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CEP discussion paper
Financial Super-Markets: Size Matters for Asset Trade
P Martin and H Rey
March 2000
Paper No' CEPDP0450:
Full Paper (pdf)

Tags: international macroeconomics; asset trade; transaction costs; incomplete markets

The paper presents a two-country macroeconomic model in which the number of financial assets is endogenous. Imperfect substitutability of assets and international transaction costs give a comparative advantage to large markets, because of demand effects. Agents have more incentives to undertake risky investments on those markets; they can also diversify risk at a lower cost. Prices of financial assets are higher in the large area because asset markets are broader. We also analyse the impact of domestic transaction costs and issuing costs on financial markets and returns. Our theory has important implications for the pattern of international trade in risky assets.