Premium Auctions and Risk Preferences1

1 This paper has bene…ted from the communications with Steve Matthews on related issues. The authors also wish to thank Jacob Goeree for suggesting the approach taken in this study, and to Jan Boone, Dan Levin, and Sander Onderstal for helpful comments and discussions. The paper is a signi…cant extension of Chapter 4 of Audrey Hu's Ph.D. thesis " Essays on Auctions, " sponsored by the Netherlands Organization for Scienti…c Research (NWO) via a Rubicon grant (446-09-027), as well as part of a VICI grant (453-03-606). In a premium auction, the seller o¤ers some " pay back, " called premium, to the highest bidders. This paper investigates how the performance of such premium tactic is related to the participants'risk preferences. By developing an English premium auction model with symmetric interdependent values, where both the seller and the buyers may be risk averse (or preferring), we show that a) the premium reduces the riskiness of revenue regardless of the bidders'risk preferences, and b) the premium causes the expected revenue to increase in the bidders' risk tolerance. A " net-premium e¤ect " and a " second-order stochastic dominance e¤ect " are key to these results.