Penny Auctions are Unpredictable

I study an auction format called penny auctions. In these auctions, every bid increases the price by a small amount, but it is costly to place a bid. The auction ends if more than some predetermined amount of time has passed since the last bid. Outcomes of real penny auctions are surprising: even selling cash can give the seller an order of magnitude higher or lower revenue than the nominal value. Sometimes the winner of the auction pays very little compared to many of the losers at the same auction. The unexpected outcomes have led to the accusations that the penny auction sites are either scams or gambling or both. I propose a tractable model of penny auctions and show that the high variance of outcomes is a property of the auction format. Even absent of any randomization, the equilibria in penny auctions are close to lotteries from the buyers’ perspective.