TRADING VOLUME AND TRANSACTION COSTS IN SPECIALIST MARKETS

Prior work with competitive rational expectations equilibrium models i ndicates that there should be a positive relation between trading volu me and differences in beliefs or information among traders. We show th at this result is sensitive to whether and how transaction costs are m odeled. In a specialist market with endogenous transaction costs we sh ow that trading volume can be negatively related to the degree of info rmational asymmetry in the market. Our analysis highlights the depende nce of volume on market structure, and our results suggest that the '' volume effects'' of corporate or macroeconomic events reflect a decrea se, rather than an increase, in heterogeneity of beliefs or asymmetry of information.