Mandatory Disclosure in Oligopolistic Market Making

TL;DR

This paper models how mandatory disclosure affects market liquidity in oligopolistic markets, showing that disclosure reduces trading costs more when market-making competition is weak, validated by empirical analysis of the Sarbanes-Oxley Act.

Contribution

It introduces a multi-period Kyle-type model with mandatory disclosure and imperfect competition, proving equilibrium properties and linking disclosure benefits to market competition levels.

Findings

Disclosure reduces price impact and trading costs.

The marginal benefit of disclosure is larger when market-making competition is weak.

Empirical analysis confirms spread reduction is greater for stocks with fewer market makers.

Abstract

We develop a multi-period Kyle-type model that incorporates both mandatory disclosure of informed trades and imperfect competition among market makers. We prove the existence and uniqueness of a linear equilibrium and show that the liquidity-enhancing effect of disclosure is fundamentally linked to the degree of market-making competition. Disclosure lowers trading costs by reducing price impact, and its marginal benefit is strictly larger when competition is weak. We empirically validate this prediction using the 2002 Sarbanes-Oxley Act disclosure reform as a natural experiment. A difference-in-differences analysis of U.S. equities confirms that the spread reduction following enhanced disclosure is significantly larger for stocks with fewer active market makers.