Market Imperfections

Ramon P. DeGennaro
Working Paper 2005-12
July 2005

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Market imperfections affect virtually every transaction in some way, generating costs that interfere with trades that rational individuals make, or would make, in the absence of the imperfection. Understanding these costs gives us insight regarding the total costs of transactions, where to place them, or whether to make them at all. Market imperfections also generate profit opportunities for entrepreneurs who can reduce or eliminate them. Institutions or individuals who can lower costs tracing to imperfections have a competitive advantage and can earn economic rents until competing firms adapt. Imperfections can and do change over time, but they collectively never go to zero. Identifying and solving the underlying business problems linked to these imperfections remain an ongoing challenge and profit opportunity.

JEL classification: G10, G11, G18, G20, G30

Key words: markets, imperfections, transactions, frictions

The author gratefully acknowledges the support of the Research Department at the Federal Reserve Bank of Atlanta. He also thanks Paula A. Tkac and James T. Moser for helpful comments. The views expressed here are the author’s and not necessarily those of the Federal Reserve Bank of Atlanta or the Federal Reserve System. Any remaining errors are the author’s responsibility.

Please address questions regarding content to Ramon P. DeGennaro, SunTrust Professor of Finance, the University of Tennessee, and Visiting Scholar, Research Department, Federal Reserve Bank of Atlanta, 1000 Peachtree Street, N.E., Atlanta, Georgia 30309,, 865-974-1726.