Forthcoming in Review of Finance
Keywords: Equity Trading; Limit Order Markets; Tick Sizes;
JEL Codes: G10; G20
We explore the effects of a "tick size war" in which European exchanges directly competed on the minimum pricing increment in the limit order book, the tick size. We find that the exchanges that reduced their tick size immediately captured the market shares of both quoted and executed volume from the exchanges that kept their ticks large. We find that tick size competition improves market quality, reducing trading costs and increasing aggregate depth and volume. These market quality improvements are strongest in stocks where the bid-ask spread was constrained to one tick, where liquidity providers use the finer pricing grid to engage in price competition.