What is the Impact of Introducing a Parallel OTC Market? Theory and Evidence from the Chinese Interbank FX Market

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See all articles by Craig W. Holden

Craig W. Holden

Indiana University - Kelley School of Business - Department of Finance

Dong Lu

Renmin University of China

Volodymyr Lugovskyy

Indiana University Bloomington - Department of Economics

Daniela Puzzello

Indiana University Bloomington - Department of Economics

Date Written: July 22, 2020

Abstract

Chinese Interbank Foreign Exchange trading was originally conducted through a centralized, anonymous limit order book (LOB). We determine the impact of the introduction of a parallel decentralized over-the-counter (OTC) market. We find that: (1) most trading migrated to the OTC, (2) the LOB price function is upward-sloping versus the OTC price function is downward-sloping, and (3) the LOB market has a single price function versus the OTC market has multiple price functions. Next, we develop a theoretical model of parallel markets that can simultaneously explain all of these empirical findings. We test a new model prediction and find support.

Keywords: Market structure, Over The Counter, Limit Order Book, FX market

JEL Classification: D83, G10

Suggested Citation

Holden, Craig W. and Lu, Dong and Lugovskyy, Volodymyr and Puzzello, Daniela, What is the Impact of Introducing a Parallel OTC Market? Theory and Evidence from the Chinese Interbank FX Market (July 22, 2020). Available at SSRN: https://ssrn.com/abstract=

Craig W. Holden (Contact Author)

Indiana University - Kelley School of Business - Department of Finance ( email )

Kelley School of Business
1309 E. 10th St.
Bloomington, IN 47405
United States
812-855-3383 (Phone)
812-855-5875 (Fax)

HOME PAGE: http://www.kelley.iu.edu/cholden

Dong Lu

Renmin University of China ( email )

Room B906
Xianjin Building
Beijing, Beijing 100872
China
13522150737 (Phone)
13522150737 (Fax)

Volodymyr Lugovskyy

Indiana University Bloomington - Department of Economics ( email )

Wylie Hall
Bloomington, IN 47405-6620
United States

Daniela Puzzello

Indiana University Bloomington - Department of Economics ( email )

Wylie Hall
Bloomington, IN 47405-6620
United States

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