Category Archives: Politics

Michael Lewis is right about Wall Street and high frequency trading, Congress must act

This post is co-authored by Stephen Diamond and Jennifer Kuan. Jennifer is an economist based at the Stanford Institute for Economic Policy Research. The post is based in part on an event study we conducted on the impact of Reg. NMS. We will be presenting the paper at the meetings of both ISNIE (Duke) and SASE (Northwestern) this summer.

A firestorm erupted on Wall Street recently sparked by author Michael Lewis’ accusation that the stock markets are “rigged.” Mr. Lewis’ bases his claim on the allegedly manipulative behavior of so-called “high frequency traders,” or HFTs, in today’s financial markets.

Our own study of the changing structure of those markets over several years leads us to conclude Mr. Lewis is correct when he contends many investors trade at a disadvantage to HFTs. We found a significant widening of “spreads,” and therefore costs to investors, following rule changes by the SEC in 2007. Significant structural reform will be needed to restore transparency and fairness to our financial system.

While the issues at stake are complex, the heart of the matter is that HFTs have largely replaced stock exchange “specialists” as intermediaries between buyers and sellers of shares. HFTs trade large volumes of stock, so they claim to provide “liquidity” to the markets. This sounds reassuring to investors who think they can easily buy or sell at reliable and visible prices.

In fact, HFTs are largely free of the obligations and oversight once imposed on specialists by the New York Stock Exchange. HFTs are not mandated to maintain an orderly market like specialists and often disappear at the very moment they are so desperately needed. There is evidence this kind of behavior contributed to events like the “flash crash” of May 2010 as well as the failed IPO of Facebook in 2012.

Exchanges are now eager to profit from HFTs’ vast trading volumes so they help HFTs exploit advantages over other investors, allowing the use of complex and arguably manipulative order types as well as selling them access to data about other investors’ orders. Other enablers of HFTs include the telecommunications firms that allow the HFTs to engage in “fiber arbitrage” to gain privileged high-speed access to data and markets. HFTs use these advantages to move more quickly and flexibly than other investors and thus to trade ahead of ordinary investors at a profit.

The most important enabler, however, is the federal government itself. In 1975 Congress mandated the creation by the SEC of a “national market system.” Congress decided that if the SEC could create computer-based competition with the long dominant New York Stock Exchange’s manual trading floor then costs for the average investor would fall.

The SEC implemented a wave of new rules over the next thirty-five years that did, in fact, reduce trading costs. New electronic markets such as the Nasdaq now compete effectively with the NYSE. Smaller startup companies like Intel, Apple and Microsoft, which did not meet the stringent listing standards of the NYSE, were able to access investor capital on the Nasdaq.

But this was not enough for the SEC. Their goal was an end to the NYSE’s dominance of trading in blue chip firms listed on the NYSE. As the Charlie Sheen character Bud Fox would famously say in the film Wall Street, they were “going after the majors.” One backer of the new approach was Bernie Madoff, who led the automation of the Cincinnati Stock Exchange in the 1980s to draw trading volume away from the NYSE.

The NYSE and the large banks that dominated its board resisted these efforts for many years. But new demand for faster trades from institutional investors provided the political support the SEC needed to push through Regulation National Market System, or Reg. NMS, in 2007.

This was the straw that broke the camel’s back.

Until 2007, despite the earlier rule changes by the SEC, the NYSE still handled more than 80% of the trading volume of companies listed there. The NYSE was a monopoly but it stabilized price changes with narrow spreads using a self-regulatory framework crafted over its 200-year history.

Two features were key to that framework. First, because large underwriting firms wielded significant influence at the non-profit member-owned NYSE, they could and did impose stringent standards on firms that wanted to list their shares on the Exchange. Second, to attract investors to trade on the Exchange those same underwriters insured that floor brokers and specialists behaved fairly. The result was good quality information about listing firms as well as orderly pricing facilitated by specialists in both bull and bear markets.

But Reg. NMS uprooted that system. Brokers could now route their clients’ trades to any electronic venue even if it meant that the client did not get a better price available on the NYSE floor. As a result, the volume of NYSE shares traded off the NYSE exploded. The motivation to own the Exchange in order to attract investors with orderly prices was gone and the underwriters quickly sold the Exchange to public investors.

