🤖 AI Summary
This study compares the social welfare efficiency of three market mechanisms: continuous double auctions with transparent order books, dark pools featuring opaque order books, and periodic batch auctions. By modeling these mechanisms as queueing systems within a game-theoretic framework, the analysis characterizes heterogeneous traders’ equilibrium strategies in balancing execution prices, waiting costs, and transaction costs. The results demonstrate that dark pools, through strategic information design that eliminates timing-based strategic behavior, achieve the highest ex ante social welfare under moderate order arrival rates and limited adverse selection, yielding the welfare ranking \(W^{\text{DARK}} > W^{\text{LIT}} > W^{\text{BATCH}}\). The analysis is further extended to settings with asymmetric information and endogenous venue choice, revealing that matching efficiency is jointly determined by information structure and service protocols.
📝 Abstract
We develop a game-theoretic framework that compares welfare efficiency across three market mechanisms: continuous double auctions with transparent order books (lit exchanges), opaque order books (dark pools), and periodic batch auctions. Each mechanism is modeled as a queuing system where heterogeneous traders face trade-offs between the execution price, waiting costs, and transaction costs.
Our main result establishes that under moderate arrival rates and bounded adverse selection, dark pools dominate both alternatives in aggregate ex-ante welfare. Observable order books create costly strategic timing games in which traders delay or rush submissions to optimize their position in the queue, generating wasteful social waiting costs. Opaque order books eliminate these timing games through information design.
We formally characterize the equilibrium strategies in each mechanism and prove the welfare ranking $W^{DARK} > W^{LIT} > W^{BATCH}$. Extensions incorporate asymmetric information and endogenous venue choice. The results demonstrate how the information structure and the discipline of the service jointly determine efficiency in strategic matching environments.