Modern Financial Systems: Theory and Applications

CHAPTER 5

Market Governance

Market performance is usually assessed in terms of market efficiency, liquidity, and information production. Marketplaces are usually organized in attempts to enhance these performance characteristics, and examining the principal capabilities of different market types shows how combinations of performance characteristics are used. 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 classes of deals presenting different attribute combinations. The chapter also introduces the nature of securitization markets, whose principal purpose is to enhance the funding of portfolios composed of illiquid investments.

Casual observers of financial systems often describe many different specialized kinds of markets. However, expanding on the view of Chapter 3, financial markets can be distinguished analytically using just a few characteristics. These characteristics include the markets’ cost and revenue functions, the economics of producing information about market-traded assets, and the economics of trading firms. Economic considerations determine the operating and allocative efficiency of any given market, the type and number of agents trading in it, the liquidity of the instruments traded in it,⁵³ and the extent to which price information is revealed by trading. The picture sketched ...