Social Optimal Search Intensity in Over-the-Counter Markets

Abstract

This paper analyzes OTC market participants' endogeneous search intensity in competitive equilibrium and social optimal cases. We develop a random search-and-match model where agents (market participants) are allowed to choose and adjust their search intensities based on two idiosyncratic states: asset position and liquidity need. We find that:

[1] in competitive equilibria with different market parameters, agents can switch between the core and periphery on the trading network.

[2] it is the social optimal case that there is no inter-mediation, in the sense that no agent searches at positive speeds on both the buy and sell sides of the market.

In competitive equilibrium, there always exist some agents over-searching and some other agents under-searching. We also discuss related policy implications.

Keywords: endogenous search intensity, social optimal solution, core-periphery network

JEL Classification: G10, G12, G21