Cream Skimming in Financial Markets

Patrick Bolton, Tano Santos and Jose Scheinkman

No 16804, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: We propose an equilibrium occupational choice model, where agents can choose to work in the real sector (become entrepreneurs) or to become informed dealers in financial markets. Agents incur costs to become informed dealers and develop skills for valuing assets up for trade. The financial sector comprises a transparent competitive exchange, where uninformed agents trade and an opaque over-the-counter (OTC) market, where informed dealers offer attractive terms for the most valuable assets entrepreneurs put up for sale. Thanks to their information advantage and valuation skills, dealers are able to provide incentives to entrepreneurs to originate good assets. However, the opaqueness of the OTC market allows dealers to extract informational rents from entrepreneurs. Trade in the OTC market imposes a negative externality on the organized exchange, where only the less valuable assets end up for trade. We show that in equilibrium the dealers' informational rents in the OTC market are too large and attract too much talent to the financial industry.

JEL-codes: G1 G14 G18 G2 G24 G28 (search for similar items in EconPapers)
Date: 2011-02
New Economics Papers: this item is included in nep-ban, nep-ent and nep-fmk
Note: CF
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (45)

Published as Patrick Bolton & Tano Santos & Jose A. Scheinkman, 2016. "Cream-Skimming in Financial Markets," Journal of Finance, American Finance Association, vol. 71(2), pages 709-736, 04.

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Journal Article: Cream-Skimming in Financial Markets (2016)
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