Market Microstructure in Emerging and Developed Markets

CHAPTER 1

Market Microstructure

An Overview

H. KENT BAKER

University Professor of Finance, Kogod School of Business, American University

HALIL KIYMAZ

Bank of America Professor of Finance, Crummer Graduate School of Business, Rollins College

INTRODUCTION

During the past three decades, a substantial literature on market microstructure has emerged. The interest in market microstructure has grown dramatically, especially since the October 1987 stock market crash. Madhavan (2000) attributes this interest to the rapid structural, technological, and regulatory changes affecting the securities industry worldwide. This literature provides important insights into the operation and behavior of securities markets and into the intraday behavior of asset prices. Madhavan also notes that a major achievement of the microstructure literature is illuminating the black box for determining prices and quantities in financial markets. The current literature also shows how market microstructure affects economic behavior. In short, market microstructure matters.

What is market microstructure? Market microstructure is a branch of financial economics concerned with the details of how exchange occurs in markets. Others offer additional views about market microstructure. According to Harris (2003), market microstructure examines the trading and the organization of markets. O'Hara (1995) views market microstructure as the study of the process and outcomes of exchanging assets under a specific set of rules. ...