Working Paper: NBER ID: w18251
Authors: Dimitri Vayanos; Jiang Wang
Abstract: In this paper we survey the theoretical and empirical literature on market liquidity. We organize both literatures around three basic questions: (a) how to measure illiquidity, (b) how illiquidity relates to underlying market imperfections and other asset characteristics, and (c) how illiquidity affects expected asset returns. Using a unified model from Vayanos and Wang (2010), we survey theoretical work on six main imperfections: participation costs, transaction costs, asymmetric information, imperfect competition, funding constraints, and search---and for each imperfection we address the three basic questions within that model. We review the empirical literature through the lens of the theory, using the theory to both interpret existing results and suggest new tests and analysis.
Keywords: Market Liquidity; Illiquidity; Asset Returns; Market Imperfections
JEL Codes: D42; D53; D82; D83; G01; G11; G12; G14
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| participation costs (D23) | price impact (lambda) (D41) |
| participation costs (D23) | price reversal (F31) |
| participation costs (D23) | expected returns (G17) |
| transaction costs (D23) | price impact (lambda) (D41) |
| transaction costs (D23) | price reversal (F31) |
| transaction costs (D23) | expected returns (G17) |
| asymmetric information (D82) | price impact (lambda) (D41) |
| imperfect competition (L13) | liquidity supply (E41) |
| imperfect competition (L13) | price dynamics (E30) |