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Which Inter-dealer Market Prevails? An analysis of inter-dealer trading in opaque markets

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  • Victoria Saporta
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    Abstract

    A number of dealership markets share three common features: customer-dealer trades remain undisclosed, inter-dealer trading forms a substantial part of total trading and dealers have a choice, when dealing with each other, between doing so directly and using an inter-dealer broker (IDB). Using a three-stage market microstructure model, we show that for dealers who have executed undisclosed customer trades, their choice depends on the number of firms who operate as dealers: trading through the IDB being preferable when more than a critical number of dealers participate in the industry and vice versa. Comparative static effects of information asymmetry and market transparency on the critical number of dealers are derived. Subject to a monotonicity constraint, a condition is derived determining which form of inter-dealer market will prevail.

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    Bibliographic Info

    Paper provided by Bank of England in its series Bank of England working papers with number 59.

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    Date of creation: Mar 1997
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    Handle: RePEc:boe:boeewp:59

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    1. Marco Pagano & Ailsa Roell, 1990. "Auction Markets, Dealership Markets and Execution Risk," CEPR Financial Markets Paper 0008, European Science Foundation Network in Financial Markets, c/o C.E.P.R, 77 Bastwick Street, London EC1V 3PZ.
    2. Pagano, Marco, 1986. "Trading Volume and Asset Liquidity," CEPR Discussion Papers 142, C.E.P.R. Discussion Papers.
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    4. Richard K. Lyons, 1993. "Tests of Microstructural Hypotheses in the Foreign Exchange Market," NBER Working Papers 4471, National Bureau of Economic Research, Inc.
    5. Pagano, Marco & Roell, Ailsa, 1996. " Transparency and Liquidity: A Comparison of Auction and Dealer Markets with Informed Trading," Journal of Finance, American Finance Association, vol. 51(2), pages 579-611, June.
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    16. Garbade, Kenneth D, 1978. "The Effect of Interdealer Brokerage on the Transactional Characteristics of Dealer Markets," The Journal of Business, University of Chicago Press, vol. 51(3), pages 477-98, July.
    17. Easley, David & O'Hara, Maureen, 1992. " Time and the Process of Security Price Adjustment," Journal of Finance, American Finance Association, vol. 47(2), pages 576-605, June.
    18. Mark D. Flood, 1991. "Microstructure theory and the foreign exchange market," Review, Federal Reserve Bank of St. Louis, issue Nov, pages 52-70.
    19. James Proudman, 1995. "The Microstructure of the UK gilt market," Bank of England working papers 38, Bank of England.
    20. Richard B. Olsen & Ulrich A. Müller & Michel M. Dacorogna & Olivier V. Pictet & Rakhal R. Davé & Dominique M. Guillaume, 1997. "From the bird's eye to the microscope: A survey of new stylized facts of the intra-daily foreign exchange markets (*)," Finance and Stochastics, Springer, vol. 1(2), pages 95-129.
    21. Benveniste, Lawrence M. & Marcus, Alan J. & Wilhelm, William J., 1992. "What's special about the specialist?," Journal of Financial Economics, Elsevier, vol. 32(1), pages 61-86, August.
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