Rationality, irrationality and escalating behavior in lowest unique bid auctions

TL;DR

This paper investigates online lowest unique bid auctions, revealing that agents use Levy flight strategies similar to animals searching for scarce resources, and that rational profit-maximizing behavior suggests non-participation when many agents are involved.

Contribution

It introduces a quantitative model showing agents adopt nearly optimal bidding strategies but do not maximize profits, highlighting rationality and irrationality in online auction behavior.

Findings

Agents use Levy flight search strategies over three orders of magnitude.

Nearly optimal bidding strategies are employed by agents.

Rational profit maximization discourages participation in large auctions.

Abstract

Information technology has revolutionized the traditional structure of markets. The removal of geographical and time constraints has fostered the growth of online auction markets, which now include millions of economic agents worldwide and annual transaction volumes in the billions of dollars. Here, we analyze bid histories of a little studied type of online auctions --- lowest unique bid auctions. Similarly to what has been reported for foraging animals searching for scarce food, we find that agents adopt Levy flight search strategies in their exploration of "bid space". The Levy regime, which is characterized by a power-law decaying probability distribution of step lengths, holds over nearly three orders of magnitude. We develop a quantitative model for lowest unique bid online auctions that reveals that agents use nearly optimal bidding strategies. However, agents participating in these auctions do not optimize their financial gain. Indeed, as long as there are many auction participants, a rational profit optimizing agent would choose not to participate in these auction markets.