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What is the impact of introducing a parallel OTC market? Theory and evidence from the chinese interbank FX market

Craig W. Holden, Dong Lu, Volodymyr Lugovskyy and Daniela Puzzello ()

Journal of Financial Economics, 2021, vol. 140, issue 1, 270-291

Abstract: Chinese interbank foreign exchange trading was originally conducted through a centralized, anonymous limit order book (LOB). We determine the impact of the introduction of a parallel decentralized over-the-counter (OTC) market. We find that: (1) most trading migrated to the OTC, (2) the LOB price function is upward-sloping versus the OTC price function is downward-sloping, and (3) the LOB market has a single price function versus the OTC market has multiple price functions. Next, we develop a theoretical model of parallel markets that can simultaneously explain all of these empirical findings. We test a new model prediction and find support.

Keywords: Market structure; Over-the-counter; Limit-order book; FX market (search for similar items in EconPapers)
JEL-codes: D83 G10 (search for similar items in EconPapers)
Date: 2021
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DOI: 10.1016/j.jfineco.2020.10.004

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