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Price Manipulation, Dynamic Informed Trading and Tame Equilibria: Theory and Computation

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Abstract

This paper studies the manipulation of prices by using a dynamic version of the Glosten and Milgrom (1985) model with a long-lived informed trader. We make a fundamental contribution by clarifying the conditions under which a unique equilibrium exists, and in what situations this equilibrium involves manipulation of prices by the informed trader. Furthermore, within the unique equilibrium, we characterize bid–ask spreads and show that bid and ask prices are monotonically increasing in the market maker’s prior belief. Finally, we propose a computational method to find equilibria in the model. Our simulation results confirm our theoretical findings and find multiple equilibria in some cases.

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  • Shino Takayama, 2018. "Price Manipulation, Dynamic Informed Trading and Tame Equilibria: Theory and Computation," Discussion Papers Series 603, School of Economics, University of Queensland, Australia.
    • Handle: RePEc:qld:uq2004:603
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    More about this item

    Keywords

    Market microstructure; Glosten–Milgrom; Insider trading; Dynamic trading; Price formation; Sequential trade; Asymmetric information; Bid–ask spreads.;
    All these keywords.

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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