Vickrey Auction

Monday, 09 August 2004 16:30

From Wikipedia, the free encyclopedia:

A Vickrey auction is a type of sealed-bid auction, where 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. The auction was created by William Vickrey. This type of auction is strategically similar to an English auction, and gives bidders an incentive to bid their true value.

Vickrey's original paper considered only auctions where a single, indivisible good is being sold. In this case, the terms Vickrey auction and second-price sealed-bid auction are equivalent, and are used interchangeably. When multiple identical units (or a divisible good) are being sold in a single auction, the most obvious generalization is to have all bidders pay the amount of the highest non-winning bid. This is known as a uniform-price auction.

The uniform-price auction does not, however, result in bidders bidding their true valuations as they do in a second-price auction unless each bidder only has demand for a single unit. For that reason, the name "Vickrey auction" in the multi-good auction is usually reserved by economists for a more complicated pricing scheme based on opportunity cost, which does give bidders the incentive to bid truthfully. Under this scheme, bidders may be submit as many bids as they would like on individual units. If there are N items, the top N bids win. The bidder must pay the i'th highest losing bid on the i'th unit won.

Vickrey auctions are much studied in economic literature, but are not particularly common in practice. One market in which they have been used is stamp collecting. eBay's system of proxy bidding is similar, but not identical, to a Vickrey auction. A slight variant of a Vickrey auction is known to be used in Google's online advertisement programme, AdWords, its transparency allowing real-time unmonitored auctions to take place.