Never say never: Optimal exclusion and reserve prices with expectations-based loss-averse buyers

Abstract

We analyze reserve prices in auctions with independent private values when bidders are expectations-based loss averse. We find that the optimal public reserve price excludes fewer bidder types than under risk neutrality. Moreover, we show that public reserve prices are not optimal as the seller can earn a higher revenue with mechanisms that better leverage the “attachment effect”. We discuss two such mechanisms: i) an auction with a secret and random reserve price, and ii) a mechanism where an auction with a public reserve price is followed by a negotiation if the reserve price is not met. Both of these mechanisms expose more bidder types to the attachment effect, thereby increasing bids and ultimately revenue.