With stock prices no longer kept in check by the NYSE’s longstanding rules, our study found that spreads widened, volatility increased and the cost to the average investor went up. Congress had a useful idea in 1975 when it helped create a market for risky technology start-ups and other small firms. They need to step in again to deal with the unintended consequences of that important innovation.

 

AAUP national elections: why I am voting to re-elect the “Organizing for Change” slate

National elections for the American Association of University Professors are now underway. An incumbent slate called Organizing for Change is being challenged by the Unity slate which is led by AAUP figures who used to be in power. I am voting to re-elect the Organizing for Change slate and I think if you are an AAUP member in good standing you should do the same.

The reason I support OFC is straightforward. The challenges facing faculty across all sectors of higher education are dramatic and are taking on a momentum that we have probably never experienced in this country. We need a national advocacy group that wants to respond to those challenges aggressively and with creativity. Most importantly we need the AAUP to have real meaning and impact on the ground where it really counts. I think that is the basic goal of OFC and it represents an important and relevant shift in the orientation of the organization. I think for the first time in many years (I have been an AAUP member since I joined my faculty as a junior professor in 1999) the AAUP feels like a real presence not just in Washington but on our campuses where it counts.

Part of what OFC is trying to do is strengthen the collective bargaining arm of the organization. That likely creates some tension in the AAUP because it means a shift in culture and even resources. There is a suggestion by some that this means giving less attention to academic freedom, the issue for which AAUP is best known historically. In reality these two efforts are two sides of the same coin.

This does not mean that collective bargaining is always the right approach or even necessary but it must be a viable part of what we do if we take academic freedom seriously. Why? Because the greatest challenge we face in academia today, whether at the junior college level, or at Berkeley and Harvard, is the change in organizational structure of the university.

A permanent new administrative, if not bureaucratic, caste is taking hold of managerial authority in the universities. Instead of an experienced faculty member spending a few years as a dean or even provost or president and then returning to the teaching faculty, today individuals who take on  those positions have almost uniformly left teaching and research behind forever.

Inevitably, these individuals develop a skill set and outlook that matches that of the corporate executives who now control most university boards of trustees. In turn the trustees and administration increasingly treat faculty not as partners in the governance of an academic institution but as employees of a giant corporation. And indeed as government funding for higher education has receded corporate and foundation spending has ramped up making it appear as if we do work for corporations. Corporate executives, of course, feel more comfortable with deans, provosts and presidents who can talk their language and that often means reassuring the trustees that they can get their faculty “under control.” That has led to a wide range of conflicts with faculty as well as to developments like the widespread use of contingent faculty and the waning of the tenure track.

This turn of events is not healthy for the fundamental purpose of our system of higher education: to generate knowledge in order to help solve social problems while preparing young people to join our society prepared to confront those same problems. Employees or, worse, automatons are not good at original thinking. Control and creativity rarely go well together.

In such a situation the AAUP needs to be a living, breathing organization that has a meaningful presence on campus. In my experience with the OFC leadership they have been successful at helping build that kind of presence. I teach at a relatively small and private institution. While collective bargaining might be helpful there it is not a likely outcome given the legal and political constraints we face. But there is a role for our chapter to raise that issue and even pursue it if our colleagues wish to do so. And a “union outlook” on issues is not a bad way to motivate fellow faculty and stir up discussion of important issues even shy of actual bargaining.

At a minimum AAUP chapters can play an advocacy role that makes issues clear and signals to the administration the limits of their ability to manage the institution without robust shared governance. Right now on our campus it is the only forum for just faculty members to assemble and discuss important issues independently of the administration. And the OFC leadership has been very helpful to me and my fellow AAUP chapter members in understanding how to play a constructive role in an ongoing governance crisis on the campus. They have been there when it counted several times in the last two years.

So, in sum, I think OFC has breathed new life into the AAUP. It does not have all the answers and I have a great deal of respect for the traditions of the organization. I hope that the Unity slate will continue to be an active force but for now I think OFC deserves more time to help  move us ahead as we confront the significant changes impacting higher education today.

