The conventional response given to explain the difference between an auction and dealer markets is that auction markets are order driven and dealer markets are quote driven. However this paper argues that there is no fundamental difference between these two alternative trading systems, in the sense that the same set of equilibrium prices will obtain in each market. In dealer markets liquidity is supplied by licensed intermediaries who provide competing price quotes, whereas the auction market allows the free entry of any trader to supply liquidity by permitting the submission of limit orders. In both cases investors face a competitive price schedule, which they can then trade against, and competition between traders in the auction market or between dealers in the dealer market should ensure that liquidity suppliers make no excess profits.
Financial Markets Group Special Papers SP 92