Subsidizing Liquidity: The Impact of Make/Take Fees on Market Quality

Facing increased competition, over the last decade many stock exchanges changed their trading fees to maker-taker pricing, an incentive scheme that rewards liquidity suppliers and charges liquidity demanders. Using a change in trading fees on the Toronto Stock Exchange, we study whether and why the breakdown of trading fees between liquidity demanders and suppliers matters. Posted quotes adjust after the change in the fee composition, but the transaction costs for liquidity demanders remain unaffected once fees are taken into account. Yet, as posted bid-ask spreads decline, traders, in particular retail, use aggressive orders more frequently, and adverse selection costs decrease.