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The role of trading frictions in financial markets

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  • Huber, Samuel
  • Kim, Jaehong

Abstract

We develop a dynamic general equilibrium model to analyze the role of trading frictions in over-the-counter markets. In our model, agents face idiosyncratic preference shocks and a financial market allows them to rebalance their portfolio composed of money and bonds in response to these shocks. We disentangle the effects of search and bargaining on welfare and study each one of them. We show that bargaining is generally welfare-improving, while search frictions are not. This is because search frictions do not only affect the demand for the respective assets, but also their allocation.

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  • Huber, Samuel & Kim, Jaehong, 2019. "The role of trading frictions in financial markets," Journal of Economic Dynamics and Control, Elsevier, vol. 99(C), pages 1-18.
  • Handle: RePEc:eee:dyncon:v:99:y:2019:i:c:p:1-18
    DOI: 10.1016/j.jedc.2018.08.012
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    Cited by:

    1. Huber, Samuel & Kim, Jaehong, 2020. "An overlapping generations model for monetary policy analysis," European Economic Review, Elsevier, vol. 125(C).
    2. Huber, Samuel & Kim, Jaehong, 2019. "The role of trading frictions in financial markets," Journal of Economic Dynamics and Control, Elsevier, vol. 99(C), pages 1-18.
    3. Huber, Samuel & Kim, Jaehong, 2017. "On the optimal quantity of liquid bonds," Journal of Economic Dynamics and Control, Elsevier, vol. 79(C), pages 184-200.
    4. Constantin ANGHELACHE & Emilia STANCIU & Marius POPOVIC & Alexandru URSACHE, 2016. "Aspects regarding macro-prudential Instruments ensuring financial stability," Romanian Statistical Review Supplement, Romanian Statistical Review, vol. 64(5), pages 83-85, May.
    5. Zannini, Ugo, 2020. "The optimal quantity of money and partially-liquid assets," Journal of Economic Theory, Elsevier, vol. 188(C).

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    More about this item

    Keywords

    Monetary theory; Over-the-counter markets; Search and bargaining;
    All these keywords.

    JEL classification:

    • D47 - Microeconomics - - Market Structure, Pricing, and Design - - - Market Design
    • D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets
    • D62 - Microeconomics - - Welfare Economics - - - Externalities
    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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