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Entry and Exit in OTC Derivatives Markets

Author

Listed:
  • Andrew G. Atkeson
  • Andrea L. Eisfeldt
  • Pierre-Olivier Weill

Abstract

We develop a parsimonious model to study the equilibrium and socially optimal decisions of banks to enter, trade in, and possibly exit, an OTC market. Although we endow all banks with the same trading technology, banks’ optimal entry and trading decisions endogenously lead to a realistic market structure comprised of dealers and customers with distinct trading patterns. We decompose banks’ entry incentives into incentives to hedge risk and incentives to make intermediation profits. We show that dealer banks enter more than is socially optimal. In the face of large negative shocks, they may also exit more than is socially optimal when markets are not perfectly resilient.

Suggested Citation

  • Andrew G. Atkeson & Andrea L. Eisfeldt & Pierre-Olivier Weill, 2014. "Entry and Exit in OTC Derivatives Markets," NBER Working Papers 20416, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:20416 Note: AP CF EFG ME
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    References listed on IDEAS

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    1. Afonso, Gara, 2011. "Liquidity and congestion," Journal of Financial Intermediation, Elsevier, vol. 20(3), pages 324-360, July.
    2. Alessandro Gavazza, 2016. "An Empirical Equilibrium Model of a Decentralized Asset Market," Econometrica, Econometric Society, vol. 84, pages 1755-1798, September.
    3. Emiliano Pagnotta & Thomas Philippon, 2011. "Competing on Speed," NBER Working Papers 17652, National Bureau of Economic Research, Inc.
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    Citations

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    Cited by:

    1. Briana Chang & Shengxing Zhang, 2015. "Endogenous Market Making and Network Formation," Discussion Papers 1534, Centre for Macroeconomics (CFM).
    2. Abbassi, Puriya & Bräuning, Falk & Schulze, Niels, 2017. "Bargaining power and outside options in the interbank lending market," Discussion Papers 31/2017, Deutsche Bundesbank.
    3. Francesca Carapella & Cyril Monnet, 2017. "Dealers' Insurance, Market Structure, And Liquidity," Finance and Economics Discussion Series 2017-119, Board of Governors of the Federal Reserve System (U.S.).
    4. Augustin, Patrick & Subrahmanyam, Marti G. & Tang, Dragon Yongjun & Wang, Sarah Qian, 2014. "Credit Default Swaps: A Survey," Foundations and Trends(R) in Finance, now publishers, vol. 9(1-2), pages 1-196, December.
    5. Liu, Hong & Wang, Yajun, 2016. "Market making with asymmetric information and inventory risk," Journal of Economic Theory, Elsevier, vol. 163(C), pages 73-109.
    6. Gofman, Michael, 2017. "Efficiency and stability of a financial architecture with too-interconnected-to-fail institutions," Journal of Financial Economics, Elsevier, vol. 124(1), pages 113-146.
    7. Shen, Ji & Wei, Bin & Yan, Hongjun, 2016. "Financial Intermediation Chains in an OTC Market," MPRA Paper 74925, University Library of Munich, Germany.
    8. Uslu, Semih, 2015. "Pricing and Liquidity in Decentralized Asset Markets," MPRA Paper 73901, University Library of Munich, Germany, revised 21 Sep 2016.
    9. Chang, Briana & Zhang, Shengxing, 2015. "Endogenous market making and network formation," LSE Research Online Documents on Economics 65105, London School of Economics and Political Science, LSE Library.
    10. Batchimeg Sambalaibat & Artem Neklyudov, 2016. "Endogenous Specialization and Dealer Networks," 2016 Meeting Papers 1041, Society for Economic Dynamics.
    11. repec:aea:aecrev:v:107:y:2017:i:11:p:3320-62 is not listed on IDEAS
    12. repec:eee:jfinec:v:124:y:2017:i:2:p:266-284 is not listed on IDEAS
    13. Shengxing Zhang & Briana Chang, 2015. "Endogenous Market-making and Formation of Trading Links," 2015 Meeting Papers 1227, Society for Economic Dynamics.
    14. Marco D'Errico & Tarik Roukny, 2017. "Compressing Over-the-Counter Markets," Papers 1705.07155, arXiv.org.
    15. Marco D’Errico & Tarik Roukny, 2017. "Compressing over-the-counter markets," ESRB Working Paper Series 44, European Systemic Risk Board.
    16. Chang, Briana & Zhang, Shengxing, 2015. "Endogenous market making and network formation," LSE Research Online Documents on Economics 86275, London School of Economics and Political Science, LSE Library.

    More about this item

    JEL classification:

    • G0 - Financial Economics - - General
    • G1 - Financial Economics - - General Financial Markets
    • G2 - Financial Economics - - Financial Institutions and Services

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