Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/253461 
Year of Publication: 
2020
Citation: 
[Journal:] Theoretical Economics [ISSN:] 1555-7561 [Volume:] 15 [Issue:] 4 [Publisher:] The Econometric Society [Place:] New Haven, CT [Year:] 2020 [Pages:] 1669-1712
Publisher: 
The Econometric Society, New Haven, CT
Abstract: 
We show that trade frictions in OTC markets result in inefficient private liquidity provision. We develop a dynamic model of market-based financial intermediation with a two-way interaction between primary credit markets and secondary OTC markets. Private allocations are generically inefficient because investors and firms fail to internalize how their actions affect liquidity in secondary markets. This inefficiency can lead to liquidity that is suboptimally low or high compared to the second best, providing a rationale for the regulation and public provision of liquidity. Moreover, our model characterizes a transmission channel of quantitative easing or tightening operating through liquidity premia.
Subjects: 
Liquidity provision
market liquidity
over-the-counter markets
quantitative easing
quantitative tightening
monetary policy normalization
JEL: 
E44
G18
G30
Persistent Identifier of the first edition: 
Creative Commons License: 
cc-by-nc Logo
Document Type: 
Article

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