Procuring Innovation Through Bid Preference: An Experiment

Riccardo Camboni (), Luca Corazzini (), Stefano Galavotti () and Paola Valbonesi ()
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Riccardo Camboni: University of Padova
Luca Corazzini: University of Milan Bicocca and Masaryk University Experimental Economics Laboratory
Stefano Galavotti: University of Bari and Masaryk University Experimental Economics Laboratory
Paola Valbonesi: University of Padova

No 331, "Marco Fanno" Working Papers from Dipartimento di Scienze Economiche "Marco Fanno"

Abstract: Procuring innovation involves motivating research efforts to design an innovative project and then implementing that project in a cost effective manner. In this paper, we study how to combine these two goals in a single procurement mechanism. To this end, we run an experiment in which subjects make costly investments in innovation, and then the most innovative project is selected and awarded through a first-price procurement auction. In one of our two treatments, the bidder who proposes the most innovative project in the first stage receives a bid preference in the auction. The theory predicts that the bid preference scheme should indeed boost innovation, but at the cost of a higher awarding price in the auction. Our experimental results confirm the former prediction; however, we find that the bid preference does not result in an extra-payment for the buyer. To explain this puzzle, we search for the presence of a sunk cost fallacy in individuals’ behavior. We provide robust evidence of this bias from two sources. First, in a subsequent Becker-DeGroot-Marschak task played by subjects after the main experimental task, we show that incurring a sunk entry cost causally increases subsequent offers. Second, a Quantal Response Equilibrium model of our procurement of innovation game confirms the presence of a significant reverse sunk cost fallacy. However, the introduction of the bid preference appears to weaken the strength of this bias, which ultimately explains our puzzling result regarding the awarding price.

Keywords: : Procurementof Innovation; Procurement Auctions; Sunk Cost Fallacy; Quantal Response Equilibrium; Laboratory Experiment. (search for similar items in EconPapers)
Pages: 44 pages
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