 

Egypt now has its Pinochet regime – is the Wall Street Journal happy now?

Hundreds Die as Egyptian Forces Attack Islamist Protesters – NYTimes.com.

Wall Street Journal panics in face of Egyptian revolution

No_(2012_film)As the ordinary Egyptian population stood up and said it was no longer willing to follow Iran and other middle eastern countries into the abyss of authoritarian and fundamentalist Islamist politics, the mouthpiece of western arch-conservatism, the editorial board of the Wall Street Journal, was thrown into a panic. In an editorial published, sadly, on our Independence Day, the paper called for the installation of a Pinochet-like General in Egypt.

Either the Journal has been struck by some kind of severe cognitive disorder that allows it to paint over the history of one of the most brutal regimes to have ever ruled or they really mean it. If the former, they owe their readers and the Chilean and Egyptian people an apology and should retract the statement. If the latter, then they are in fact the leading edge of a new fascism emerging here in America. Since I am not a medical professional, I will simply comment on what it means to suggest that fascism is the right outcome in Egypt.

220px-Missing_1982_filmFirst, for any of my younger readers, if you want a taste of what it means to be for a Pinochet then go to iTunes and download this week’s Editors Choice – the film “NO” which recounts the very final stages of the Pinochet regime, after the blood had been washed off the streets. If you have a stronger stomach, then find a copy of the magnificent Battle of Chile, an important long documentary film that includes amazing and disturbing footage of the Allende era and the imposition of the U.S.-backed brutal Pinochet dictatorship, now viewed as a political model for the middle east by such august figures at the Journal as Paul Gigot, Daniel Henninger and the recent Pulitzer winner Bret Stephens. (Stephens, the recent recipient of a Pulitzer, we have encountered before on these pages – it seems he looks for his ideas all over the place and is not always willing to give proper credit.) The Battle is hard to find but you can also look at Missing the fictional account of an American, Charles Horman, who was kidnapped and tortured to death by Pinochet’s thugs.

PinochetHere is a capsule summary of the Pinochet period, though, just so we are all on the same page: 3,000 murdered; 30,000 tortured; political parties outlawed; trade unions smashed; nearly two decades of brutal repression and fear. Two of those killed were blown up by Pinochet’s secret DINA police force on the streets of Washington D.C. The regime was installed with the not very covert support of Henry Kissinger and the Nixon Administration. Pinochet was feted by “Lady” Margaret Thatcher and other right wing thugs in order to burnish their own domestic reactionary politics. Pinochet’s regime was advised by economists trained in the shock therapy politics developed by Milton Friedman at  the University of Chicago.

For brevity’s sake I will spare readers an account of the book burnings carried out by the regime.

Unknown-1Now that we are all up to speed on what one is talking about when one invokes the name of Pinochet, what does it mean that the Journal would react to the unfolding events in Egypt like this? It means, most likely, that American conservatives are in a full blown panic over the popular uprising we have witnessed there in recent days but not only there. It signals broader panic among the Wall Street and D.C. elite over what is known as the Arab Spring, the region wide unfolding of a new democratic era in a part of the world that has for many decades found itself in the grip of what ever great power rivalries were taking hold in Europe, first, and later, in the cold war, between the great US and Russian blocs. For the first time, the region’s own populations are speaking up independently and saying, as the Chileans did to Pinochet, No.

This kind of democratic uprising is, inevitably, messy and volatile. There is, undeniably, also the presence of opportunistic forces that are not democratic, most clearly the Islamists. That makes the situation particularly complex but does not mean that the overall direction is one we should fear or condemn. Chile was able to make a more peaceful transition but only because a pre-existing political culture that had thrived in a long period of relative stability and democracy prior to the Pinochet period was able to survive underground and re-emerge when the regime finally was pushed aside. Egypt, Syria and Libya do not have that luxury, as they have been either under the direct colonial thumb of imperial powers such as Britain or held down by the local thugs representing post-imperial powers for generations.

