Measuring Welfare Losses in Markets for Ideas: Evidence from Digital Startups Auctions

It is well known that information frictions can make ideas hard to sell. However, due to a lack of pricing data, virtually all studies have focused on how these frictions affect the likelihood of selling ideas rather than on the welfare losses from missed transactions. First, I present a theoretical framework to highlight the importance of this distinction. If the best ideas are the hardest to sell and the idea distribution is skewed, the proportion of welfare lost to frictions could far exceed the proportion of unsold ideas. Next, I demonstrate the practical significance of this distinction by examining online auctions for digital startups. I use the fact that informational frictions are less severe for startups whose revenues are verified by the marketplace. My findings show that revenue-verified startups are only 6.3% more likely to sell but fetch prices that are 2.7 times higher. Simulations reveal that moving from universal access to complete absence of revenue verification reduces gains from trade by 47%. The disproportionate losses are driven by the concentration of potential gains from trade among a few unsold ideas. These results suggest that focusing solely on the number of ideas sold underestimates the true impact of informational frictions.