Bid shading

Last updated

In an auction, bid shading is the practice of a bidder placing a bid that is below what they believe a bid is worth. [1] [2]

Bid shading is used for one of two purposes. In a common value auction with incomplete information, bid shading is used to compensate for the winner's curse. In such auctions, the bid is worth the same amount to all bidders, but bidders don't know the value of the good and must independently estimate it. Since all bidders value the good equally, the winner will generally be the bidder whose estimate of the value is largest. But if we assume that in general bidders estimate the value accurately, then the highest bidder has overestimated the good's value and will end up paying more than it is worth. In other words, winning the auction carries bad news about a bidder's value estimate. A savvy bidder will anticipate this, and reduce their bid accordingly.

Bid shading is also used in first-price auctions, where the winning bidder pays the amount of his bid. If a participant bids an amount equal to their value for the good, they would gain nothing by winning the auction, since they are indifferent between the money and the good. Bidders will optimize their expected value by accepting a lower chance of winning in return for a higher payoff if they win.

In a first-price common value auction, a savvy bidder should shade for both of the above purposes.

Bid shading is not only a normative theoretical construct, it was detected in the above-mentioned real world auction markets. [3] [4] Previous theoretical work on sequential auctions focused either on bid shading in an exogenous sequence of auctions, [5] [6] or on strategic auctioning to short-lived buyers, who never want to shade their bids. [7] This paper provides the first model of a sequential auction with both endogenous strategic selling and forward-looking longer-lived buyers who can shade their bids. The model’s contribution is the analysis of the best response of the seller to strategic bid shading, and the exposition of a market equilibrium, in which bidders do not always shade. The most related model of bidding is Jeitschko (1999), [6] who finds that relatively to exogenous and certain future supply, exogenous but uncertain future supply leads to a proportional bid increase. In contrast, high-valuation bidders shade more than low valuation bidders here. The most related model of optimal sequential auctioning by Vulcano, van Ryzin, and Maglaras (2002) (VRM), [7] who study a monopolist selling to unit-demand strategic buyers who each only lives for one period. While VRM’s bidders do not shade their bids by assumption, strategic sequential auctioning has an effect on their bidding strategy because they are forward-looking: there is an incentive to overbid and make the seller sell more units in the current period than would be optimal for her.

See also

Related Research Articles

Auction Process of offerings goods or services up for bid, and either selling to the highest bidder or buying from the lowest bidder

An auction is usually a process of buying and selling goods or services by offering them up for bid, taking bids, and then selling the item to the highest bidder or buying the item from the lowest bidder. Some exceptions to this definition exist and are described in the section about different types. The branch of economic theory dealing with auction types and participants' behavior in auctions is called auction theory.

Winners curse

The winner's curse is a phenomenon that may occur in common value auctions, where all bidders have the same value for an item but receive different private signals about this value and wherein the winner is the bidder with the most optimistic evaluation of the asset and therefore will tend to overestimate and overpay. Accordingly, the winner will be "cursed" in one of two ways: either the winning bid will exceed the value of the auctioned asset making the winner worse off in absolute terms, or the value of the asset will be less than the bidder anticipated, so the bidder may garner a net gain but will be worse off than anticipated. However, an actual overpayment will generally occur only if the winner fails to account for the winner's curse when bidding.

Online auction auction which is held over the internet

An online auction is an auction which is held over the internet. Like auctions in general, online auctions come in a variety of types like ascending English auctions, descending Dutch auctions, first-price sealed-bid, Vickrey auctions and others, which are sometimes not mutually exclusive.

A Vickrey auction is a type of sealed-bid auction. Bidders submit written bids without knowing the bid of the other people in the auction. The highest bidder wins but the price paid is the second-highest bid. This type of auction is strategically similar to an English auction and gives bidders an incentive to bid their true value. The auction was first described academically by Columbia University professor William Vickrey in 1961 though it had been used by stamp collectors since 1893. In 1797 Johann Wolfgang von Goethe sold a manuscript using a sealed-bid, second-price auction.

Paul Milgrom American economist

Paul Robert Milgrom is an American economist. He is the Shirley and Leonard Ely Professor of Humanities and Sciences at Stanford University, a position he has held since 1987. Milgrom is an expert in game theory, specifically auction theory and pricing strategies. He is the co-creator of the no-trade theorem with Nancy Stokey. He is the co-founder of several companies, the most recent of which, Auctionomics, provides software and services that create efficient markets for complex commercial auctions and exchanges.

A reservationprice is a limit on the price of a good or a service. On the demand side, it is the highest price that a buyer is willing to pay; on the supply side, it is the lowest price a seller is willing to accept for a good or service. Reservation prices are commonly used in auctions, but the concept is extended beyond.

A Japanese auction is a dynamic auction format. It proceeds in the following way.

Auction sniping is the practice, in a timed online auction, of placing a bid likely to exceed the current highest bid as late as possible—usually seconds before the end of the auction—giving other bidders no time to outbid the sniper. This can be done manually, by software on the bidder's computer, or by an online sniping service.