Since the great powers have invested billions and many decades in creating the authoritarian regimes now being challenged, it appears to the mouthpieces of those same forces, like the Wall Street Journal, that all is chaos. Even “liberal intellectuals” like Harvard’s Noah Feldman are frightened by the disorderly nature of the popular effort to recreate these long repressed societies. He condemned the Egyptian millions as a “mob” as I explained here.

No doubt, when one is threatened with the loss of a significant investment panic is a reasonable enough reaction. But should they really be surprised that the “order” they imposed on the backs of the middle east is now under challenge?

It is a sign of how the world is turning on its axis now that the Journal would go this far. The Egyptian people are to be congratulated for being among the first to put their shoulder to the wheels of history and pushing.

Let’s hope the American people will find the courage to join them. Then the Journal’s editorial writers can join their fascist comrade in arms Pinochet in the ash can of history.

Review & Outlook: After the Coup in Cairo – WSJ.com.

Egyptian “coup” a function of “triangle of forces” in new era

UnknownCommentators around the web today are in a great confusion. Is it a coup, is  it a revolution? The fact is most of these people have no political experience or historical perspective and so cannot understand what they are witnessing.

Some, however, are desperate to rebuild some order that they can feel comfortable with. Noah Feldman at Harvard falls into the latter category. He dismisses this week’s events in Egypt as a “mob” action. He is unable, more likely unwilling, to acknowledge that this is the next stage in a long process that aims to establish democracy and genuine human freedom in the middle east. He wants social events there and elsewhere to fall into the categories he learned as a young law student. He seems to forget that law is a secondary institution, second to actual social and economic reality. It is important but it is a function of more important social forces.

Feldman suggests the imposition of Morsi – a compromise reached by those very social forces last year – was the result of a rule of law, a constitutional process. But there can be no stable rule of law in a country in the condition that Egypt finds itself until some fundamental social issues are resolved. That is the nature of the revolutionary process that began with the overthrow of the Mubarak regime. The process is far from finished. Wishful thinking by liberals like Feldman will not shorten or simplify that process.

The situation emerging now in Egypt and the middle east, and elsewhere, resembles the “triangle of forces” that characterized the Cold War era. This framework was first described by Hal Draper in his essay on the Czech coup in 1948 (link below). In the Cold War the three basic camps were the wider working class, the emerging new authoritarian bureaucrats led by the Stalinist movement, and a capitalist order that was still on its back in much of the world.

The glue that held the triangle together was the crisis-ridden nature of capitalism itself, a crisis-prone tendency that continues today. The Stalinist movement emerged as an authoritarian movement based on anti-capitalist rhetoric. It aimed to impose a new form of social and economic power that relied on (brutal) bureaucratic and authoritarian institutions to force countries through some form of economic development that could compete with the traditional market based capitalism. Its “success” was based on the its appeal to the victims of capitalist crisis. I used this framework to explain the development of Nicaragua’s Sandinista revolution in my recently published book, Rights and Revolution.

Today, the emerging social forces are somewhat more complex but there is without doubt a new diverse global working class (explored in my book “From ‘Che’ to China”), albeit one without nearly enough work, a new global capitalist elite with allies in new bureaucratic forces in the so-called “emerging market countries,” and an opportunistic authoritarianism taking several forms including and perhaps most significant right now, Islamic fundamentalism, but also found in the movements loosely allied with the fundamentalists like Chavez of Venezuela, the Chinese stalinists and others.

Feldman and those who want to condemn the ouster of Morsi as a “coup” are not, of course, allies of the authoritarian fundamentalist camp. They are, instead, more worried about what they call “chaos” represented by the global working class. Since that is a class they cannot control it sends them into a frenzy as this new social force emerges to exercise power, as workers are doing in so many parts of the world today, whether in the form of Occupy Wall Street or the movements for social equity, transparency and democracy in places like Syria, Turkey and Brazil.

One tactic of those who fear the events in Egypt or Syria is to suggest that they are nothing but tools of the fundamentalist camp. This view point is widely held on the far right. Others, typically among the far left, attempt to dismiss these new movements by saying they are nothing but tools of the CIA. Though emanating from the back benches of global politics these rhetorical interventions serve those front benchers, like Feldman, who want to quell the new movements. These amount to an attempt to flatten the triangular complexity of events into two dimensions and thus force their audience to pick a side, namely their side. Perhaps it is not a surprise that Feldman’s intervention appears on the media outlet of billionaire Michael Bloomberg.

