Abstract
Much insider trading literature focuses on the redistribution of monetary rents. This focus has led to ambiguous and conflicting results, unable to identify who the clear winners and losers of insider trading legislation are. Lacking any clearly defined beneficiary, an analysis of the origins and continued support of such legislation is lacking. This paper rectifies this omission by reassessing the involved agents not in light of their relationship to a company, but from all roles of the knowledge transmission process: creator, distributor and user. Information distributors—large news companies and investment houses—are argued to be sufficiently well organized to lobby for maintained and strengthened legislation to protect rents that would otherwise be greatly diminished.
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Notes
Varied empirical results reflect these theoretical conflicts. Evidence from Bettis et al. (1998) and Durnev and Nain (2005) confirm that insiders continue to earn gains through the use of non-public information. In contrast, Carlton and Fischel (1983) find alternative evidence that management fails to profit through insider trading, instead settling for reduced salaries.
The extent to which these laws are enforced is not uniform. Roe (2000) finds that left-leaning governments favor the redistribution of property rights (including insider information) away from capital owners and into the hands of employees. Alternatively, corrupt regimes tend to be more insider-based than less corrupt regimes (Polinsky and Shavell 2001; Beny 2002: 21).
Haddock and Macey (1987: 324) note that the inclusion of individual investors could be rendered with a third axis to include individual investors and could be “imagined as a pancake—broad and wide but rather thin.” The weak organization and influence of the individual investors gives them little influence compared to the other two groups.
Or, as Milton Friedman comments on the matter: “You want more insider trading, not less. You want to give the people most likely to have knowledge about deficiencies of the company an incentive to make the public aware of that” (as quoted in Harris 2003).
Increases in knowledge can lead to corresponding increases in “confusion, ignorance, and conceit” (Taleb 2007: 138). This can be analogized to the pouring of red wine into a glass of water. At first the water will turn rose very quickly, but reach a saturation point whereby no effect will be elicited from additional wine. After they are mixed, we will be unable to tell which wine it is that colored the water, and which was added after the saturation point. Likewise, as new information is added to our existing knowledge we are unable to discern which increased the scope of our understanding, and which leads to new confusion surrounding the implications of the greater amount of knowledge we must act upon.
Howden (2010) invokes this argument to demonstrate why the banking system faces increasing data deterioration during an inflationary process. As knowledge of the source of additional credit in the banking system—whether savings or credit induced—is lost the further one is from the original source of the new credit (i.e., the central bank) less understanding is available as to the consequences and profit opportunities of this new credit.
This result is similar to that of the dictator game in Eichenberger and Oberholzer-Gee (1997).
The uncertainty of future success incentivizes one group to favor this insurance policy (Buchanan and Tullock 1962). Agents who expect their future income to be lower than the average favor this redistribution that shifts everyone’s’ income level to the middle, leaving no outliers (either rich or poor).
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I would like to thank Philipp Bagus, Pete Boettke, Tony Carilli, Adam Martin, Frederic Sautet, Tyler Watts, and two anonymous referees for helpful comments. All remaining errors are my own.
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Howden, D. Knowledge flows and insider trading. Rev Austrian Econ 27, 45–55 (2014). https://doi.org/10.1007/s11138-013-0209-9
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DOI: https://doi.org/10.1007/s11138-013-0209-9