Facult des sciences de lagriculture

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Keep it Down An Experimental Test of the
Truncated Uniform Price Auction

• Faculté des sciences de lagriculture
• et de lalimentation
• Université Laval

Maurice Doyon Daniel Rondeau Richard Mbala
2009 NAREA Workshop on Experimental Methods in
Environmental, Natural Resource, and Agricultural
Economics
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Outline

• Context
• Research objectives
• The truncated uniform price auction
• Experimental design
• Results
• Closing remarks

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Context

• Since 1972, Canadian egg producers are required
  by law to hold a production permit (quota) for
  the laying hens they own.
• Supply control generates oligopoly rents and
  makes individual transferable quota highly
  valuable.
• In the egg industry (as in other agricultural
  quota markets such as milk and chicken),
  prevailing conditions tend to provide sellers
  with a distinct advantage and tend to yield high
  quota prices.

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Context

• High quota prices are a concern for Quebecs egg
  producers for two central reasons.
• Large sums of money are capitalized into this
  non-productive asset (Boots et al 1997, Alvarez
  et al 2006).
• Detrimental to a renewal of the industry, making
  it difficult for young individuals to become
  producers.
• No official market exist for laying hens and a
  few feed suppliers have become de facto quota
  brokers
• Feed suppliers have an informational advantage
  and purchase much of the available quota and tie
  its resale to exclusive long terms input
  contracts

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Context

• It is within this context that the Quebec
  Federation of Egg Producers decided to create a
  centralized market institution for quota trading.
  
• The objective of the Federation is to implement a
  market mechanism that fosters efficient trading
  of a relatively low volume of units and provides
  the strongest possible protection against
  aggressive oligopoly pricing emerging from a
  small number of sellers when demand substantially
  outstrips supply.

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Objectives

• Doyon and Rondeau (2006) explored various market
  designs that could potentially meet the
  prerogatives of Quebec egg producers.
• They concluded that a truncated Uniform Price
  Auction (UPA) has interesting characteristics
  that should be tested.
• Therefore, the objective of this study is to test
  the effect of the truncation rule on market
  price, buyers and sellers bids, the number of
  unit traded and economic efficiency

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Truncation rule

• Uniform price auctions are efficient since they
  ensure that buyers with the highest subjective
  valuations for goods obtain those goods and, in
  exchange, sellers receive returns that
  approximate the totality of this value (Ausubel
  and Cramton 2002, Khrisna 2002).
• Any intervention aimed at modifying the outcome
  of a uniform price auction is likely to reduce
  the efficiency of that auction
• Doyon et al. (2008) have explored modifying a
  UPA with a tax on units offered but not sold and
  excluding highest bidders and offers from the bid
  and asks schedules. Experimental results indicate
  that they achieved little price reduction at the
  expense of important loss of efficiency

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Truncation rule

• Under the T-UPA, both buyers and sellers are
  invited to submit bids and asks consisting of the
  number of units they wish to buy or sell, and the
  price at which they are prepared to buy or sell
  respectively.
• While multiple units are involved, a restriction
  is imposed that participants can only submit a
  single bid or ask
• The intersection of the bid and ask curves
  determines the quantity that will be supplied to
  the market. In standard UPA, the units to be sold
  are those starting with the lowest asking price
  on the supply curve, moving sequentially up to
  the intersection of the bid and ask functions.
  This rule is not changed in presence of the
  truncation rule.

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Truncation rule

• Whereas a standard UPA simply allocates the units
  in decreasing order of bid price, the T-UPA
  favors bidders on extra-marginal units.
• Bidders are declared eligible to purchase some of
  the traded units as long as their bid price is
  equal or greater than the price asked by the
  seller of the last unit (the unit at the
  intersection of the bid and ask curves).
• In a reversal of normal rules, the units are sold
  in priority to bidders who submitted the lowest
  price bids rather than the highest

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Truncation rule
G
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Experimental design

• Two sets of experiments were conducted to compare
  the impact of the T-UPA against the UPA. In all
  cases, the underlying design and parameters were
  identical across all experiments.
• In all sessions, the market was made up of seven
  buyers and five sellers who kept the same role
  for a total of thirty periods of market
  interaction with each other.
• Subject could visually determine that there were
  twelve participants in the market, but were not
  told how many were buyers and sellers
• All information on quantities and reserve prices
  (induced values) was private and confidential

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Experimental design

• The subjects task in each round was to submit a
  bid or ask containing two piece of information
  1) the number of units offered (seller) or sought
  (buyer) and 2) the price they were prepared to
  transact at.
• At the end of each period, each individual
  privately received their personal results in the
  form of the number of units he/she transacted,
  the market clearing price and their personal
  profits.
• The first six periods of this experiment were
  unpaid practice rounds. Each of these periods
  implemented different vectors of market
  parameters (individual quantities and reserve
  prices), allowing participants to familiarize
  themselves with their task, the operations of the
  computer interface and the impact of their
  decisions

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Experimental design

• The experiment then proceeded with three sets of
  eight periods each, generating real earnings.
  During each set, the same overall vector of
  market parameters were kept, but rotated across
  participants with each new period.