But despite these attempts to dismiss the new movements, there is, in fact, a real and autonomous social and democratic movement emerging in these countries that is not under the thumb of either the CIA or al Qaeda. That is the new reality. It is an inevitable by product of the globalization process that has now replaced the Cold War. Feldman’s “mob,” is, in fact, the new face of humanity struggling to gain its footing in the new era. We in the west should applaud and support its efforts. And there is no better time for us to begin than on the 4th of July weekend.

Hal Draper: The Triangle of Forces (April 1948).

In defense of patent “trolls”

Cheers went up loudly around Silicon Valley today, at least in the C-suites of the large incumbent companies. Why? Because now the President, who has been a heavy fund raiser here in the Valley, is promising to institute reforms of the nation’s intellectual property regime that favor those incumbent companies and potentially harm inventors and entrepreneurs. This follows a recent shift in our patent regime, also heavily tipped in favor of large well established technology companies, that favors those who are the first to file for a patent not the first to invent a new technology.

For years, law firms, academics and lobbyists working for big technology companies like Apple, HP and Intel have been pushing for these kinds of reforms. But the individual entrepreneurs and inventors who have historically been “present at the creation” of these now giant companies are not able to make their voices heard in the same way. They are widely dispersed, often young and without the huge resources of the incumbents.

Many new inventions threaten the existing invested capital of the incumbents and they are in fact worried about the impact they could have on their existing business models. In fact, many new ideas are unable to find investors or are swept up into the giant portfolios that the big companies now assemble and are never heard from again.

That’s why a young Bill Gates in the 1970’s made a passionate defense in favor of the IP rights of writers of software code for startups like his, but years later Gates started attacking the granting of patents to code writers. As Richard Stallman of the Free Software Foundation discovered:

“Here’s what Bill Gates told Microsoft employees in 1991: ‘If people had understood how patents would be granted when most of today’s ideas were invented and had taken out patents, the industry would be at a complete standstill today…A future start-up with no patents of its own will be forced to pay whatever price the giants choose to impose.'”

Of course, Microsoft was fast becoming one of those giants and now it uses that power to back groups like Intellectual Ventures which is scooping up thousands of patents and providing expensive mass licenses to firms that want a moat around their business model. Valley VC’s recently established a firm called RPX that does much the same thing.

It is no surprise then that an older successful Bill Gates was once asked what kept him awake at night and he answered – to an audience in Palo Alto – the fear that two guys in a garage somewhere nearby were developing a new way of doing things that would threaten his business model. Ironically, at that very moment, in the late 90s, Sergey Brin and Larry Page had started a little company called Google, first in their dorm rooms at Stanford and then in a nearby garage.

In other words, when the IP system helped a young Gates he tried to enforce it, when it began to threaten him he found ways to change it. Gates is not alone in this, of course, as Apple and Intel and Cisco and HP and ATT and IBM all do the same thing. But do we ever stop to ask, where will the new forms of these companies come from?

One of the targets of the patent reform movement are companies derisively labelled “trolls.” In the pure form these are companies formed solely to buy up orphaned technology that may have value because it is possible there are infringers out there in the world of existing companies. Thus, these companies provide a valuable secondary market for the exploitation of technology that inventors can no longer afford to pursue. Our entire economy is built on similar kinds of secondary markets, for IP and for financial instruments and for entertainment products, heck, even for used cars.

The advantage of these markets is that inventors know there is at least some value they can get out of their invention even if they cannot build an entire company around it. The existence of this market also signals to incumbent players that they have to play by the rules. I spent eight years on the board of directors of a technology company whose original inventions were trampled on by big players, like AMD, Apple and Intel. That destroyed the company and only an aggressive licensing and litigation strategy helped recover some value for our shareholders.

That (eventually successful) strategy was long, complex, expensive and unpredictable. Now the new reforms will make defending the original ideas of our entrepreneurs and inventors even more difficult.

