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Rev Fin 2000; 13:385-416
© 2000 the Society for Financial Studies

Article

The opportunity for conspiracy in asset markets organized with dealer intermediaries

TN Cason
Department of Economics, Krannert School of Management, Purdue University, West Lafayette, IN 47907-1310, USA
E-mail: cason@mgmt.purdue.edu

Abstract

This article reports an asset market experiment in which asymmetrically informed traders transact through competing dealers. Dealers face a classic adverse selection problem, because some traders have private information regarding the asset value while other traders are uninformed. When dealers cannot communicate outside the market, they price the asset competitively and the market is generally informationally efficient. When dealers communicate privately between periods, they collude successfully to widen spreads and increase profit. Another treatment permits traders to post limit orders, while still allowing dealers to communicate. Limit orders restore informational efficiency and narrow spreads but cause dealers to earn negative trading profits.


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