Optimal Revenue Maximizing Mechanisms in Common-Value Position Auctions

Abstract

We study the optimal mechanism in position auctions in a common-value setting where only ordinal information about the advertisers is posted and auctioneer revenue depends on consumer belief about ad qualities. We show that when bidder valuations are correlated, existence of a simple non-ironed optimal mechanism requires a stronger condition that the usual increasing virtual valuation assumption. With fixed number of positions, the corresponding optimal decision rule (among all mixed and pure strategies) is to allocate the ad positions to advertisers in decreasing order of quality. More importantly, when the search engine also chooses the number of ads to post, ignoring the consumer belief endogeneity will lead to posting too many ads compared to what maximizes the search engine revenue. We also show that when only one ad position is available, the optimal allocation rule uses a reserve price which is higher than what is implied by Myerson 1981 seminal work. Finally, we characterize the optimal mechanism when cardinal information about advertiser quality is posted, and we provide results on how search engine revenue compares under the two regimes.