Bidder Welfare in an Auction with a Buyout Option

A buyout option enhances an auction by allowing a bidder to purchase the item at a pre-specified price (instead of attempting to obtain the item by way of auction). A comparison is made between the ex ante welfare of bidders in an auction with a buyout option to a traditional auction with no such option. The impact on bidder welfare is shown to depend upon the distribution from which bidder valuations are drawn. In comparison to a traditional auction with no buyout option, when a buyout option is in place either: all bidders are weakly better off (in which case the option results in an ex ante Pareto improvement) or bidders with “relatively high valuations” are worse off.