The bottom line is that in many ways we are all “trolls” now because the pace of innovation is so intense that every inventor and firm must have an aggressive IP strategy, both defensive and offensive.

And yet when firms like the one I helped out as a lawyer and a board member try to defend their own technology, they are dismissed as “trolls.”  When firms like Acacia Research emerge to provide a secondary market for IP that might otherwise be grabbed without compensation by larger players they are dismissed as trolls.

Meanwhile, it is the large incumbent and increasingly less innovative companies that are using their resources to capture the political process in order to defend their slowing business models.

We will all pay a price in a weaker culture of innovation.

Celebrate new year with “Rights and Revolution”

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From the back cover:

The victory of the Sandinista Revolution in Nicaragua in 1979 opened up a major new battleground in the Cold War between east and west. That larger conflict caused many to ignore or misjudge the domestic battle for democratic rights carried out by ordinary Nicaraguans, first against the Somoza dictatorship, and then against the Frente Sandinista, which led the Revolution. In Rights and Revolution: The Rise and Fall of Nicaragua’s Sandinista Movement, political scientist and legal scholar Stephen F. Diamond examines the conflict inside Nicaragua from a viewpoint that is critical of the FSLN, which was allied closely with Cuba and the Soviet Union, and of the United States, which formed a proxy army to overthrow the FSLN regime. Such an independent viewpoint yields important and original insights into the complex relationship between authoritarianism and democracy in the developing world.

Rights and Revolution: The Rise and Fall of Nicaragua’s Sandinista Movement: Stephen F. Diamond: 9781600421860: Amazon.com: Books.

Jerry Tucker, progressive and independent UAW leader

I received the sad news this evening from the midwest that Jerry Tucker, a lifelong progressive and democratic union activist and UAW leader, passed away.

Jerry and I began to work together five years ago when he joined with other UAW activists to oppose the imposition of another wave of cutbacks in wages and benefits of auto workers at the Big Three.

Like Jerry I began to speak out about the attempt to set up a VEBA that would force the UAW to manage a massively underfunded and badly structured health care plan and relieving the Big Three of that responsibility, a benefit fought and won by auto workers over many decades. Eventually I filed a petition with the SEC on behalf of auto workers arguing that the UAW and GM were ignoring their obligation under federal law to provide full disclosure of the impact of the proposed VEBA on union members.

Just as we argued then, the VEBA has indeed proved a disastrous turn for the UAW as a recent Reuters story noted. If the union and GM had disclosed the actual risks that it implied it may never have been imposed. As he was many times before Jerry was right then, too.

Below is a video of a tribute to Jerry at a Labor Notes conference. In addition, take note that there will be a panel discussion of the State of the UAW at UM-Flint on October 28 with Dr. Tom Adams and Gregg Shotwell. Gregg was one of my clients in the petition to the SEC. It would honor Jerry’s memory and lifelong efforts on behalf of the UAW and workers everywhere to attend that meeting and discuss the future of one of our most important labor unions.

Tribute to Jerry Tucker for his contribution to the Labor Movement at the Labor Notes Conference.

A Lost Opportunity? Egypt Said to Arm Libya Rebels

The Wall Street Journal reports that Egypt had begun arms shipments to Libyan rebels. Had this effort been expanded into full blown support by Egypt for their Libyan brethren it might have been enough to turn the tide in Libya and prevent Big Power states led by France and the US from intervening. That would have been a far better outcome for the wider future of the democratic wave sweeping the Middle East and North African region.

Now, however, the Big Powers – which to date have only brought the IMF’s and World Bank’s neo-liberal reforms to the region – will have gained a significant role in influencing the MENA revolution. They will try to shape it in their interests.

In fact, the willingness of Egypt to help Libya may have frightened the US into acting preemptively lest they lose all influence in the region. Of course a key role was also played by “State Department Socialists” like Human Rights Watch and other groups that have developed the theory of “humanitarian intervention” as a new form of fig leaf for Big Power intervention in the region and elsewhere. I have written on this development here.

Egypt Said to Arm Libya Rebels – WSJ.com.