Working Paper: CEPR ID: DP12525
Authors: Harald Hau; Peter Hoffmann; Sam Langfield; Yannick Timmer
Abstract: New regulatory data reveal extensive discriminatory pricing in the foreign exchange derivatives market, in which dealer-banks and their non-financial clients trade over-the-counter. After controlling for contract characteristics, dealer fixed effects, and market conditions, we find that the client at the 75th percentile of the spread distribution pays an average of 30 pips over the market mid-price, compared to competitive spreads of less than 2.5 pips paid by the bottom 25% of clients. Higher spreads are paid by less sophisticated clients. However, trades on multi-dealer request-for-quote platforms exhibit competitive spreads regardless of client sophistication, thereby eliminating discriminatory pricing.
Keywords: Dealer spreads; Information rents; RFQ platforms; Corporate hedging
JEL Codes: G14; G18; D4
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| client sophistication (L84) | pricing (D49) |
| less sophisticated clients (G29) | spreads (Y60) |
| RFQ platforms (D47) | discriminatory pricing (D49) |
| opacity of OTC market (G10) | information rents (D89) |
| client-dealer relationships (L14) | spreads (Y60) |