Precautionary Bidding in Auctions

We analyze bidding behavior in auctions when risk-averse bidders bid for an object whose value is risky. We show that, as risk increases, decreasingly risk-averse bidders will reduce their bids by more than the risk premium. Ceteris paribus, bidders will be better off bidding for a more risky object in first-price, second-price, English, and all-pay auctions with affiliated private values. We then extend the results to common value settings. This `precautionary bidding' effect arises because the expected marginal utility of income increases with risk, so bidders are reluctant to bid so highly. We show that precautionary bidding also arises in response to common values risk. This precautionary bidding behavior can make decreasingly risk-averse bidders better off when they face a `winner's curse' than when they do not.