A Theory of Stock Exchange Competition and Innovation: Will the Market Fix the Market?

Will stock exchanges innovate to address latency arbitrage and the arms race for speed? This paper models how exchanges compete in the modern electronic era and how this shapes incentives for market-design innovation. In the status quo, exchange trading fees are competitive, but exchanges earn econo...

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Bibliographic Details
Published in:The Journal of political economy 2024-04, Vol.132 (4), p.1209-1246
Main Authors: Budish, Eric, Lee, Robin S., Shim, John J.
Format: Article
Language:English
Subjects:
Arms race
Incentives
Innovations
Latency
Race
Rents
Stock exchanges
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Summary:Will stock exchanges innovate to address latency arbitrage and the arms race for speed? This paper models how exchanges compete in the modern electronic era and how this shapes incentives for market-design innovation. In the status quo, exchange trading fees are competitive, but exchanges earn economic rents from selling speed. These rents create a wedge between private and social incentives to innovate and support the persistence of an inefficient market design in equilibrium of a market-design adoption game. We discuss implications for policy and insights for the literatures on market design, innovation, and platforms.
ISSN:0022-3808
1537-534X
DOI:10.1086/727284