In a
traditional, "ascending-price" auction, the bid is
raised successively by
buyers until new bids are
exhausted. A
Dutch auction reverses this process: the
seller lowers the selling price in
fixed increments until there is a buyer. This is known as a "descending-price" auction. It was developed in
Amsterdam in the 17th century for the sale of goods in
bulk, such as flowers.
In its modern version the term is used loosely, and it frequently refers to another type of auction called a "second-price auction". This is also called a Vickrey auction after William Vickrey, who won the Nobel Prize for Economics in 1996. In this type of auction, buyers submit sealed bids and the highest bidder wins, but pays the price bid by the second-highest bidder.
For most auctions of a single item, however, an ascending-price auction is still preferred by sellers. A Dutch auction (descending-price or Vickrey) is most frequently used when multiple instances of the same item are for sale, a situation where the ascending-price auction doesn't work well. In the Vickrey version (which for multiple items is now called a "uniform second-price auction"), buyers make sealed bids for one or multiple items. When all bids have been submitted, all buyers pay the price bid by the lowest accepted bid (thus "uniform").
Example: Four Acme gizmos are for sale. The highest bids are:
A: $60
B: $45 (for each of 2 items)
C: $40
D: $38
In this case A, B and C would all win the bid at $40. If only three gizmos were for sale, A and B would win 1 and 2 items respectively, for $45. In the classic descending-price version, by contrast, A would pay $60, B would pay $45, etc.
Dutch auctions are considered by some economists and game theorists to be more "fair" than regular auctions to the buyer because it encourages buyers to bid what they think an item is worth instead of escalating into bidding wars or colluding. Governments frequently use them for, e.g., auctioning off radio spectrum. They also turn out to be fairer than one might expect to sellers, because their structure (especially the second-price type) encourages bidders to adjust bids upward so as not to lose the auction.
Sources:
Encyclopedia Britannica Online, "auction"
Agorics, Inc., "A Survey of Auction Types"
Ebay, section on Dutch Auctions