Auction Basics: Background for Assessing Proposed Treasury Purchases of Mortgage-
Backed Securities
"Stabilization Act (EESA; H.R. 1424, P.L. 110-343), enacted on October 3, 2008,
authorizes purchases of “troubled assets.” The act passed the Senate on October 1,
2008, passed the House on October 3, 2008, and was signed into law the same day.

The Administration proposed using reverse Dutch auctions to purchase troubled
assets — primarily mortgage-related securities from financial institutions. In reverse Dutch auctions, a buyer purchases multiple objects from private parties at a price set by the last accepted bid. The government has used reverse auctions since the Revolutionary War. Designing efficient reverse Dutch auctions may present some
tradeoffs between enhancing competition among bidders and overpaying for assets
relative to their quality. Careful auction design, however, can help minimize these
problems.

Auctions are especially useful for selling assets whose value to potential owners
is unknown to the seller. Reverse auctions are useful when a buyer does not know
what value sellers place on assets. Auction results could clarify the market value of
troubled assets. The price discovery properties of auctions could stimulate trading
by reducing private traders’ uncertainty about the value of troubled assets..."