Thursday, November 7, 2013

Halloween and Insider Trading

It does not fail. Each time I teach insider trading there is a piece by a libertarian intended to show why it is harmless and hence should not be made illegal. This op-ed by Tim Harford (The Undercover Economist) appeared in the Financial Times last week: What’s so scary about insider trading?

"It was Halloween on Thursday, so let’s meet a frightening ghoul who haunts our financial markets: the insider trader. The Halloween metaphor is not mine but that of economist Donald Boudreaux, who asks if the insider trader is a genuinely dangerous monster or a comical apparition in a fright mask, fit only for the scaring of children."

This is a summary of the reasons why insider trading should not be illegal according to Prof. Boudreaux:
  1. despite intensive monitoring, it’s hard to detect and even harder to prove. People with inside information can profit by not taking action and that is undetectable.
  2. market prices are supposed to reflect all available information, the better to allocate capital and insider trades simply accelerate the process. 
  3. insider trading is a crime without a victim
Some arguments in favor of banning insider trading are more compelling, though. Take a look at Prof. Strudler's piece on the law of insider trading (click here).

3 comments:

  1. I find Professor Boudreaux's arguments about insider trading unconvincing. I will explain my reasoning behind this by first going through each bullet in the summary above:

    1) Just because an act is undetectable or difficult to prove does not mean that it is not wrong. If someone steals, the fact that it may be difficult to prove or that it may be undetectable would not make the act of stealing moral or even acceptable.
    2) Market prices are supposed to reflect all available information that is available to the public. The Efficient Markets Hypothesis fostered by Eugene Fama, which Professor Boudreaux is alluding to states very clearly that markets become inefficient as soon as insider trading occurs. When a retail investor or institutional investor gains access to insider information and trades on it, the market as a whole suffers. The argument that insider trades accelerate the process of relaying information to the rest of the market is unjustified because this information is not for the inside traders to know, let alone trade on.
    3) Insider trading is a crime with many victims and these victims are the retail investors of the world. I do not mean to generalize, but it is easily observable that large institutional investors are those primarily being alleged and fined for insider trading. All that means is that the retail investors of the world like the neighborhood barbers, the taxi drivers, the teachers, and more, feel like they are at an even larger disadvantage in the market against institutional investors than they already are. This will result in a decrease in confidence in the market, and retail investors pulling their money out of markets because of the lack of confidence in a level playing field. To go one step further, the decline in retail investors in the world will severely shrink and damage the global economy with a decline in money circulation in financial markets.

    I do not think that insider trading should be tolerated. It does not matter if you analyze it through the eyes of a deontologist, utilitarian, or supporter of virtue ethics, insider trading is morally wrong. A deontologist would reject any "good" or "moral" motive an insider trader would use. A utilitarian would examine the overall negative consequences that can be caused by insider trading and deem it immoral. Lastly, one who endorses virtue ethics would not endorse insider trading because the trait associated with it would be one of deception or taking advantage of another's lack of knowledge.

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  2. I agree with Anthony's take on Professor Boudreaux's argument about insider trading. I think that insider trading is morally wrong and is not legal.

    On the basis of insider trading being hard to find or difficult to prove, does not make insider trading a legal act. It is sometimes difficult to prove there is fraud in the financials of a Company, but it is well known that fraud is not legal by any means. It is wrong to do this although it may be difficult to prove.

    The fact that market prices are supposed to reflect all available information that is available to the public, makes a good argument for why insider trading is wrong. This is because of the fact that insider trading includes information that is not available for all the public to know; therefore, making the financial markets less efficient due to the fact that the market prices will not reflect all available information with insider trading. With excess information, those without it will be at a disadvantage. Thus, leading to the victims of insider trading.

    The victims in this case are all those whom do not have access to inside information. they are the victims because of the fact that they will be making financial decisions based on available knowledge and not on extra knowledge that can help them to make better decisions; therefore, insider trading creates an uneven playing field within the markets. This unfairness creates victims because those without insider information are harmed by the fact that the people with it can make better decisions within the markets and better themselves than the rest.

    Based on the views of utilitarian ethics, kantian ethics, and Rawls theory, we can see why insider trading is wrong. Through the eyes of a utilitarian, we see that insider trading causes much more negative consequences than positive ones because insider information is to the advantage of the very few whom have access to such information and those without it cannot make such well informed decisions within the financial markets. Based on Kantian Ethics, we cannot consistently will that we live in a society where insider trading is present because it will result in a self-contradiction. Meaning that if one was to consistently will such a society then it will ultimately not work due to the fact that people would continue to lose more and more confidence within the markets and soon enough damage the economy by not investing knowing that they cannot compete with the few that have insider information. Based on Rawls theory it is wrong because of the fact that a society with insider information present does not create the greatest benefit of the least-advantaged members of the society as opposed to a society without insider trading.

    ReplyDelete
  3. I agree with Anthony's take on Professor Boudreaux's argument about insider trading. I think that insider trading is morally wrong and is not legal.

    On the basis of insider trading being hard to find or difficult to prove, does not make insider trading a legal act. It is sometimes difficult to prove there is fraud in the financials of a Company, but it is well known that fraud is not legal by any means. It is wrong to do this although it may be difficult to prove.

    The fact that market prices are supposed to reflect all available information that is available to the public, makes a good argument for why insider trading is wrong. This is because of the fact that insider trading includes information that is not available for all the public to know; therefore, making the financial markets less efficient due to the fact that the market prices will not reflect all available information with insider trading. With excess information, those without it will be at a disadvantage. Thus, leading to the victims of insider trading.

    The victims in this case are all those whom do not have access to inside information. they are the victims because of the fact that they will be making financial decisions based on available knowledge and not on extra knowledge that can help them to make better decisions; therefore, insider trading creates an uneven playing field within the markets. This unfairness creates victims because those without insider information are harmed by the fact that the people with it can make better decisions within the markets and better themselves than the rest.

    Based on the views of utilitarian ethics, kantian ethics, and Rawls theory, we can see why insider trading is wrong. Through the eyes of a utilitarian, we see that insider trading causes much more negative consequences than positive ones because insider information is to the advantage of the very few whom have access to such information and those without it cannot make such well informed decisions within the financial markets. Based on Kantian Ethics, we cannot consistently will that we live in a society where insider trading is present because it will result in a self-contradiction. Meaning that if one was to consistently will such a society then it will ultimately not work due to the fact that people would continue to lose more and more confidence within the markets and soon enough damage the economy by not investing knowing that they cannot compete with the few that have insider information. Based on Rawls theory it is wrong because of the fact that a society with insider information present does not create the greatest benefit of the least-advantaged members of the society as opposed to a society without insider trading.

    ReplyDelete