Cooling Auction Fever : Underquoting Laws in the Housing Market

This paper presents novel evidence of the effects of bidders' behavioral biases, and sellers' strategic responses, on the outcome of high-stakes auctions. We take advantage of the introduction of real estate “underquoting” laws as a natural experiment. The laws deter the practice of advertising downward-biased listing prices, used to convey distorted signals on sellers' reservation values and to increase the number of auction participants. The introduction of the laws leads to higher listing prices, reducing the bias between listing prices and market valuations by 60%, and to a relative drop in auction sales prices between 2% and 6%. Our findings are not consistent with the predictions of rational models, since underquoting would only attract bidders with low valuations. However, they are consistent with models in which bidders derive subjective utility from winning a bidding contest, or are prone to herding, since in these settings a bidding process involving a larger number of participants is more likely to induce overbidding