In for a Penny

Online auctions have been around since the early days of the internet. More recently, penny auctions have grown in popularity. As the name implies, bids in these auctions usually occur in penny increments. However, users also have to pay a fee for each bid, even if they don’t win the item they’re hoping to acquire. Instead of ending at a predetermined point in time, penny auctions remain open longer. As the closing time draws closer, a few seconds are added with each bid placed. The psychology behind the bidding war in penny auction has been referred to as an “escalation of commitment”. The result: winners of these highly competitive auctions often get a bargain (e.g., a $100 television), while losers pay potentially even more for their unsuccessful bids than they would have paid to acquire the item. Penny auction websites make big profits. But consumers are in for a penny, out for a pound. Not surprisingly, the ethicality of penny auctions has been questioned.

A new article by Norton and collaborators reports a number of different experiments that use regular and penny auction formats to look at the effects of both competitiveness and consumers’ perceived similarity to other bidders on an auction’s final selling price.

In one of their experiments, participants were primed to have either a competitive or cooperative mindset. In addition, some participants saw the profile of another bidder (responder) who either shared their characteristics (gender, location, etc.) or did not share their demographic characteristics. For other participants, the characteristics were left ambiguous by providing no information. They then bid in an auction. Final selling prices ended up higher if competing bidders were dissimilar rather than similar. This happened regardless of participants’ cooperative versus competitive mindset. However, when information about other bidders was not provided, a competitive mindset increased final selling prices.

Assuming that most bidders in online auctions don’t have (or look at) detailed information about other bidders’ characteristics, these findings seem to indicate that competition (real or perceived) in auctions generally leads to higher prices. This makes intuitive sense. There has been other research in the past that investigated the effect of competition, indicated by the relative number of similar items available to be bought at the auction or the relative number of bids (the “opponent effect”).

In another new publication devoted to penny auctions, Shopping, gambling or shambling?,Robinson and colleagues propose that research should be conducted on the effect of competition in penny auctions on consumer behavior. Penny auctions profit from competition, they point out, and the competitive spirit is evident everywhere, ranging from website taglines like “bid or be beaten” and referring to bids as “ammo”, to consumers’ choices of user names like gimmethis, notgonnaquit, trytokeepup or nevasurrenda. Despite the inherently competitive nature of penny auctions, the authors point out that there are also online forums where bidders discuss the reputability of different auction sites, share bidding strategies and criticize bidders who collude in auctions. They conclude that penny auctions “are a fascinating domain full of contradictions that appear to distil the relationship between human cooperation and competition.”

Published research on consumer behavior often includes some practical implications to help consumers. When research is done in university laboratories, it’s not always immediately clear how this advice can be applied in real life. (In some cases, there’s a real conflict between academically and practically useful implications.) I’m a big advocate of research in real-life settings, such as field experiments. Perhaps future research could investigate aggressiveness in bidding in relation to some of the competitive cues that can be found in actual online auction environments. Does participation in online communities devoted to penny auctions moderate the effect of competition? Results of this type of research can potentially advance both academic understanding and practical implications that may help consumers. Based on what I’ve read, however, the best advice for consumers may be to avoid penny auctions in the first place.

Available from July 2014: The Behavioral Economics Guide 2014 on BehavioralEconomics.com (free download)

References

Norton, D. A., Lamberton, C. P., & Naylor, R. W. (2013). The devil you (don’t) know: Interpersonal ambiguity and inference making in competitive contexts. Journal of Consumer Research, http://www.jstor.org/stable/10.1086/669562.

Robinson, S.G., Giebelhausen, M. D., & Cotte, J. (2013). Shopping, gambling or shambling? Penny auctions. Journal of Business Research, http://dx.doi.org/10.1016/j.jbusres.2012.12.005.