Research Discussion Papers, Bank of Finland
No 21/1999:
Strategic Challenges for Exchanges and Securities Settlement
Markku Malkamäki and Jukka Topi ()
Abstract: A common feature of major trends in securities and
derivative markets is that they facilitate cross-border competition between
financial institutions and markets. These trends include financial
deregulation, technological developments that increase network
externalities and the introduction of the single currency in Europe. This
paper discusses future prospects for stock and derivative exchanges and
securities settlement systems globally in the light of this analytical
framework. The increased contestability of the financial markets opens the
way for a completely new situation where economies of scale and network
effects enable new systems to challenge existing exchanges and settlement
systems. This has already led towards more integrated trading and
settlement infrastructure via mergers, alliances, links, agreements and
other forms of cooperation between existing infrastructure companies. At
the same time new electronic communication networks and electronic
exchanges operated by members of exchanges or off-exchange companies and
Internet brokers have emerged. We expect that economies of scale and scope
and network effects will foster global competition. The business conducted
by brokers and exchanges will tend to converge, thus posing a major
challenge for the management of these businesses. Trading and settlement
services for the most liquid global trading products will, we believe, be
provided by limited liability companies that employ efficient governance
practices. We anticipate that US stock and derivative exchanges will have
to adopt fully electronic trading systems. This might lead to intense
competition between exchanges in the US and globally. We also anticipate
that European alliances will be based on a more efficient operational model
than the models proposed so far. An increase in Internet-routed equity and
derivative trades will lead to partial fragmentation of liquidity. As
technology advances, we expect pooling of liquidity in one of the
networks.
Keywords: exchanges; settlement systems; technology; network externalities; economies of scale; (follow links to similar papers)
38 pages, December 31, 1999
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