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Experimental design
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Experimental design

• The experiments were implemented using z-tree and
  conducted at the CIRANO laboratory for
  experimental economics in Montreal, Canada.
• Subjects were university students from all
  disciplines recruited via email invitations using
  the laboratorys standing list of student
  volunteers.
• Individuals were randomly assigned to their role
  of buyer or seller. They received oral
  explanations and instructions.
• Sessions lasted approximately 90 minutes and
  participants received between 18 and 50,
  (including a 5 show up fee).

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Results
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Results-Transaction Prices

• Result 1 The uniform transaction price under the
  T-UPA allocation rule is significantly lower than
  under the UPA rule.

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Results-Number of Units Traded

• Result 2 The T-UPA results in a smaller number
  of units traded than the UPA allocation rule

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Results-Market Efficiency

• Result 3 For the experimental conditions
  implemented in this study, the T-UPA captures 15
  points of percentage less of the potential gains
  from trade than the UPA

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Results-Market Efficiency

• Two factors contribute to the loss of efficiency.
  
• First, is the loss associated with a sub-optimal
  number of units traded already noted
• Second, the misallocation of units to
  extra-marginal buyers and sellers.
• Result 4 Units defined as extra-marginal based
  on the underlying distributions of reserve prices
  are more likely to be traded in the T-UPA auction
  and contribute significantly to lowering the
  efficiency of the market rule.

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Results-Market Efficiency

• For the regular UPA, and across all markets in
  the dataset, only 1.05 of the 5,507 units
  exchanged in our experiments were extra-marginal
  on the demand side.
• In contrast, this proportion climbs to 10.3 of
  the 5,542 units traded in the T-UPA.
• This confirms that the T-UPA rule provides
  significant opportunities for less efficient
  buyers to purchase units

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Results-Buyer Behavior

• Result 5 Buyers submit significantly lower bids
  in the T-UPA than in the UPA

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Results-Seller Behavior

• Mixed results

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Results-Seller Behavior

• the T-UPA produced much less volatility in Model
  B and substantially reduced average sellers bids
  to reach 174, a value in line with the other
  Models.

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Closing remarks

• The truncated rule significantly reduces market
  clearing price. It does so by significantly
  reducing buyers bids and by reducing the asking
  price of sellers in extreme market conditions,
  when sellers have shown an ability to exercise
  market power in a standard uniform price auction.
  
• In situation of large excess demand and wide
  difference between the reserve prices of the
  marginal buyer and seller, the truncated rule was
  able to dramatically reduce the ability of
  sellers to push the equilibrium price up.
• This is an important finding since this type of
  conditions underlying thin markets such as quota
  market in agricultural sectors or in other sector
  could benefit from this type of market design.

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Closing remarks

• However, reduction in market clearing price and
  the ability to mitigate market power of sellers
  in certain market conditions come to a cost.
• This cost is a drop in the number of units
  transacted and an undesirable allocation of some
  units to buyers who value them less than some
  excluded participants. These combined effects
  result in a loss of efficiency in the order of
  15 in average in our experiment.

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Closing remarks

• Nevertheless, these results compare
  advantageously with the modifications to the
  uniform price auction market tested by Doyon et
  al (2008).
• To reach a mere 5 reduction in market clearing
  price, 50 of the unit traded and 52 point
  percentage in efficiency were sacrificed.
• In Model B, a 51 reduction over the non
  competitive market price is obtained in exchange
  of a loss 4 in the number of unit traded and an
  efficiency loss of 19 points percentage.

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Closing remarks

• These differences could be explained by the
  flexibility of the truncated rule, as opposed to
  an exclusion rule as tested by Doyon et al
  (2008).
• While the exclusion would be fixed and would
  always be blindly applied, the truncation rule
  does not apply in the absence of excess demand
  and its effect is modulated with the level of
  excess demand.

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Closing remarks

• Nevertheless, efficiency losses are significant.
• Impact on long term competitivity of the Quebec
  egg production sector?
• However, it represents a sizeable improvement
  over current practices, where a large portion of
  the gains from trade are likely captured by feed
  suppliers
• Efficiency loss should be seriously considered
  and weighted against the perceived benefits of
  lower market prices before implementing a
  truncated uniform price auction in the field.
• First real auction, based on our design was
  realized June 1st

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Questions ?
Maurice Doyon Professor Department of
Agricultural Economics and Consumer Science Laval
University Email maurice.doyon_at_eac.ulaval.ca