A 'Position Paradox' in Sponsored Search Auctions

45 Pages Posted: 1 Sep 2009 Last revised: 15 Oct 2010

Kinshuk Jerath

Columbia University - Columbia Business School

Liye Ma

Carnegie Mellon University - David A. Tepper School of Business

Young-Hoon Park

Cornell University - Samuel Curtis Johnson Graduate School of Management

Kannan Srinivasan

Carnegie Mellon University - David A. Tepper School of Business

Date Written: October 10, 2010

Abstract

We study the bidding strategies of vertically differentiated firms that bid for sponsored search advertisement positions for a keyword at a search engine. We explicitly model how consumers navigate and click on sponsored links based on their knowledge and beliefs about firm qualities. Our model yields several interesting insights and a main counter-intuitive result we focus on is the position paradox." The paradox is that a superior firm may bid lower than an inferior firm and obtain a position below it, yet still obtain more clicks than the inferior firm. Under a pay-per- impression mechanism, the inferior firm wants to be at the top where more consumers click on its link, while the superior firm is better off by placing its link at a lower position as it pays a smaller advertising fee but some consumers will still reach it in the search of a higher-quality firm. Under a pay-per-click mechanism, the inferior firm has an even stronger incentive to be at the top since now it only has to pay for the consumers who do not know the firms' reputations and, therefore, can bid more aggressively. Interestingly, as the quality premium for the superior firm increases, and/or if more consumers know the identity of the superior firm, the incentive for the inferior firm to be at the top may increase. Contrary to conventional belief, we find that the search engine may have the incentive to over-weight the inferior firm's bid and strategically create the position paradox to increase overall clicks by consumers. To validate our model, we analyze a dataset from a popular Korean search engine firm and find that: (i) a large proportion of auction outcomes in the data show the position paradox, and (ii) sharp predictions from our model are validated in the data.

Keywords: sponsored search advertising, search cost, vertical differentiation, bidding strategy, pay-per-impression, pay-per-click

Suggested Citation

Jerath, Kinshuk and Ma, Liye and Park, Young-Hoon and Srinivasan, Kannan, A 'Position Paradox' in Sponsored Search Auctions (October 10, 2010). Johnson School Research Paper Series No. 36-09. Available at SSRN: https://ssrn.com/abstract=1464545 or http://dx.doi.org/10.2139/ssrn.1464545

Kinshuk Jerath (Contact Author)

Columbia University - Columbia Business School ( email )

3022 Broadway
New York, NY 10027
United States

Liye Ma

Carnegie Mellon University - David A. Tepper School of Business ( email )

5000 Forbes Avenue
Pittsburgh, PA 15213-3890
United States

Young-Hoon Park

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

Ithaca, NY 14853-6201
United States
(607) 255-3217 (Phone)

Kannan Srinivasan

Carnegie Mellon University - David A. Tepper School of Business ( email )

5000 Forbes Avenue
Pittsburgh, PA 15213-3890
United States

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