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Asset prices, trading volumes, and investor welfare in markets with transaction costs

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  • Hara, Chiaki
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    Abstract

    We investigate how an increase in transaction costs affect the equilibrium asset prices and allocations. We find a sufficient condition for an increase in transaction costs to increase buying prices, decrease selling prices, decrease the trading volume, and make all active traders worse off. The sufficient condition is met by a general class of utility functions, which contains all CARA utility functions and even some non-HARA utility functions. As for CRRA utility functions, the class contains all utility functions with CRRA coefficients less than or equal to one. We show that whenever there is an agent with a CRRA coefficient greater than one, an increase in transaction costs may well decrease buying prices and make buyers better off.

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    File URL: http://hermes-ir.lib.hit-u.ac.jp/rs/bitstream/10086/23088/1/cis_dp556.pdf
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    Bibliographic Info

    Paper provided by Center for Intergenerational Studies, Institute of Economic Research, Hitotsubashi University in its series CIS Discussion paper series with number 556.

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    Length: 22 p.
    Date of creation: May 2012
    Date of revision:
    Handle: RePEc:hit:cisdps:556

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    Keywords: general equilibrium; asset markets; transaction costs; Tobin tax; constant absolute risk aversion; constant relative risk aversion;

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    1. Mehra, Rajnish & Prescott, Edward C., 1985. "The equity premium: A puzzle," Journal of Monetary Economics, Elsevier, vol. 15(2), pages 145-161, March.
    2. Constantinides, George M, 1986. "Capital Market Equilibrium with Transaction Costs," Journal of Political Economy, University of Chicago Press, vol. 94(4), pages 842-62, August.
    3. Dow, J. & Rahi, R., 1997. "Should Speculators be Taxed?," Economics Working Papers eco97/21, European University Institute.
    4. James Tobin, 1978. "A Proposal for International Monetary Reform," Cowles Foundation Discussion Papers 506, Cowles Foundation for Research in Economics, Yale University.
    5. Vayanos, Dimitri, 1998. "Transaction Costs and Asset Prices: A Dynamic Equilibrium Model," Review of Financial Studies, Society for Financial Studies, vol. 11(1), pages 1-58.
    6. Epstein, Larry G & Zin, Stanley E, 1989. "Substitution, Risk Aversion, and the Temporal Behavior of Consumption and Asset Returns: A Theoretical Framework," Econometrica, Econometric Society, vol. 57(4), pages 937-69, July.
    7. Merton, Robert C, 1973. "An Intertemporal Capital Asset Pricing Model," Econometrica, Econometric Society, vol. 41(5), pages 867-87, September.
    8. Neil McCulloch & Grazia Pacillo, 2011. "The Tobin Tax A Review of the Evidence," Working Paper Series 1611, Department of Economics, University of Sussex.
    9. Bernard Bensaid & Jean-Philippe Lesne & Henri Pagès & José Scheinkman, 1992. "Derivative Asset Pricing With Transaction Costs," Mathematical Finance, Wiley Blackwell, vol. 2(2), pages 63-86.
    10. Mas-Colell, Andreu & Whinston, Michael D. & Green, Jerry R., 1995. "Microeconomic Theory," OUP Catalogue, Oxford University Press, number 9780195102680, October.
    11. Jürgen Antony & Michiel Bijlsma & Adam Elbourne & Marcel Lever & Gijsbert Zwart, 2012. "Financial transaction tax: review and assessment," CPB Discussion Paper 202, CPB Netherlands Bureau for Economic Policy Analysis.
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    Cited by:
    1. Rieger, Jörg, 2014. "Financial Transaction Tax and Financial Market Stability with Diverse Beliefs," Working Papers 0563, University of Heidelberg, Department of Economics.

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