Equilibrium interest rate and liquidity premium with transaction costs
AbstractIn this paper we study the effects of transaction costs on asset prices. We assume an overlapping generations economy with two riskless assets. The first asset is liquid while the second asset carries proportional transaction costs. We show that agents buy the liquid asset for short-term investment and the illiquid asset for long-term investment. When transaction costs increase, the price of the liquid asset increases. The price of the illiquid asset decreases if the asset is in small supply, but may increase if the supply is large. These results have implications for the effects of transaction taxes and commission deregulation.
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Bibliographic InfoPaper provided by London School of Economics and Political Science in its series Open Access publications from London School of Economics and Political Science with number http://eprints.lse.ac.uk/453/.
Date of creation: Apr 1999
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Publication status: Published in Economic theory (1999-04) v.13, p.509-539
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Other versions of this item:
- Jean-Luc Vila & Dimitri Vayanos, 1999. "Equilibrium interest rate and liquidity premium with transaction costs," Economic Theory, Springer, vol. 13(3), pages 509-539.
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