Financial Industry Dynamics

Abstract

We develop a dynamic model of entry, exit, and firm quality in the market for issuance and trading of complex financial securities. Firm quality has two dimensions; security production expertise, which creates a positive externality for other firms, and trading expertise, which allows firms to obtain more favorable prices when trading with other firms. We find that markets that have a greater scope for investment in trading expertise (information) also exhibit greater concentration, firm heterogeneity, fragility, and price dispersion.

Keywords: financial expertise, dynamic oligopoly

JEL Classification: G20,L13, L15