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Current Affairs

Auction theory

Date: 14 October 2020 Tags: Miscellaneous

Issue

The Royal Swedish Academy of Sciences awarded this year’s Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel to Paul R Milgrom and Robert B Wilson for auction theory.

 

Background

Auction theory studies how auctions are designed, what rules govern them, how bidders behave, and what outcomes are achieved.

 

Details

  • This simple design of such an auction is the open bidder getting the property (or the commodity in question).

  • But over time, and especially over the last three decades, more and more goods and services have been brought under auction. The nature of these commodities differs sharply.

  • For instance, a bankrupt person’s property is starkly different from the spectrum for radio or telecom use. Similarly, carbon dioxide emission credits are quite different from the spot market for buying electricity, which, in turn, is quite different from choosing which company should get the right to collect the local garbage. In other words, no one auction design fits all types of commodities or seller.

  • This is also true because the purpose of an auction also differs with the commodity and the entity conducting the auction. More often than not, private sellers want to maximise their gains while public authorities may have other goals in mind.

  • Wilson developed the theory for auctions of objects with a common value — a value which is uncertain beforehand but, in the end, is the same for everyone. Wilson showed what the “winner’s curse” is in an auction and how it affects bidding. 

  • Milgrom formulated a more general theory of auctions that not only allows common values but also private values that vary from bidder to bidder.

  • He analysed the bidding strategies in a number of well-known auction formats, demonstrating that a format will give the seller higher expected revenue when bidders learn more about each other’s estimated values during bidding.

  • With each passing year, as societies have become more complex Milgrom and Wilson responded by inventing new formats for auctioning off many interrelated objects simultaneously, on behalf of a seller motivated by broad societal benefit rather than maximal revenue.