Effects of Maker-Taker pricing models on global Bitcoin markets

Underpinning global exchanges and their bottom line is the maker-taker fee model. At the crux of this fee structure is rewarding liquidity provider, the maker, with lower fees or rebates, while charging a higher fee on the taker — the investors who ‘take’ liquidity away from the exchange instantly.

The maker-taker model was introduced into equity markets in 1997 and has been the prevailing fee structure since, under the economic theory that it would tighten the gap between bid and ask prices and, at the same time increasing liquidity on an exchange.

But there has been concern behind maker fee rebates. Chief Investment Officer of Yale University called rebates “kickbacks.” The Financial Times posits that the maker-taker model is “one of the most controversial elements of the US equity market.” Chief Strategy Officer at Bloomberg calls the maker-taker model a “prisoner’s dilemma.”

Retail brokerages Charles Schwab, Scottrade, TD Ameritrade, Fidelity, E* Trade, Edward Jones, and Morgan Stanley, were under investigation for potentially taking advantage of the rebate system against their clients.

And in a move to protect self-interest, the New York Stock Exchange (NYSE) and the Nasdaq began court proceedings by submitting two 400-page petitions last year against the US Securities and Exchange Commission (SEC) to block a pilot program that could see the end of exchange rebates.

But why all the controversy, and how does this affect cryptocurrency markets? ZUBR takes a look behind the economic theory, incentives, and the real effects behind asymmetric fee’s on exchanges.

Key Take-Aways

• While maker rebates increase liquidity initially, the benefits diminish as more high-frequency traders compete against each other reducing profitability and order book size. This leads to less effective markets.

• Price discovery becomes an obvious problem as liquidity providers account for their net trade after rebates. This skews the trading spreads, and the real value across exchanges differs primarily due to fee structures.

• Maker rebates are akin to marketing tactics employed by exchanges to win over liquidity from competitors. The net revenue earned by exchanges is the same as the taker is burdened with the higher cost of trading.

• Maker rebates force passive investors to trade more aggressively in order to access liquidity as spreads are artificially narrowed.

• The US Securities & Exchange Commission has questioned the economic theory and incentives of maker rebates and is piloting a program that could possibly end the model. This would mark a different future for exchanges and trading as investors who ‘take’ liquidity would be better protected from routing practices that forfeit ‘best execution’ price.

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