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A Puzzle of Microstructure Market Maker Models

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  • Rafael Romeu

Abstract

This study addresses the empirical viability of microstructure models of dealer price setting. New evidence is presented rejecting these models' specifications of how information asymmetry and inventory accumulation affect dealer pricing. This rejection is consistent with those of other dealer-level empirical studies. This study suggests a new modeling option may be to reconsider optimal price setting while relaxing assumptions that specify incoming orders as the only component through which dealer inventories evolve. This approach is consistent with inventory evolution data and with general equilibrium models' assumptions about currency markets.

Suggested Citation

  • Rafael Romeu, 2004. "A Puzzle of Microstructure Market Maker Models," IMF Working Papers 2004/006, International Monetary Fund.
    • Handle: RePEc:imf:imfwpa:2004/006
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    References listed on IDEAS

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    1. H. Henry Cao & Martin D. D. Evans & Richard K. Lyons, 2017. "Inventory Information," World Scientific Book Chapters, in: Studies in Foreign Exchange Economics, chapter 9, pages 363-413, World Scientific Publishing Co. Pte. Ltd..
    2. Stoll, Hans R, 1978. "The Supply of Dealer Services in Securities Markets," Journal of Finance, American Finance Association, vol. 33(4), pages 1133-1151, September.
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    9. Frankel, Jeffrey A. & Rose, Andrew K., 1995. "Empirical research on nominal exchange rates," Handbook of International Economics, in: G. M. Grossman & K. Rogoff (ed.), Handbook of International Economics, edition 1, volume 3, chapter 33, pages 1689-1729, Elsevier.
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    Cited by:

    1. Rafael Romeu, 2003. "An Intraday Pricing Model of Foreign Exchange Markets," IMF Working Papers 2003/115, International Monetary Fund.

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    Keywords

    WP; DM dealer; order flow coefficient; dealer's inventory; microstructure model; price setting;
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