Dealers as Information Intermediaries in Over-the-Counter Markets

Abstract

We model an OTC market in which informed customers and liquidity customers trade bilaterally and non-anonymously with dealers who know the types of their customers. Dealers not only provide liquidity, but also acquire information from informed customers and resell it to liquidity customers. Dealers willingly offer more favorable pricing terms to a selective subset of informed customers than to liquidity customers, and liquidity customers willingly pay higher trading costs to larger dealers. Dealers can acquire less than socially optimal levels of information from informed customers if dealers themselves can produce information.

Keywords: Dealer, Decentralization, Intermediation, Liquidity, OTC, Private Information, Trading

JEL Classification: G1, G11, G12, G21, D83, D53, D61