A double auction is a process of buying and selling goods with multiple sellers and multiple buyers. Potential buyers submit their bids and potential sellers submit their ask prices to the market institution, and then the market institution chooses some price p that clears the market: all the sellers who asked less than p sell and all buyers who bid more than p buy at this price p. Buyers and sellers that bid or ask for exactly p are also included. A common example of a double auction is stock exchange.

Auction theory is an applied branch of economics which deals with how people act in auction markets and researches the properties of auction markets. There are many possible designs for an auction and typical issues studied by auction theorists include the efficiency of a given auction design, optimal and equilibrium bidding strategies, and revenue comparison. Auction theory is also used as a tool to inform the design of real-world auctions; most notably auctions for the privatization of public-sector companies or the sale of licenses for use of the electromagnetic spectrum.

Susan Athey American economist

Susan Carleton Athey is an American microeconomist. She is The Economics of Technology Professor in the School of Humanities and Sciences at the Stanford Graduate School of Business. Prior to joining Stanford, she was a professor at Harvard University. She is the first female winner of the John Bates Clark Medal. She currently serves as a long-term consultant to Microsoft as well as a consulting researcher to Microsoft Research. She also serves as the senior fellow at Stanford Institute for Economic Policy Research.

Artyom Shneyerov Canadian economist

Artyom Shneyerov is a microeconomist working at Concordia University in Montreal, Quebec, Canada. He is also an associate editor of the International Journal of Industrial Organization. His current research is in the fields of game theory, industrial organization and applied econometrics. His contributions to these and other areas of economics include the following:

A Vickrey–Clarke–Groves (VCG) auction is a type of sealed-bid auction of multiple items. Bidders submit bids that report their valuations for the items, without knowing the bids of the other bidders. The auction system assigns the items in a socially optimal manner: it charges each individual the harm they cause to other bidders. It gives bidders an incentive to bid their true valuations, by ensuring that the optimal strategy for each bidder is to bid their true valuations of the items. It is a generalization of a Vickrey auction for multiple items.

The methodology of econometrics is the study of the range of differing approaches to undertaking econometric analysis.

Consensus estimate is a technique for designing truthful mechanisms in a prior-free mechanism design setting. The technique was introduced for digital goods auctions and later extended to more general settings.

Bayesian-optimal pricing is a kind of algorithmic pricing in which a seller determines the sell-prices based on probabilistic assumptions on the valuations of the buyers. It is a simple kind of a Bayesian-optimal mechanism, in which the price is determined in advance without collecting actual buyers' bids.

A sequential auction is an auction in which several items are sold, one after the other, to the same group of potential buyers. In a sequential first-price auction (SAFP), each individual item is sold using a first price auction, while in a sequential second-price auction (SASP), each individual item is sold using a second price auction.

In auction theory, jump bidding is the practice of increasing the current price in an English auction, substantially more than the minimal allowed amount.

The Price of Anarchy (PoA) is a concept in game theory and mechanism design that measures how the social welfare of a system degrades due to selfish behavior of its agents. It has been studied extensively in various contexts, particularly in auctions.

Regularity, sometimes called Myerson's regularity, is a property of probability distributions used in auction theory and revenue management. Examples of distributions that satisfy this condition include Gaussian, uniform, and exponential; some power law distributions also satisfy regularity. Distributions that satisfy the regularity condition are often referred to as "regular distributions".


  1. Hortaçsu, Ali; Kastl, Jakub; Zhang, Allen (1 January 2018). "Bid Shading and Bidder Surplus in the US Treasury Auction System". American Economic Review. 108 (1): 147–169. doi:10.1257/aer.20160675.
  2. Nautz, D.; Wolfstetter, E. (October 1997). "Bid shading and risk aversion in multi-unit auctions with many bidders". Economics Letters. 56 (2): 195–200. doi:10.1016/S0165-1765(97)81900-3.
  3. Jofre-Bonet, Mireia; Pesendorfer, Martin (September 2003). "Estimation of a Dynamic Auction Game". Econometrica. 71 (5): 1443–1489. doi:10.1111/1468-0262.00455.
  4. Zeithammer, Robert (August 2006). "Forward-Looking Bidding in Online Auctions". Journal of Marketing Research. 43 (3): 462–476. doi:10.1509/jmkr.43.3.462.
  5. Milgrom, Paul R.; Weber, Robert J. (1982). "A Theory of Auctions and Competitive Bidding". Econometrica. 50 (5): 1089–1122. doi:10.2307/1911865. ISSN   0012-9682.
  6. 1 2 Jeitschko, Thomas D (July 1999). "Equilibrium price paths in sequential auctions with stochastic supply". Economics Letters. 64 (1): 67–72. doi:10.1016/S0165-1765(99)00066-X.
  7. 1 2 Vulcano, Gustavo; van Ryzin, Garrett; Maglaras, Costis (November 2002). "Optimal Dynamic Auctions for Revenue Management". Management Science. 48 (11): 1388–1407. doi:10.1287/mnsc.48.11.1388.269.