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Imperfect Competition in Derivatives Markets

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  • Christina Brinkmann

    (University of Bonn)

Abstract

Since the push towards central clearing in derivatives markets after the global financial crisis, an open question has been how the development has affected competition. This paper models imperfect competition between dealers in derivatives markets. Two risk-neutral dealers offer derivatives to risk-averse clients with a hedging need, and compete in price (fee) and quality (default probability). I find that with such two-dimensional competition, for given default probabilities, an equilibrium in prices exists that is preferred by both dealers. In this equilibrium the dealer with the lower default probability makes larger profits - a feature, that can produce market discipline to keep the own default probability low. If a central counterparty (CCP) is introduced as an innovation that removes the quality dimension of the competition, this market force pushing for higher qualities vanishes.

Suggested Citation

  • Christina Brinkmann, 2022. "Imperfect Competition in Derivatives Markets," ECONtribute Discussion Papers Series 153, University of Bonn and University of Cologne, Germany.
    • Handle: RePEc:ajk:ajkdps:153
    as

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    File URL: https://www.econtribute.de/RePEc/ajk/ajkdps/ECONtribute_153_2022.pdf
    File Function: First version, 2022
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    References listed on IDEAS

    as
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    More about this item

    Keywords

    Derivatives; OTC Markets; Central Clearing; Imperfect Competition; Vertical Product Differentiation;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
    • L13 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Oligopoly and Other Imperfect Markets
    • L15 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Information and Product Quality

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