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Trading and Information Diffusion in Over-the-Counter Markets

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  • Peter Kondor

    (Central European University)

  • Ana Babus

    (Imperial College London)

Abstract

We model trading and information diffusion in OTC markets, when dealers can engage in many bilateral transactions at the same time. We show that information diffusion is effective, but not efficient. While each bilateral price partially reveals all dealers' private information after a single round of trading, dealers could learn more even within the constraints imposed by our environment. This is not a result of dealers' market power, but arises from the interaction between decentralization and differences in dealers' valuation of the asset. We apply our framework to confront several explanations for the disruption of OTC markets with stylized facts from the empirical literature. We find more support for narratives emphasizing increased counterparty risk as opposed to increased informational frictions.

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Bibliographic Info

Paper provided by Society for Economic Dynamics in its series 2013 Meeting Papers with number 792.

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Date of creation: 2013
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Handle: RePEc:red:sed013:792

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  1. Xavier Vives, 2009. "Strategic Supply Function Competition with Private Information," CESifo Working Paper Series 2856, CESifo Group Munich.
  2. Ricardo Lagos & Guillaume Rocheteau & Pierre-Olivier Weill, 2007. "Crashes and recoveries in illiquid markets," Working Paper 0708, Federal Reserve Bank of Cleveland.
  3. Kyle, Albert S, 1989. "Informed Speculation with Imperfect Competition," Review of Economic Studies, Wiley Blackwell, vol. 56(3), pages 317-55, July.
  4. Agarwal, Sumit & Chang, Yan & Yavas, Abdullah, 2012. "Adverse selection in mortgage securitization," Journal of Financial Economics, Elsevier, vol. 105(3), pages 640-660.
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Cited by:
  1. Biais, Bruno & Hombert, Johan & Weill, Pierre-Olivier, 2013. "Equilibrium Pricing and Trading Volume under Preference Uncertainty," TSE Working Papers 13-422, Toulouse School of Economics (TSE).
  2. De Kamps, Marc & Ladley, Daniel & Simaitis, Aistis, 2014. "Heterogeneous beliefs in over-the-counter markets," Journal of Economic Dynamics and Control, Elsevier, vol. 41(C), pages 50-68.
  3. Semyon Malamud & Marzena Rostek, 2012. "Decentralized Exchange," Working Papers 12-18, NET Institute.
  4. Andrew G. Atkeson & Andrea L. Eisfeldt & Pierre-Olivier Weill, 2013. "The Market for OTC Derivatives," NBER Working Papers 18912, National Bureau of Economic Research, Inc.

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