Market Liquidity: Order-Driven Auction Markets and Quote-Driven Dealer Markets
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Any asset — real or financial — whether a motor car, a house, shares or an item on eBay, can be traded, i.e. bought or sold in exchange for cash. Motor cars can be bought and sold, relatively slowly, through newspaper ‘small adverts’ or eBay or an immediate sale can be achieved through sale to a motor dealer; a house by advertising in the property section of a newspaper or through an estate agent (realtor). Any of these means of sale are, in effect, ‘search engines’, i.e. a means by which those who wish to buy or sell something can search for each other and, having found each other, agree a price for sale then execute the sale by the exchange of the asset for cash. There are two problems with such transactions. The first is how to agree on the price, which is difficult when an advertisement in the newspaper is used and only one person may respond but which is relatively easy on eBay if an auction is used and many people bid. The second problem is credit risk, i.e. handing over goods before receiving money, or handing over money before receiving goods. Systems like PayPal, as used by eBay, aim to minimise such problems in web-based transactions. In securities markets, mechanisms such as payment against delivery (see Chapter 14) are used try to minimise this risk.
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