From fallacy to fallacy

– How attempts to stop insider dealing cause the market crashes of the future, why applied diversity is vital and how this marks the death knell for managerialism in politics.algorthmic-trading

Insider dealing is widely seen as behavior bad enough to be made a crime. Certainly it has long been a major regulatory issue.  By way of illustration, the father of ‘classical-liberalism’ also made a fortune from ‘insider dealing’. David Ricardo wanted to be remembered for his work, ’On the Principles of Political Economy and Taxation’.  Although it is little read today, it remains highly influential as the archetypal work of ‘classical-liberal’ economic thinking. What Ricardo wanted people to forget is how he made his money. In 1815, he arranged to have early notice of the outcome of the Battle of Waterloo.  He then created market panic by giving the erroneous impression the French had won and seized the opportunity to buy up British securities at ‘knock-down’ prices. He was then able to sell them at a massive profit once the truth of the British and allied victory was known.  It is believed he ‘netted upwards of a million sterling’, a staggeringly large sum in the early nineteenth century and worth many millions today. Nowadays, such behavior would be called market manipulation, insider dealing and lying – for which he would probably be prosecuted! 

Over the next 200 years, the rules on insider dealing were progressively tightened, generally as part of the response to market crashes and the scandals which gave rise to them. However, having the ‘inside track’, knowing information before others and acting on it before others even know it is key to judging risk, making ‘buy’ and ‘sell’ decisions and, ultimately being a successful market maker and financial trader.  This means that the line between ‘insider dealing’ – which is illegal – and entirely legal up-to-date intelligence of key developments affecting markets and prices, is a fine one.

What most financial legal and regulatory regimes do, over time, is to progressively tighten the rules, constantly expanding the category of activities and behavior classed as criminal and reducing the scope for lawful money-making. The impact is to make legitimate competitive advantage ever more difficult to find and to stop the current generation doing trades and practices regarded as routine in earlier generations. This has unintended consequences.  All investment decisions have to have a basis by which the choice of money use – the investment / buy or sell decision – is made.  Having an inside track is a key one and as the ‘insider-dealing’ laws are tightened and extended, a longstanding and traditional route is lost. This means new alternatives – ones which remain legally available – have to be found: anyone imitating Ricardo today would be in jail!  A record 1,831 suspicious transaction reports (STRs ie cases of suspected insider trading or market manipulation) were sent to the Financial Conduct Authority in 2015. Moreover, the fear of suspicion itself causes many traders to be more conservative in their strategies and not to take the risk of using market expertise – with the direct result that options have been severely limited and that new trading strategies have to be found. All of this helps account for the rise of the ‘tracker’.

In the late 20th century, enabled and assisted by growing automation and computer power, new forms of trading arrived, especially the concept of the tracker.  Although certain finance houses may have given indices a particular weight or tilt, in broad terms, trackers involve everybody doing pretty much the same thing: if you are genuinely tracking a market or set of stocks then, by definition, many trades will be identical responses to the same market movements – and all mutually reinforcing.

As the 20th century turned into the 21st, the sheer growth in computer power and the possibilities it opened allow trackers and their ilk to evolve into algorithmic trading. This is where a new set of fascinating – and entirely unintended – consequence kicks in.  When people are at the top of their game and are all applying equally good technology, all are likely to come up with a more or less identical result.  This explains why, outside the detail, so many modern cars all look the same.  Wind tunnels the world over all produce identical results in terms of what is most aerodynamically efficient and it makes no sense, outside a few superficial aesthetic twiddles, to do anything else. Exactly the same applies to algorithmic trading programs. Once they are achieving real efficiency, all will be pretty much the same – eventually ALL the best ones will be more or less identical.  Human input and interference are removed from the process as computers undertake multiple trades in fractions of a second.  And everybody will be doing many of the same ones.

This in turn has a number of unavoidable consequences: with human agency removed, all market trends become automatically self-reinforcing going massively beyond the original trigger event as responses mutually reinforce one another.  Worse, all market movements will overshoot the limited justified response to the original trigger.

This works of course in both directions: producing both market over-exuberance and falls unjustified by events in the real world beyond trading.  Both will be over-reactions but for real world economies, for the jobs and happiness of ordinary people entirely unconnected with finance or the City, it is the falls which are particularly damaging: confidence is undermined and millions or billions of pounds – or Euros, dollars, Yuan or whatever – are wiped off the value of books, portfolios, property and assets.

A vast wave of automatic selling precipitates a systemic crash.

Furthermore, you cannot solve the problem with process rules.  If people keep within the law, your ‘blocking of the technology’ operates to the same effect on everyone leaving them all still doing the same thing. So, for example, if you impose artificial limits on the speed of computer dealing, everybody at the top end is still doing the same thing at the same speed. And the added expense contributes to a larger problem.  All the new regulation, the extra financial buffers, the new process and compliance requirements all guarantee that banks and institutions which were already deemed ‘too big to fail’ are likely to face even less competition. All the extra bureaucracy has made it even more difficult for new ‘players’ to enter the market or grow large enough to compete.

Certain conclusions are straightforward: rigid rules which cause everybody to act identically – and the uniformity they impose – are, in themselves, a cause of failure because of their unintended but inevitable consequences and, thus a massive systemic risk. Flexibility, diversity of approaches and the resulting different options, behavior, and choices are a NECESSITY for all good governance, the avoidance and spread of risk and the public good.

Outside of UKIP, the British political class simply does not understand this.

Uniform approaches in the name of efficient or managerial government – whether red, blue or blue-yellow – based on the imposition of identical process requirements have their inevitably ‘wind-tunnel design’ effect: they produce a disaster ‘waiting to happen’ – which then eventually but inevitably happens.

With our emphasis on the fact that ‘you can’t have your cake and eat it’ (set out in the booklet ‘The Agenda for The Future’), only we in UKIP ‘get’ it.

It may at times mean that running the party is a bit like ‘herding cats’ but our diversity is not merely what makes us different but also a vital part of our message; ‘on-message’, traditional party clones are not only tedious but they guarantee a disastrous uniformity which will make neither the City nor the country prosperous or happy.

We may once have been branded as the party of loons and clowns but we have evolved into the thinking party: we not merely ‘get’ what others don’t but understand how harmonisation and uniformity eventually corrode happiness and how applied diversity is essential to deliver it.

And with diversity now a vital value in its own right, government by managerialism must be confined to history for it, too, has failed.



Plenary session week 21 2015 - Tobacco agreements  Commission statement

David Coburn MEP, UKIP member of the ECON committee and PANA (the inquiry committee on money laundering, tax avoidance, and evasion)


Tony Brown master

 Tony Brown, policy advisor, EFDD group     

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