Working Paper: CEPR ID: DP13457
Authors: Ana Babus; Kinda Hachem
Abstract: We propose a model where both security design and market structure are endogenously determined to explain why standardized securities are frequently traded in decentralized markets. We find that issuers offer debt contracts in thinner markets where investors have a higher price impact, and equity in deeper markets. In turn, investors accept to trade in thinner markets to elicit less variable securities from issuers if gains from trade are small. Otherwise, investors choose to trade in deeper markets where their price impact is minimized. We also show that there exist equilibrium market structures in which both debt and equity are traded.
Keywords: security design; market structure; price impact
JEL Codes: D47; D86; G23
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Thinner Markets (G19) | Higher Price Impact (G19) |
| Higher Price Impact (G19) | Issuers Offer Debt Contracts (G24) |
| Deeper Markets (D49) | Minimized Price Impact (G19) |
| Minimized Price Impact (G19) | Issuers Offer Equity (G24) |
| Depth of the market (G10) | Type of security issued (G12) |