What Is a Double Auction?

Mary McMahon

A double auction is a sales proceeding where buyers and sellers submit bid and ask prices to an auctioneer simultaneously, and this party determines a clearing price for the sale. An auctioneer is not always necessary; the open outcry system used in some stock markets is an example of a double auction where no one mediates between buyers and sellers. This technique can have variable impacts on prices, and may drive them up beyond the point of equilibrium.

Businessman giving a thumbs-up
Businessman giving a thumbs-up

In addition to being a sales technique, the double auction is also a topic of intense study. Social scientists, game theorists, and economists like to look at this model to learn more about the behaviors of buyers and sellers. A deeper understanding of market behaviors can help explain events that appear to be mediated by human activity, like a sudden rise or fall in prices. With a double action, game theory comes into significant play as buyers and sellers jockey for the most advantageous position.

When an auctioneer is involved, this person receives all bids and ask prices and determines the clearing price, the bid that will match up with the greatest number of asks to sell all of the commodity in question. Buyers who bid at that price or higher will pay that price to sellers who asked at or below that price. Sellers who asked too much will not clear, while buyers who underbid will walk away with nothing.

It is possible for a computer to act as the auctioneer in a double auction. The computer solves the equation to move the greatest number of goods, given the prices being asked and offered. This can sometimes result in a stalemate where the differential between the prices is so significant that the parties cannot reach a happy meeting place in the middle. In this situation, it may be necessary to run the auction again to determine a sales price.

Open outcry auctions allow everyone to hear what is being asked and bid. Bidders can up their offers if they want a better chance at meeting an ask price, and askers can also increase their sales prices if they sense that bidders are willing to go higher. This can result in a very rapid price escalation as the sides play off against each other before they hit a price ceiling and trading activity grows less robust. Buyers and sellers adept at locating and taking advantage of that ceiling can stand to make a significant profit through the double auction sales approach.

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