From Market Making to Matchmaking: Does Bank Regulation Harm Market Liquidity?

71 Pages Posted: 16 Jun 2019 Last revised: 21 Jun 2019

See all articles by Gideon Saar

Gideon Saar

Cornell University - Samuel Curtis Johnson Graduate School of Management

Jian Sun

MIT Sloan School of Management

Ron Yang

Harvard Business School

Haoxiang Zhu

Massachusetts Institute of Technology (MIT) - Sloan School of Management; National Bureau of Economic Research (NBER)

Date Written: May 22, 2019

Abstract

Post-crisis bank regulations raised the market making costs of bank-affiliated dealers. We show that this can, somewhat surprisingly, improve the overall welfare of investors and reduce average transaction costs, despite the increased cost of immediacy. Bank dealers in OTC markets optimize between two parallel trading mechanisms: market making and matchmaking. Bank regulations that increase market making costs intensify competitive pressure from non-bank dealers and incentivize bank dealers to invest in technology that shifts their business towards matchmaking. Thus, post-crisis bank regulations have the (unintended) benefit of replacing the costly balance sheet of banks with a more efficient form of financial intermediation.

Keywords: bank regulation, financial crisis, corporate bonds, liquidity, over-the-counter markets, broker-dealers, Basel 2.5, Basel III, Volcker Rule, post-crisis regulation, market making, matchmaking

JEL Classification: G01, G12, G21, G24, G28

Suggested Citation

Saar, Gideon and Sun, Jian and Yang, Ron and Zhu, Haoxiang, From Market Making to Matchmaking: Does Bank Regulation Harm Market Liquidity? (May 22, 2019). Available at SSRN: https://ssrn.com/abstract=3399063 or http://dx.doi.org/10.2139/ssrn.3399063

Gideon Saar (Contact Author)

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

431 Sage Hall
Ithaca, NY 14853
United States
607-255-7484 (Phone)
607-255-5993 (Fax)

HOME PAGE: https://www.johnson.cornell.edu/Faculty-And-Research/Profile?id=gs25

Jian Sun

MIT Sloan School of Management ( email )

100 Main Street
Cambridge, MA 02142
United States

Ron Yang

Harvard Business School ( email )

Soldiers Field Road
Morgan 270C
Boston, MA 02163
United States

Haoxiang Zhu

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

100 Main Street E62-623
Cambridge, MA 02142
United States

HOME PAGE: http://www.mit.edu/~zhuh

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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