Comparing Market Mechanism Efficiencies

Abstract

We develop a game-theoretic framework that compares welfare efficiency across three market mechanisms: continuous double auctions with transparent order books (lit exchanges), opaque order books (dark pools), and periodic batch auctions. Each mechanism is modeled as a queuing system where heterogeneous traders face trade-offs between the execution price, waiting costs, and transaction costs. Our main result establishes that under moderate arrival rates and bounded adverse selection, dark pools dominate both alternatives in aggregate ex-ante welfare. Observable order books create costly strategic timing games in which traders delay or rush submissions to optimize their position in the queue, generating wasteful social waiting costs. Opaque order books eliminate these timing games through information design. We formally characterize the equilibrium strategies in each mechanism and prove the welfare ranking $W^{DARK} > W^{LIT} > W^{BATCH}$. Extensions incorporate asymmetric information and endogenous venue choice. The results demonstrate how the information structure and the discipline of the service jointly determine efficiency in strategic matching environments.