The Inefficiency of Auctions in Dynamic Stochastic Environments

First and second price auctions are optimal mechanisms for resource allocation in many situations and are used widely. However, unlike the static once-and-for-all situations for which auctions are efficient, in dynamic stochastic environments auctions cannot necessarily support opimal allocations. The potential inefficiency of auctions is demonstrated by example. A computer server is modeled as an M/M/1 system, with heterogeneous users. The optimal allocation of jobs is derived, and it is shown that this allocation cannot be supported as either a first-price or a second-price auction equilibrium.