On Insider Trading, Markets, and Negative Property Rights in Information

Few issues have sparked as much debate and disagreement among Law and Economics scholars as the prohibition on insider trading. Ironically, the Supreme Court\u27s attempts in Chiarella v. United States, Dirks v. Securities and Exchange Commission, and, most recently, in United States v. O\u27Hagan to clarify the scope and content of the ban on insider trading, and the subsequent reaction of the Securities and Exchange Commission ( SEC ), have only added fuel to the fire of the academic debate already raging on the issue. The most intriguing feature of the debate on insider trading is that all contributors seek to promote the same goal: enhancing the efficiency and liquidity of securities markets. Substantial disagreement exists, however, as to how the ban on insider trading affects the twin goals of efficiency and liquidity. Critics of the ban on insider trading maintain that permitting insiders to take advantage of inside information is the best way to ensure efficient share prices. Given that insiders have ready access to inside information, critics argue that permitting them to derive private benefit from such information guarantees that new information will reach the market rapidly, and consequently, that share prices will adjust quickly to reflect the new information. By contrast, proponents of the ban contend that repealing it will diminish market efficiency. Since insiders seek to maximize their own gain, not market efficiency, proponents contend that absent a prohibition on insider trading, insiders would withhold valuable information from the market until it is optimal for them to trade, thereby compromising the efficiency of the capital market