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Author:Bethune, Zachary 

Journal Article
Inefficiency in a Simple Model of Production and Bilateral Trade
We study a simple model of over-the-counter trade with production. We characterize the equilibrium, and we show that the equilibrium is always inefficient, independent of how the trade surplus is split among trade participants. We argue that this is due to a double hold-up problem that it is at the core of models used to study trade in over-the-counter markets. Finally, we show an example, which we interpret as a limiting case of the general model where the inefficiency vanishes.
AUTHORS: Sultanum, Bruno; Bethune, Zachary; Trachter, Nicholas
DATE: 2018-07

Working Paper
Private Information in Over-the-Counter Markets
We study trading in over-the-counter (OTC) markets where agents have heterogeneous and private valuations for assets. We develop a quantitative model in which assets are issued through a primary market and then traded in a secondary OTC market. Then we use data on the US municipal bond market to calibrate the model. We find that the effects of private information are large, reducing asset supply by 20%, trade volume by 80%, and aggregate welfare by 8%. Using the model, we identify two channels through which the information friction harms the economy. First, the distribution of the existing stock of assets is inefficient because some of the efficient trades, which should occur, do not. Second, the total stock of assets is inefficiently low because resale value and liquidity go down due to the information friction. We investigate how much a simple tax/subsidy scheme that spurs issuance of new assets can help mitigate the cost associated with private information and find that it lowers the welfare cost from 8% to approximately 1%.
AUTHORS: Bethune, Zachary; Sultanum, Bruno; Trachter, Nicholas
DATE: 2016-12-21

Working Paper
An Information-Based Theory of Financial Intermediation
We advance a theory of how private information and heterogeneous screening ability across market participants shapes trade in decentralized asset markets. We solve for the equilibrium market structure and show that the investors who intermediate trade the most and interact with the largest set of counterparties must have the highest screening ability. That is, the primary intermediaries are those with superior information?screening experts. We provide empirical support for the model?s predictions using transaction-level micro data and information disclosure requirements. Finally, we study the connection between screening ability and efficiency, and observe that a market where all investors are screening experts?and thus, a market with no private information?may be dominated in terms of welfare by a market with no screening experts.
AUTHORS: Bethune, Zachary; Trachter, Nicholas; Sultanum, Bruno
DATE: 2019-07-02

Working Paper
Asset Issuance in Over-the-Counter Markets
We model asset issuance in over-the-counter markets. Investors buy newly issued assets in a primary market and trade existing assets in a secondary market, where both markets are over the counter. We show that the level of asset issuance and its efficiency depend on how investors split the surplus in secondary market trade. If buyers get most of the surplus in secondary market trade, then sellers do not have incentives to participate in the primary market in order to intermediate assets and the economy has a low level of assets. On the other hand, if sellers get most of the surplus, buyers have strong incentives to participate in the primary market and the economy has a high level of assets. Equilibrium is inefficient for any splitting rule. The result follows from a double-sided hold-up problem in which it is impossible for all investors to take into account the full social value of an asset when trading. We propose a tax/subsidy scheme and show how it restores efficiency. We calibrate our model to match features of the US municipal bond market in order to quantify the effects of the intervention. The intervention leads to large welfare gains and, in response to a financial crisis caused by an aggregate demand shock, makes the crisis less severe and shorter relative to the economy with no intervention.
AUTHORS: Bethune, Zachary; Trachter, Nicholas; Sultanum, Bruno
DATE: 2017-10-20

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