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An Analysis of Market-Based and Statutory Limited Liability in Second Price Auctions

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  • Saral, Krista Jabs

Abstract

In auctions where bidders are uncertain of their value and are fully liable for their bids, there exists the potential for losses if bids exceed realized values. Theoretically, bids will be higher if bidders are able to mitigate this downside loss through some form of limited liability. To determine the impact of differing forms of limited liability, this paper theoretically and experimentally examines a second price auction with uncertain private values in three environments: market-based limited liability, statutory limited liability, and full liability. Market-based limited liability is induced through inter-bidder resale following the auction. Statutory limited liability is created through a default penalty option in the event that a bidder would make a loss. Bids are theoretically shown to be higher under resale and the penalty default environments than under full liability. The experimental results confirm more aggressive bidding for resale and the low penalty default treatments, but not by as much as theory predicts. Notably, under the high default penalty bidders are not bidding significantly more than under full liability, despite the theoretical prediction that they should.

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Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 25143.

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Date of creation: Oct 2009
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Handle: RePEc:pra:mprapa:25143

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Keywords: Auctions; Limited Liability; Resale; Experimental Economics;

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  1. Andreas Lange & John A. List & Michael K. Price, 2004. "Auctions with Resale When Private Values Are Uncertain: Theory and Empirical Evidence," NBER Working Papers 10639, National Bureau of Economic Research, Inc.
  2. Haile, Philip A., 2003. "Auctions with private uncertainty and resale opportunities," Journal of Economic Theory, Elsevier, vol. 108(1), pages 72-110, January.
  3. Andra C. Ghent & Marianna Kudlyak, 2010. "Recourse and residential mortgage default: theory and evidence from U.S. states," Working Paper 09-10, Federal Reserve Bank of Richmond.
  4. David J. Cooper & Hanming Fang, 2006. "Understanding Overbidding in Second Price Auctions: An Experimental Study," Cowles Foundation Discussion Papers 1557, Cowles Foundation for Research in Economics, Yale University.
  5. Urs Fischbacher, 2007. "z-Tree: Zurich toolbox for ready-made economic experiments," Experimental Economics, Springer, vol. 10(2), pages 171-178, June.
  6. Simon Board, 2007. "Bidding into the Red: A Model of Post-Auction Bankruptcy," Journal of Finance, American Finance Association, vol. 62(6), pages 2695-2723, December.
  7. Cox, James C & Smith, Vernon L & Walker, James M, 1988. " Theory and Individual Behavior of First-Price Auctions," Journal of Risk and Uncertainty, Springer, vol. 1(1), pages 61-99, March.
  8. Hansen, Robert G & Lott, John R, Jr, 1991. "The Winner's Curse and Public Information in Common Value Auctions: Comment," American Economic Review, American Economic Association, vol. 81(1), pages 347-61, March.
  9. Coppinger, Vicki M & Smith, Vernon L & Titus, Jon A, 1980. "Incentives and Behavior in English, Dutch and Sealed-Bid Auctions," Economic Inquiry, Western Economic Association International, vol. 18(1), pages 1-22, January.
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