Information 274 2.4 Heterogeneous Bidders II: Nonpartitioned Information 275 2.5 Discussion 276 3.Conclusion 281 Appendix 281 Notes 282 References 282 Chapter 9. Second-Price Auctions with Asymmetric Payoffs: An Experimental Investigation by Christopher Avery and John H. Kagel 284 1.Introduction 284 2.The Base Model 285 2.1 Equilibrium Analysis 286 2.2 Revenue Comparisons 289 3.Experimental Design 290 4.Experimental Hypotheses 292 5.Experimental Results 295 6.Summary and Conclusion 304 Appendix 305 Notes 308 References 310 Chapter 10. Learning in Common Value Auctions: Some Initial Observations by Susan Garvin and John H. Kagel 311 1.Introduction 311 2.Experimental Design 312 3.Theoretical Considerations: Measures of Learning and Adjustment 315 4.Experimental Results 316 4.1 The Data to Be Explained: Adjustments in Bidding over Time in First-Price Auctions 316 4.2 Market Adjustments: Self-Selection among Returning Bidders 319 4.3 Learning/Adjustment Mechanisms for Individual Bidders 322 5.Summary 329 Notes 330 References 331 Chapter 11. Cross-Game Learning: Experimental Evidence from First-Price and English Common Value Auctions by John H. Kagel 332 1.Introduction 332 2.Experimental Procedures and Performance Measures 333 3.Experimental Results 334 4.Analysis and Conclusions 337 Notes 338 References 339 Chapter 12. A Comparison of Naive and Experienced Bidders in Common Value Offer Auctions: A Laboratory Analysis by Douglas Dyer, John H. Kagel, and Dan Levin 340 1.Structure of the Auctions 341 2.Theoretical Considerations 341 3.Experimental Results 342 3.1 Experiments with N = 4 342 3.2 Effects of Changing N and Public Information 345 4.Conclusion and Discussion 346 Notes 347 References 348 Chapter 13. Bidding in Common Value Auctions: How the Commercial Construction Industry Corrects for the Winner's Curse by Douglas Dyer and John H. Kagel 349 1.Introduction 349 2.Bidding Structure, Industry Characteristics, and Sample Data 351 3.Theoretical Considerations 351 4.Bid Distribution Characteristics of Sample Data 354 5.Differences in Auction Structure between Theory and Practice 358 5.1 Mechanisms for Escaping the Winner's Curse 359 5.2 Avoiding the Winner's Curse: Situation-Specific Learning 361 5.3 Private Value/Chance Elements in Bidding 361 6.Industry-Specific Characteristics and Their Relationship to Auction Theory 362 7.Summary and Conclusions 364 Appendix: Variation in Subcontractor Bids to General Contractors 365 Notes 368 References 368 Instructions 370 Index 395

"This book shows that the kind of winner's curse at issue is pervasive across various types of auctions and is not eliminated by experience or even by using expert bidders. One of its main contributions is the specification of naïve bidding models that explain patterns of deviations from (Nash) theoretical predictions. The ex post perspectives about how to improve experimental designs and procedures for dealing with bankruptcies were particularly interesting."—Charles A. Holt, University of Virginia