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In the case of mechanism design, i am looking to estimate the welfare gains due to difference in rules of market clearing function. If in the price-time priority order book, the incoming aggressive order matches with order having highest time priority at a given price is from the same firm, then it gets cancelled. in the second mechanism, if there are other orders from other firms at the same price, then the incoming order matches with those orders (despite) having lower time priority and passive order remains as is. How does one go about estimating welfare gains from such a rule change?

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assume a limit order book with best bid/ask at 100/101 with best bid/ask size as 1000 shares and 50 shares. The best bid size of 1000 shares is contributed by 4 different orders. In terms of time priority the orders are contributed by Trader A (100 shares), Trader B (500 shares), Trader C (100 shares) and Trader D (300 shares).

Now - in the first Self Trade Prevention Mechanism - if an order of price 100 and size 100 shares comes from Trader A to sell - then it gets cancelled as the buy order with best price and time priority is of Trader A herself.

In the second mechanism - it states that if at the same price level, there are other traders - then instead of cancelling - we shall allow this incoming order to trade with other traders . So this incoming order of Trader A for 100 shares shall get executed with 500 shares order of Trader B - so finally there shall be a limit order book with best bid/ask at 100/101 with best bid/ask size as 900 shares and 50 shares.

How does one establish and estimate welfare gains of first mechanism via-a-vis second mechanism

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  • $\begingroup$ There is a lot of detail and background missing. I've taught mechanism design for years but have no idea what exactly you are asking. $\endgroup$
    – Michael Greinecker
    Commented Feb 23, 2023 at 17:18
  • $\begingroup$ @MichaelGreinecker have added a basic example - does this help? $\endgroup$
    – shoonya
    Commented Feb 25, 2023 at 6:34
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    $\begingroup$ Mechanism design is a very formal field. What is the environment (agents, types, outcomes, preferences, priors...)? What is the solution concept? $\endgroup$
    – Michael Greinecker
    Commented Feb 25, 2023 at 8:42
  • $\begingroup$ Thanks Michael - this comment has given me a starting point in terms of this paper - mdpi.com/2073-4336/12/2/46. i shall work on it and hopefully ;) $\endgroup$
    – shoonya
    Commented Feb 26, 2023 at 13:31

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