An Alternative Stock Market Structure that Provides Automatic Liquidity and Reduced Volatility

This paper seeks to reduce the pricing noise inherent in a normal market structure, by requiring more pricing information to be communicated. Rather than individual buy or sell orders, the speci cation of an investor's entire demand function is provided. The demand function speci es how many shares the investor would like to own for all possible prices. The demand functions of all investors can then be aggregated and displayed to the market. This aggregate demand function is used to price securities e ciently. If an investor wishes to withdraw from the market his shares may be redistributed amongst the remaining investors, without any further orders being placed. This ensures liquidity is built into the market and volatility is reduced as a result. To discourage short-term speculation we propose that a Tobin tax be levied whenever a demand function is changed. The Tobin tax encourages demand functions to estimate medium-term price movements and aid price-discovery. We show that the demand curve which maximizes pro t is intimately related to the belief of the fair price.