Shill bidding and trust

Shill bidding occurs when the seller enters a bid for her own item. A bidder forms expectations about whether the seller is participating and must decide whether to trust that she is not engaging in what may be viewed as an unkind practice. A trusting individual can be expected to respond differently than an untrusting one. Auctions with the potential for shill bidding allow for trust to be expressed. We design an experiment considering first and second-price auctions with and without the potential for shill bidding. A Trust Game is used to measure trust. We document that the potential for shill bidding leads to lower bids being submitted. Heterogeneous effects are explored. Bidding behavior can be explained in part by one’s level of trust and expectations of other’s trust. In first-price auctions, less trusting individuals submit lower bids and respond to the potential for shill bidding by lowering their bids. In second-price auctions, subjects with lower expectations of the trust others have bid less and respond to shill bidding by further lowering their bid. Second, sellers engage in shill bidding but rarely win. Third, the potential for shill bidding adversely affects revenue and allocative efficiency.