1. What is liquidity in a market (not in a company or with an asset, but in a market)? Why do exchanges tend to be naturally occurring monopolies? Tell the story of how such a monopoly was broken in India by the National Stock Exchange.
In a market, liquidity refers to the forces of demand and supply and on how easy it is for individuals to enter the market and make transactions without making an impact on prices.
Exchanges tend to be natural monopolies because there are not many exchanges in every region, and a given exchange in a given region dominates the market. This gives exchanges the possibility of abusing of their power.
In 1994, there was a monopoly of the BSE (Bombay Stock Exchange), which at the time had 75% of all equity trade in India. It had several minor competitors until the NSE or National Stock Exchange was created in 1994.
The NSE was able to dominate the market and surpass the BSE in a year. The BSE, since the beginning of the 90's had been illegally leveraging the equity market as well as bribing banks, taking advantage of their power and a poor telecommunication infrastructure in India. Since India was opening its market to foreign investment, the BSE was not very attractive for investors. Competition by the NSE stimulated the market and forced the BSE to have clean activities in order to attract investment. The NSE, opposed to the BSE, was a public exchange, and it entered the market with strong telecommunication infrastructure (satellite technology) in order to deal with previous equity trading inefficiencies (payment shares sold could take up to three months instead of two days) and high transaction costs. NSE offered fast and low cost transactions with a transparent governance. Thanks to this,