9th Symposium on Finance, Banking, and Insurance
Universität Karlsruhe (TH), Germany, December 11 - 13, 2002

Abstract

IMPLICIT COLLUSION IN DEALER MARKETS WITH
DIFFERENT COSTS OF MARKET MAKING

ANDREAS KRAUSE

Universität Freiburg, Switzerland

This paper introduces different costs into the Dutta­Madhavan model of implicit collusion between market makers. It will be shown how different costs of market making influence the possibility of implicit collusion and the price setting. The derived model will then be applied to the case of discrete prices. We will see how the tick size and the location of the reservation prices relative to the price grid affect the price setting. It will be shown which problems arise when examining the developed model in an empirical investigation. It is shown that the empirical evidence may only be very poor, even under ideal circumstances. Finally policy implications are considered.