Evil Business Models: Turning The Dollar Auction Into A Profit Center

from the human-psychology-at-work dept

On my very first day of econ 101 as a freshman in college many, many years ago, my professor played a “game” with two students in the class in order to demonstrate how incentives can lead to bad outcomes for everyone. He held up a dollar, and told each student that they were competing to “buy” the dollar. However, rather than a standard auction, both parties had to pay whatever their final bid was. Thus, even the loser has to pay. This leads to screwed up incentives, where things quickly spiral out of control. At first, one student will bid a penny, and of course the other student will bid 2 pennies. In both of their minds, it makes sense to bid up to $1 to get $1 back. Except… once you hit $1, the other student doesn’t want to lose, knowing he’s going to pay out without getting anything back — so the bidding zooms past $1, with both participants knowing that they’re going to lose money, but wanting to “win” in order to make sure they don’t lose as much as the other one. In the end, the only one who makes out well is the econ professor who collects the money from both students and only has to pay back one dollar. I think in my year, he ended up making $3 or $4 before the students gave up, realizing things were only going to get worse. This is apparently a popular exercise in a number of econ classes, called the Dollar Auction.

However, it looks like some enterprising or evil students who played (or observed) that game have decided to build a startup on the same principle, where they (of course) play the role of the econ professor, and everyone else becomes the suckers who are eventually forced to overbid to minimize their losses. Tom sends in a link to a description of how swoopo works, and it sounds very much like the dollar auction. Basically, you purchase “bids” and each bid you place increases the purchase price of an auction and extends the auction a little longer. In other words, everyone keeps paying, hoping that they’ll eventually get the “good” offered for sale at lower than face price. But, of course, like the dollar auction, because of the competition, the incentives get set so that people are likely to keep spending to get something back for their bids, rather than nothing at all. Swoopo is slightly more insidious in that the “price” of the item increases at less than the cost per bid, such that the price of the item stays lower than its list price for a long time, even though many people bid on it. That creates a scenario, as described in the post, where users of the site end up shelling out a grand total of $1,125.90 to the company, for an 8GB iPod Touch that lists at $229. Most of the bidders end up with nothing… and only one got the Touch for $187.65 plus whatever money he spent on bids.

While you have to be impressed with the sheer obnoxiousness of the business model, you have to wonder how long it can last, once people start to realize that the only winner is the company itself, and most of the “buyers” turn out to be big, big losers. The dollar auction works great if you play it once… or if you can keep finding suckers. If the suckers recognize that they’re suckers, things dry up quickly.

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Companies: swoopo

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Comments on “Evil Business Models: Turning The Dollar Auction Into A Profit Center”

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Easily Amused says:

As long as the terms are clear and the would-be ‘bargain-hunters’ (morons) are aware that they will be spending money for nothing if they lose, I say congratulations Swoopo! I have observed that most of the Ebay addicts I have met are in it for the chase, not the item. Adding the danger of loss to this chase, as opposed to just wasted time, must get these people off like it’s some kind of consumerist pr0n.

Rich says:

i don't get it...

what is my incentive to bid on this dollar in the first place? if i understand this correctly, 2 students bid against each other for the “privilege” of “winning” a dollar bill, where BOTH the winner and the loser have to pay the same amount for said “prize”, but only the winner gets the actual prize. if both students bid in earnest it’s obvious that the cost will at least go to a dollar and then some, b/c of the egos involved. why am i wasting my time and effort on this?

is there anything to stop me from offering my “competitor” a deal upfront? I won’t bid against you in exchange for a 60/40 split. You bid a penny, i fold, we both turn over a penny, take the dollar and you give me 40 cents. we win, prof loses.

snowburn14 says:

Re: i don't get it...

While this never came up in my own econ classes, I think the scenario is you pay whatever your highest bid was, not (necessarily) the winning bid. So if I bid a penny, you bid $0.99, and I fold, then I’m only out a penny, not $0.99…which is what should have happened if student number 2 thought things through. Or student 1 should’ve started at $0.99 for that matter. Swoopo seems to have diverged from the dollar auction enough to render this strategy impossible (ie the first bidder can’t make a bid so close to the actual price as to deter a second bid, since they don’t decide on the bid price). All in all, well done in my opinion. I wish I had come up with such an effective way to take money from idiots.

Neil Haran (user link) says:

Re: i don't get it...

Can you offer a deal to everyone playing the game? It isn’t just two people…

Besides, this goes back to prisoners dilemma a bit…

Try this exercise, it is a variation on dollar auction..

I have 100 dollars to give you, or I can give you and a friend 150 to split between you… how will you split it?… rationally, it reaches 149.99 for you and 1 cent for your friend because they’re happy to get something instead of nothing…

Petréa Mitchell says:

Not quite the dollar auction

In the dollar auction, the motivation comes from having to pay your entire bid even if you don’t get the dollar. That doesn’t come into play here. This looks more like a cleverly disguised lottery with 75-cent tickets. It *is* similar in that the heat of the moment can cause people to not do the math and realize that they’re going to pay about the same after all the bid fees and paying the final price.

And since it’s not described as a game of chance, I’ll make a totally uneducated guess that it’s actually legal.

Neil (SM) says:

Re: Re: Not quite the dollar auction

Ugh. My reply got cut off above, let me try that again.

I was quoting Petréa Mitchell: “In the dollar auction, the motivation comes from having to pay your entire bid even if you don’t get the dollar. That doesn’t come into play here. This looks more like a cleverly disguised lottery with 75-cent tickets.”

My response, which got cut off:
Each bid costs 75 cents, whether you win or lose. If a player makes enough bids he stands to lose out on all of the bidding-cost money even if he doesn’t win the auction item. So the incentive is the same.

Anonymous Coward says:

I think some people aren’t giving this system enough credit. Yeah, there are idiots who will make the first bid, and continue bidding as the price jumps up, but whoever set this up seems to have learned a lot from eBay snipers.

To ‘win’ you need to be the guy to place the LAST bid — if you make the winning bid on your first try, that’s ideal. The game is made trickier, though, by the fact that each bid prolongs the auction, so the would-be-sniper could be sniped! Thre fact that each bid costs money incentivises people to do just that because they’ve already ‘paid’ for the item.

Concievably it would also discourage some people from making further bids, but I’m not sure how that would play out in reality (people tend not to be rational).

I think it’s actually quite brilliant, and I wouldn’t really compare it to the Dollar Auction per se, though I do concede the similarities.

Leonard says:

i'll just watch for now thank you

I think that this site is ingenious and I wish I had thought of it first too. the only worries that i have are if the items are actually being shipped to the winners and if there are bots placing bids. someone in another thread pointed out that different but similar items (such as laptops)were being sold at multiple sites simultaneously (ie. swoopo’s German site and US site). The laptops weren’t the same, but the bid log for both the sites and the auction counters matched identically. that’s a little worrisome. i’ll continue to watch the site for a few days before i make a decision. i am intrigued though.

Andy says:

Swoopo is like a carnival game where you pay $1 and get three balls. With these three balls you have to knock down three pins off a pedestal. If you succeed, you win a huge teddy bear worth a lot more than a dollar. Have I played? Sure. Have I won the huge teddy bear? Never. Do I think carnival games are a scam? No. The rules are set up so you are not likely to win, but knowing the right strategy you can increase your chances of winning the bear.

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