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The no-arbitrage hypothesis and inertia in forward markets

Author

Listed:
  • Jose Luis Ferreira

    (Universidad Carlos III de Madrid)

  • Praveen Kujal

    (Department of Economics, Middlesex University)

  • Stephen Rassenti

    (Economic Science Institute, Chapman University)

Abstract

Allaz (1992) showed that the no-arbitrage condition in forward markets is obtained as a feature of the equilibrium if the model allows for strategic behavior on the part of the buyers. He showed that having active buyers is equivalent to passive buyers plus the no-arbitrage hypothesis. We test this experimentally in a forward market by allowing for active buyer’s under exogenously or endogenously determined market closure. We further test an inertia hypothesis that looks at whether past participation in a spot-market results in quantities being limited in the forward market stage. Importantly, the no-arbitrage condition can only be tested with both real buyers and sellers participating in a forward market. We find that the no-arbitrage hypothesis does not hold. Prices in the forward market are higher than in the spot. The inertia hypothesis is not supported either. Even though almost competitive levels of output are observed, sellers obtain a third of the total surplus. We confirm earlier experimental results on competition enhancing effects of forward markets.

Suggested Citation

  • Jose Luis Ferreira & Praveen Kujal & Stephen Rassenti, 2022. "The no-arbitrage hypothesis and inertia in forward markets," Working Papers 22:02, Chapman University, Economic Science Institute.
    • Handle: RePEc:chu:wpaper:22:02
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    File URL: https://digitalcommons.chapman.edu/esi_working_papers/361/
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    More about this item

    Keywords

    Oligopoly; forward markets; no-arbitrage hypothesis; futures pricing;
    All these keywords.

    JEL classification:

    • L13 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Oligopoly and Other Imperfect Markets
    • C92 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Group Behavior
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing

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