The term ECN was first used in the 1970s by the U.S. Securities and Exchange Commission (SEC) to define, "any electronic system that widely disseminates to third parties orders entered therein by an exchange market maker or OTC market maker, and permits such orders to be executed against it in whole or in part".
NASDAQ was created following a 1969 American Stock Exchange study which estimated that errors in the processing of handwritten securities orders cost brokerage firms approximately $100 million per year.
The NASDAQ system automated such order processing and provided brokers with the latest competitive price quotes via a computer terminal.
In March 1994, a study by two economists, William Christie and Paul Schultz, noted that NASDAQ bid–ask spreads were larger than was statistically likely, indicating "We are unable to envision any scenario in which 40 to 60 dealers who are competing for order flow would simultaneously and consistently avoid using odd-eighth quotes without an implicit agreement to post quotes only on the even price fractions.
[10] ECNs are generally facilitated by electronic negotiation, a type of communication between agents that allows cooperative and competitive sharing of information to determine a proper price.
Traditional negotiations typically include discussion of other attributes of a deal, such as delivery terms or payment conditions.
Information technology has some potential to facilitate negotiation processes which are analyzed in research projects/prototypes such as INSPIRE, Negoisst or WebNS.
Automated negotiation is a key form of interaction in complex systems composed of autonomous agents.
[12] As an ATS, ECNs exclude broker-dealers' internal crossing networks – i.e., systems that match orders in private using prices from a public exchange.
An analysis of impact of ECNs on NASDAQ found "tighter spreads, greater depths, and less concentrated markets".
As a result, ECNs compete through their ability to attract "more informed orders" during "periods of high volume and return volatility".
However, since both removers and providers of liquidity are necessary to create a market, ECNs must choose their fee structures carefully.
The fee can be determined by the monthly volume provided and removed, or by a fixed structure, depending on the ECN.
In a classic structure, the ECN will charge a small fee to all market participants using their network, both liquidity providers and removers.
Back then, all the prices were created & supplied by Matchbook FX's traders/users, including banks, within its ECN network.
Today, multiple FX ECNs provide access to an electronic trading network, supplied with streaming quotes from the top tier banks in the world.
By trading through an ECN, a currency trader generally benefits from greater price transparency, faster processing, increased liquidity and more availability in the marketplace.