Time to Legalize Insider Trading?

Matthew Yglesias get his Adam Smith on and questions why insider trading is illegal.

After all, one important function of financial markets is supposed to aggregate information so as to price assets correctly and thus guide the allocation of investment. Excluding informed participants from trading subverts the main goal of financial markets’ existence.

Let me back up a second and explain that insider trading is perfectly legal. All that corporate insiders need to do is declare what trades they make with their own stock, how much and when.
What’s illegal is when corporate insiders trade on “non-public” info. Let’s say the CEO knows that the earnings report is going to be terrible, so she dumps her shares ahead of time.
It’s actually a very murky subject. Even the movie Wall Street gets insider trading wrong. Hard as it may be to believe, Bud Fox didn’t do anything illegal (well…except for theft when he was dressed as a janitor). But the dirt he gave to Gekko wouldn’t be a legal issue because all that information was publicly observable. That’s the key. It comes down to what the public can see and what it can’t. The problem with enforcement is that it makes the government label information.
The libertarian argument is that information is information, and it’s a waste of time trying to label what’s known and unknown. Plus, you get Yglesias’ view that it really doesn’t matter since insider trading goes on anyway. (By the way, has anyone mentioned that the SEC’s case against Goldman Sachs was leaked to the New York Times? This is a scandal twice over—once for the deed and again because no one cares.)
Insider trading reminds of arguments in favor of legalizing black mail. I see their point but, darn it, it just seems…wrong. I would still prefer the companies I own prohibit their executives from trading on non-public information. This, of course, is a non-government solution although it exposes execs to civil lawsuits. The goal should be to make all the non-public information public.

Posted by on May 17th, 2010 at 3:15 pm


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