Benchmarks in Search Markets
We characterize the price-transparency role of benchmarks in over-the-counter markets. A benchmark can, under conditions, raise social surplus by increasing the volume of beneficial trade, facilitating more efficient matching between dealers and customers, and reducing search costs. Although the market transparency promoted by benchmarks reduces dealers' profit margins, dealers may nonetheless introduce a benchmark to encourage greater market participation by investors. Low-cost dealers may also introduce a benchmark to increase their market share relative to high-cost dealers. We construct a revelation mechanism that maximizes welfare subject to search frictions, and show conditions under which it coincides with announcing the benchmark.
We are grateful for useful discussions with and comments from members of the Market Participants Group on Reference Rate Reform (MPG), as well as Ana Babus, Bruno Biais, David Bowman, Gregory Connor, Willie Fuchs, Will Gornall, Brett Green, Terry Hendershott, Gustavo Manso, Jose Moraga-Gonzalez, Konstantin Milbradt, Paul Milgrom, Marzena Rostek, Ali Shourideh, Andy Skrzypacz, Chester Spatt, Jeremy Stein, Gabor Virag, and Xavier Vives. Helpful comments were offered by seminar and conference participants at Stanford University, Princeton University, U.C. Berkeley, Harvard University, MIT, Finance Theory Group, SFS Cavalcade, European Central Bank, Paul Woolley Centre Annual Conference, Barcelona GSE Summer Forum, Western Finance Association annual meeting, Bonn Workshop on Information Aggregation, Society for Economic Dynamics meeting, NBER Summer Institute Asset Pricing meeting, Econometric Society World Congress, Philadelphia Fed Search and Matching Conference, the 11th Central Bank Workshop on Microstructure of Financial Markets, Conference on Monetary Policy Implementation and Transmission in the Post-Crisis Period, and American Finance Association annual meeting. The views expressed herein are those of the authors and do not necessarily reflect the views of the National Bureau of Economic Research.
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DARRELL DUFFIE & PIOTR DWORCZAK & HAOXIANG ZHU, 2017. "Benchmarks in Search Markets," The Journal of Finance, vol 72(5), pages 1983-2044. citation courtesy of