Abstract
We examine how non-competitiveness in financial markets affects the choice of asset portfolios and the determination of equilibrium prices. In our model, potential arbitrage is conducted by a few highly specialized institutional investors who recognize and estimate the impact of their trades on financial prices. We apply a model of economic equilibrium, based on Weretka (http://www.ssc.wisc.edu/~mweretka/Research, 2007a), in which price effects are determined endogenously as part of the equilibrium concept. For the case in which markets allow for perfect insurance, we argue that the principle of no-arbitrage asset pricing is consistent with non-competitive behavior of the arbitragers and extend the fundamental theorem of asset pricing to the non-competitive setting.
This is a preview of subscription content, log in via an institution to check access.
Similar content being viewed by others
References
Aliprantis C., Border K.: Infinite Dimensional Analysis. Springer, Berlin (1999)
Bresnahan T.: Duopoly models with consistent conjectures. Am Econ Rev 71, 934–945 (1981)
Chan K.C., Lakonishok J.: The behavior of stock price around institutional trades. J Fin 50, 1147–1174 (1995)
Giraud G.: Strategic market games: an introduction. J Math Econ 39, 355–375 (2003)
Gompers P., Metrick A.: Institutional investors and equity prices. Quart J Econ 116(1), 229–259 (2001)
Guillemin V., Pollack A.: Differential Topology. Prentice-Hall, NJ (1974)
Hart, O.: Imperfect competition in general equilibrium: an overview of recent work. In: Arrow, K., Honkapohja, S. Frontiers of Economics, Oxford: Blackwell (1985)
Keim D., Madhavan A.: The upstairs market for large-block transactions: analysis and measurement of price effects. Rev Fin Stud 9, 1–39 (1996)
Koutsougeras L.: Non-Walrasian equilibria and the law of one price. J Econ Theory 108, 169–175 (2003)
Koutsougeras L., Papadapoulos K.: Arbitrage and equilibrium in strategic security markets. Econ Theory 23, 553–568 (2004)
Kyle A.: Informed speculation and imperfect competition. Rev Econ Stud 56, 317–356 (1989)
Negishi T.: Monopolistic competition and general equilibrium. Rev Econ Stud 28, 196–201 (1961)
Perold A.: The implementation shortfall: papers versus reality. J Portf Manag 14, 3 (1988)
Rostek, M., Weretka, M.: Term structure of price impact. http://www.ssc.wisc.edu/~mweretka/Research (2007)
Rostek, M., Weretka, M.: Dynamic thin markets. http://www.ssc.wisc.edu/~mweretka/Research (2009)
Shapley L., Shubik M.: Trading using one commodity as a means of payment. J Polit Econ 85, 937–968 (1977)
Shleifer, A., Vishny, R.: The limits to arbitrage. J Fin 52 (1997)
Vayanos D.: Strategic trading and welfare in a dynamic market. Rev Econ Stud 66, 219–254 (1999)
Villanacci A., Carosi L., Benevieri P., Battinelli A.: Differential Topology and General Equilibrium with Complete and Incomplete Markets. Kluwer, Dordrecht (2002)
Weil P.: The equity premium puzzle and the risk-free rate puzzle. J Monet Econ 24(2), 401–421 (1989)
Weretka, M.: Endogenous market power. http://www.ssc.wisc.edu/~mweretka/Research (2007a)
Weretka, M.: Discovery of market power in bilateral oligopoly. http://www.ssc.wisc.edu/~mweretka/Research (2007b)
Zigrand J.P.: A general equilibrium analysis of strategic arbitrage. J Math Econ 40, 923–952 (2004)
Zigrand J.P.: Endogenous market integration, manipulation and limits to arbitrage. J Math Econ 42, 301–314 (2006)
Author information
Authors and Affiliations
Corresponding author
Additional information
A. Carvajal gratefully acknowledges the financial support of the ESRC, through grant RES-000-22-3771, and of a Warwick-RSS grant, as well as the hospitality of the Department of Economics at the University of Wisconsin at Madison.
We are very grateful to an anonymous referee for suggestions that improved the paper. The paper also benefited from its discussion in a variety of conferences and seminars, and we are very grateful to the audiences of all those presentations. We are especially indebted to Pablo Beker, Elchanan Ben-Porath, Julio Dávila, John Geanakoplos, Michael Magill, Alberto Martín, Herakles Polemarchakis, John Quah, Martine Quinzii, Marzena Rostek, Paolo Siconolfi, Peter Sorensen, Dimitri Tsomocos, Dimitri Vayanos, Nicholas Yannelis and Jean Pierre Zigrand, for comments made at various stages of development of the paper, and which helped us improve it.
Rights and permissions
About this article
Cite this article
Carvajal, A., Weretka, M. No-arbitrage, state prices and trade in thin financial markets. Econ Theory 50, 223–268 (2012). https://doi.org/10.1007/s00199-010-0567-5
Received:
Accepted:
Published:
Issue Date:
DOI: https://doi.org/10.1007/s00199-010-0567-5