Less is More
51 Pages Posted: 10 Nov 2022 Last revised: 13 Feb 2023
Date Written: October 28, 2022
We show in a model of over-the-counter trading that customers in equilibrium may choose to contact very few dealers to incentivize maximum liquidity provision—“less is more.” This happens when dealers’ liquidity supply is sufficiently elastic to competition. This mechanism is orthogonal to conventional concerns, such as contacting or search cost, private information, and relationship. A social planner would mandate even fewer contacts than the market outcome, where customers induce excessive dealer competition. The model predicts endogenous market power, yields implications for regulation and design of electronic platforms, and speaks to customers’ search behavior and their execution quality.
Keywords: over-the-counter markets, dealers, trading connections, request-for-quote
JEL Classification: D1, G1
Suggested Citation: Suggested Citation