INTRODUCTION

General equilibrium analysis has identified several forms of externalities as obstacles on the road towards economic efficiency. The First Welfare Theorem fails in the presence of allocative externalities, i.e., when agents care about the physical consumption bundles of others. Akerlof's (1970) famous analysis demonstrated that the First Welfare Theorem may also fail in the presence of informational externalities, i.e., when agents care about the information held by others.

In contrast to general equilibrium analysis, auction theory is based on the premise of individual strategic behavior. This theory offers explicit models of price formation and allocative distribution that can be applied also to small markets. The belief that auctions yield competitive outcomes even if information dispersed is behind the practical appeal of auctions and behind their recent popularity.

Since Walrasian equilibria need not be efficient in the presence of various forms of externalities, it is of interest to understand what are the parallel consequences of external effects in auctions and other related mechanisms. This is the main purpose of the research summarized in the present paper.

Traditionally, the focus of auction theory has been on models that view auctions as isolated events. In practice, however, auctions are often part of larger transactions: For example, in privatization exercises such as license allocation schemes (see Jehiel and Moldovanu, 2003, and the surveys in Janssen, 2004), auctions shape the size and composition of future markets. Thus the auction typically affects the nature of the post-auction interaction among bidders.