The matching benefits of market thickness

Abstract

The ability of larger markets to mitigate the incentive problem created by private information has been the focus of a sizable economics literature. In contrast, the fact that thicker markets also reduce the double coincidence of wants problem has received little attention. Modeling thin markets as bilateral trade involving independent private values and thick markets as Walrasian markets with a continuum of traders, we analyze and quantify the matching benefits of market thickness. These benefits increase with the nicheness of a product, which we measure as the mass of values and costs outside an interval of overlapping support where there are positive gains from trade. For sufficient nicheness, profit-maximizing intermediaries operating thick markets outperform ex post efficient bilateral trade. However, with bilateral trade as an outside option, traders of niche products are most vulnerable to intermediaries' market power. Extensions consider fixed costs of operating thick markets and finitely thick markets.