US Treasury Must Use Volume-Constrained Auctions

HOUSTON, October 08, 2008 - Trade Extensions, procurement software provider and specialist in game theory and auction optimisation, urges the US Treasury to use a volume-constrained auction structure instead of ‘simultaneous auctions’ when buying ‘Troubled Mortgage-Related Assets’.

The RFP (Request for Proposal) issued by the US Treasury to Financial Institutions interested providing custodian and auction services highlights the need for the successful party to be able to ‘conduct multiple simultaneous auctions’¹, but this format may not be the most suitable.

Trade Extensions, CEO, Arne Andersson said, “Using simultaneous auctions could mean the process is more luck than judgment and ultimately waste billions of dollars of tax payers’ money.”

When designing the most efficient auction for the sale of the ‘troubled assets’ the US Treasury needs to consider two key points. Firstly, each financial institution looking to sell their assets will have different needs so the auction must be able to allocate different volumes to each seller. Secondly, it is conceivable that some institutions may sell some, but not enough, of their assets to cover their needs. In these situations, the assets that were sold will have been bought in vain – at the tax payers’ expense.

One other drawback with simultaneous auctions is the total available budget is generally always used because it is divided across all lots. This means in a situation where 90% of the budget would save 10 sellers and saving one more would mean going over budget, the government would waste 10% of its budget (and tax payers’ money) to achieve the same result.

One solution to these concerns is to use an auction mechanism that allows sellers to set their own price and volume constraints. This has two key advantages:

1. Sellers will only make bids that represent a meaningful volume for them, so there is less risk a bidder may end up with the wrong volume. A bidder may end up with no volume but this is a better situation for the tax payer than if the bidder won insufficient volume.
2. The total traded does not necessarily add up to 100% of total budget available which means the buyer can achieve a true saving.

Andersson said, “An auction with volume-constrained bids will achieve the best solution for the financial institutions, the government and tax-payers alike.”

-ends-

1 “Notice to Financial Institutions Interested in Providing Custodian, Accounting, Auction Management and Other Infrastructure Services for a Portfolio of Troubled Mortgage-Related Assets” (Section IV, Page 3)
http://www.treas.gov/initiatives/eesa/docs/notice_custodian-services.pdf

Read Arne Andersson’s paper “Saving the Financial System by Buying Troubled Assets” on the Trade Extensions web site: www.tradeextensions.com

About Trade Extensions

Trade Extensions (www.tradeextensions.com) sets new standards for on-line procurement and negotiation. It was set up in 2000 by computer scientists from Uppsala University, Sweden, and the founder and CEO - Arne Andersson - is one of the leaders in the field of algorithm design and sort theory.

The Trade Extensions platform has been used in a large number of volume-constrained auctions where complexity both in terms of number of active bids and number of used constraints is considerably larger than what is required for the sale of Troubled Mortgage-Related Assets.

More information

Niklas Pettifor
Pettifor & Pettifor
niklas@pettifor.com
+44 (0)20 7936 9269

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