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Information and Market Power in DeFi Intermediation

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Abstract

This paper considers the “DeFi intermediation chain”—the market structure that underlies the creation and distribution of ETH, the native cryptocurrency of Ethereum—to examine how information asymmetry shapes intermediation rents. We argue that using proof-of-stake blockchain technology in DeFi leads to a novel limit to arbitrage, arising from the tension between arbitrageurs’ privacy needs and blockchain transparency. Using a new dataset which distinguishes private and public transactions in Ethereum, we find that a one percent increase in private information advantage leads to a 1.4 percent increase in intermediaries’ profit share. We develop a dynamic bargaining model that predicts information market power stems exclusively from participants’ private information advantage. Our analysis illustrates how blockchain technology can sustain arbitrage opportunities despite low entry barriers.

Suggested Citation

  • Pablo D. Azar & Adrian Casillas & Maryam Farboodi, 2024. "Information and Market Power in DeFi Intermediation," Staff Reports 1102, Federal Reserve Bank of New York.
    • Handle: RePEc:fip:fednsr:98219
    DOI: 10.59576/sr.1102
    Note: Revised September 2024.
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    References listed on IDEAS

    as
    1. Michael Sockin & Wei Xiong, 2020. "A Model of Cryptocurrencies," NBER Working Papers 26816, National Bureau of Economic Research, Inc.
    2. Jason Milionis & Ciamac C. Moallemi & Tim Roughgarden, 2023. "Automated Market Making and Arbitrage Profits in the Presence of Fees," Papers 2305.14604, arXiv.org.
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    More about this item

    Keywords

    financial intermediation; oligopoly; blockchain; decentralized finance; cybersecurity;
    All these keywords.

    JEL classification:

    • D43 - Microeconomics - - Market Structure, Pricing, and Design - - - Oligopoly and Other Forms of Market Imperfection
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
    • L14 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Transactional Relationships; Contracts and Reputation
    • L22 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Firm Organization and Market Structure

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