1 - Auctions and Efficiency

Summary

INTRODUCTION

The allocation of resources is an all-pervasive theme in economics. Furthermore, the question of whether there exist mechanisms ensuring efficient allocation (i.e., mechanisms that ensure that resources end up in the hands of those who value them most) is of central importance in the discipline. Indeed, the very word “economics” connotes a preoccupation with the issue of efficiency.

But economists' interest in efficiency does not end with the question of existence. If efficient mechanisms can be constructed, we want to know what they look like and to what extent they might resemble institutions used in practice.

Understandably, the question of what will constitute an efficient mechanism has been a major concern of economic theorists going back to Adam Smith. But, the issue is far from just a theoretical one. It is also of considerable practical importance. This is particularly clear when it comes to privatization, the transfer of assets from the state to the private sector.

In the last 15 years or so, we have seen a remarkable flurry of privatizations in Eastern Europe, the former Soviet Union, China, and highly industrialized Western nations, such as the United States, the United Kingdom, and Germany. An important justification for these transfers has been the expectation that they will improve efficiency. But if efficiency is the rationale, an obvious leading question to ask is: “What sorts of transfer mechanisms will best advance this objective?”

One possible and, of course, familiar answer is “the Market.” We know from the First Theorem of Welfare Economics (see Debreu, 1959) that, under certain conditions, the competitive mechanism (the uninhibited exchange and production of goods by buyers and sellers) results in an efficient allocation.