Incentive and Sampling Effects in Procurement Auctions
نویسندگان
چکیده
We study an auction contest for a procurement of innovation. Firms exert effort and the resulting quality of innovation is ex ante uncertain. Given the uncertainty of the quality, there is a trade-off regarding the number of participating firms in the contest: If there are too many firms, they may be discouraged from expanding their investments because each of them has a small chance of winning (incentive effect). At the same time, as the number of participants increases, the procurer has a growing chance of getting a high quality innovation due to the randomness of the quality (sampling effect). Thus, the procurer faces a nontrivial problem of how many firms to invite. We show that when the randomness is large, it is optimal for the buyer to invite as many firms as possible. However, when the randomness vanishes, inviting only two firms is optimal.
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