Authors Ori and Rom Brafman discuss the following game-theory condundrum:
Max Baverman, a professor at Harvard, conducts an auction for his MBA classes; he auctions a $20 bill. But his auction has a special rule: the winning bid, as usual, gets the bill. But the runner-up, the second-highest bidder, must also pay his bid price, even though he gets nothing. The bids must be made in $1 increments.
Rather than provide their account of Baverman’s experiences, I’d be interested to hear your speculations about what would happen. Baverman holds a $20 up in class and says, the winning bid gets this – even if it’s only $2, I’ll sell this $20 bill for that $2. But the second-place, the next-lowest bidder, must also pay me whatever his bid is, and get nothing in return.
A quick off-the-top-of-my-head guess would be that the bids go well above $20 as the second-highest bidder throws “good money after bad” in an attempt to avoid being the person stuck holding the bag.
I could see a person stuck in second at a $22 bid, for example, making the rational decision to bid $24 in order to only lose $4 rather than $22.
Of course, as Ferris Bueller taught us back in the day, the only right move is to not play the game.
I do wonder how high it could go though… you’d think once $20 is reached all active bidders would quickly realize they are screwed.
I wonder if the whole “retaliation” game theory mode comes into this (where people will hurt themselves just to hurt the other guy more, especially if they feel slighted).
It seems to me that the smart thing to do would be to bid $19 at the first bid. Assuming all of the other bidders are rational, they won’t outbid you(doing so would risk losing money for no gain). If you bid $19 first there is no second bidder who will be forced to outbid you to decrease their loss.
However, if you do get in a situation where there are two people bidding to lose the least amount of money, the best thing that somebody could do is not bid $1 higher, but bid 2 * second place bid + 1 dollars, so that the person in second place has no incentive to outbid you. If you bid less than that than you’ll just get yourself into an infinite bidding war.
in taking both game and auction theory classes in college, i think it should be stressed that they’re theories and that the terms - equilibrium, optimum, etc exist soley within the context of that model. i’m just glad that behavioral finance and the introduction of irrationality (a big no no in classical economic theory) is finally on the upswing.
ideas like loss aversion (as some have noted), risk aversion (as Yllaria represents) are ignored in classical economics but very important in behavioral.
it’s in my opinion that the people in the class who are bidding (it only takes 2 to tango) - are operating under a specific set of conditions that allow for this ridiculous overbidding - vast source of daddy’s disposable income, hypercompetitiveness (loss aversion in a sense, but for the contest not the money), etc. however, frankly, loss averse or not, i’m surprised the bids go over $40 (mental construct of not only surefire losing but lousing the arbitrary double).
Sure, but $1 is a reasonable gamble for a $19 profit. Bricker would presumably just hope that nobody goes over him — and if they do, keep his discipline and give up the dollar.
This is why I think game theory discussion is appropriate here. Obviously if you don’t hold firm to your plan to not participate, then you might well bid $2 to get an $18 profit.
