|
Market
Structures n many markets, sellers and buyers face a choice between trading with
middlemen who set bid and ask prices (intermediated trade), searching
for a partner on the other side of the market (direct trade) or not
trading. Examples include markets for second-hand goods, where traders
compete with newspaper advertisements for the business of sellers and
buyers, and financial markets where brokers compete with decentralized
trading mechanisms. Typically, direct trade involves a better price
(because there is no margin interposed between the price the buyer pays
and that received by the seller), but often at some cost, usually owing
to trading frictions. Middlemen, by contrast, often provide liquidity,
thus improving the speed and reliability of trade, but at a less
favourable price because of the middleman’s extracted margin. This market situation raises several questions. First, what
determines the balance between direct and intermediated trade where both
are available, and how do the decisions of sellers and buyers affect
each others’ options? Second, is the outcome of intermediation likely
to be welfare-improving? Third, does disintermediation – when direct
trade replaces intermediated trade – happen at the right time? In
Discussion Paper No. 1539, John Fingleton analyses the
competition between direct and intermediated trade. He shows that, if
the alternative of trading directly exists, middlemen’s supply and
demand depend on both their bid and ask prices. Multiplicity also
prevails. Direct trade does not constrain the market power of middlemen
unless it is frictionless, but its presence does increase welfare. The
author’s results also suggest that the timing of disintermediation is
likely to be suboptimal, with implications, for example, for the
analysis of many financial and food markets, where alternative trade
channels exist. Competition between Intermediated and Direct Trade and the Timing of
Disintermediation Discussion Paper No. 1539, December 1996 (IO) |