Working Paper: NBER ID: w24956
Authors: Julien Hugonnier; Benjamin Lester; Pierre-Olivier Weill
Abstract: We extend Duffie, Garleanu, and Pedersen’s (2005) search-theoretic model of over-the-counter asset markets, allowing for a decentralized inter-dealer market with arbitrary heterogeneity in dealers’ valuations or inventory costs. We develop a solution technique that makes the model fully tractable and allows us to derive, in closed form, theoretical formulas for key statistics analyzed in empirical studies of the intermediation process in OTC market. A calibration to the market for municipal securities reveals that the model can generate trading patterns and prices that are quantitatively consistent with the data. We use the calibrated model to compare the gains from trade that are realized in this frictional market with those from a hypothetical, frictionless environment, and to distinguish between the quantitative implications of various types of heterogeneity across dealers.
Keywords: Over-the-Counter Markets; Intermediation; Market Efficiency; Dealer Heterogeneity
JEL Codes: G11; G12; G21
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| dealer characteristics (L81) | trading patterns (F10) |
| trading patterns (F10) | market outcomes (P42) |
| dealer characteristics (L81) | market outcomes (P42) |
| dealer bargaining power (L14) | efficiency of trade execution (G14) |
| intermediation process (D40) | trading efficiency (G14) |
| intermediation process (D40) | market liquidity (G10) |