NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH
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Markets for Financial Innovation

Ana Babus, Kinda Cheryl Hachem

NBER Working Paper No. 25477
Issued in January 2019
NBER Program(s):The Asset Pricing Program, The Corporate Finance Program, The Economic Fluctuations and Growth Program, The Monetary Economics Program

We propose a model where both security design and market structure are endogenously determined to explain why standardized securities are frequently traded in decentralized markets. We find that issuers offer debt contracts in thinner markets where investors have a higher price impact, and equity in deeper markets. In turn, investors accept to trade in thinner markets to elicit less variable securities from issuers if gains from trade are small. Otherwise, investors choose to trade in deeper markets where their price impact is minimized. We also show that there exist equilibrium market structures in which both debt and equity are traded.

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Document Object Identifier (DOI): 10.3386/w25477

 
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