A Casual Introduction to Auctions

A curious wanderer in Econport might think they have never participated in an auction. After all, auctions may remind you of stories of antique auctions in the wilds of the Vermont woods, or maybe a livestock auction in the heart of Illinois. You might be pleasantly surprised to learn that you probably do participate in more auctions than you realize.

What are Auctions ?

Many market transactions actually involve auctions. Stores such as the former Filene’s Basement in Boston use a clever pricing strategy to keep customers coming back for more: they reduce the prices on items remaining on the racks successively each week until either the goods are purchased or the price gets so low that they donate the items to charity. As a shopper you probably would love this, right? Well, what you would be participating in is known as a descending price or Dutch auction. Its interesting to note how much of our life is influenced by auctions. The Federal Communications Commission in recent years has auctioned off large parts of the electromagnetic broadcasting spectrum. The kind of television people will watch for the next few decades and the kinds of cellular phones they will use will be affected by this process and its outcomes. These auctions have already raised around $23 billion in government revenue.

Auctions come in a wide number of varieties with different methods for the submission of bids, the determination of winners, and the determination of the final prices to be paid.

Before the advent of electronic commerce, there were two commonly-used methods for submitting bids at an auction. In a sealed bid auction, buyers secretly write their bids on a piece of paper and seal them in envelopes before handing them in to the seller. In contrast, another method of bidding is that of open outcry, where bidders call out their bids in public.  Open outcry is a method which probably best fits the popular perception of how an auction works, complete with plenty of feverish bidders and a fast-talking auctioneer.

There are also several methods by which auction prices are determined. The most common is for the highest bidder to pay the amount of his bid and take the item that is being auctioned. This is known as the first price auction. Another method is found in the second price auction.  With a second price auction, the highest bidder buys the auctioned item at a price equal to the bid of the second highest bidder.