8

MARKET, INTERMEDIARY, AND INTERNAL GOVERNANCE

As explained in the previous chapter, financial markets, financial intermediaries, and internal finance play complementary roles within the financial system. With respect to financial markets, performance is usually assessed in terms of market efficiency, market liquidity, and information production, and forms of marketplace organization are chosen in attempts to enhance these performance characteristics. Understanding the advantages and disadvantages of market governance is aided by examining the principal capabilities of different market types. For example, public versus private markets, primary versus secondary markets, dealer versus broker markets, and wholesale versus retail markets all display different combinations of capabilities, and as a result align cost-effectively with different classes of deals presenting particular attribute combinations. Under some circumstances, financial markets are the most cost-effective way of allocating financial resources, and these circumstances are examined in greater detail in this chapter.

Intermediary and internal capital allocations provide cost-effective governance in circumstances where market arrangements cannot fully incorporate the complexities of financial deal governance. Here are several reasons why this is so. First, financial intermediaries aggregate information differently than do market agents. Consequently, the aggregate liquidity demands of a group of clients, for example, ...

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