The ideas aren’t new. Unsavory elements of high-speed computerized trading have been a concern since at least May 2010, when the so-called “flash crash” struck US exchanges. (Die-hard market geeks were concerned long before that.) But Michael Lewis’s new book Flash Boys, on the perils of high-speed computerized markets, could still be important if only because it cuts through the dense webbing of jargon and complexity that has proven dangerous to the US financial system and the economy as a whole.
Lewis said it best in the CBS 60 Minutes interview on March 30 that set off the publicity push for his new opus. The book attempts to lay out how high-frequency trading firms effectively skim pennies off millions of stock trades each day. “If it wasn’t complicated, it wouldn’t be allowed to happen,” he says. “The complexity disguises what is happening. If it’s so complicated you can’t understand it, then you can’t question it.”
This problem goes beyond stock markets: The US financial system is awash in unnecessary complexity. And the reasons are simple: Complexity is profitable and it keeps regulators at bay. “The jargon of bankers and banking experts is deliberately impenetrable,” wrote economists Anat Admati and Martin Hellwig in their indispensible The Bankers’ New Clothes. “This impenetrability helps them confuse policy makers and the public.”
What’s fascinating about Lewis’s reporting is that it reveals that it’s not just the general public that doesn’t understand how things work. It’s the biggest names in finance themselves. In an excerpt from the book published in the New York Times, Lewis writes about what happened when a small team—the “Flash Boys” of his title—from Canadian bank RBC, which had been investigating how high-frequency trading worked, started explaining it to Wall Street’s biggest money managers:
The most sophisticated investors didn’t know what was going on in their own market. Not the big mutual funds, Fidelity and Vanguard. Not the big money-management firms like T. Rowe Price and Capital Group. Not even the most sophisticated hedge funds. The legendary investor David Einhorn, for instance, was shocked; so was Dan Loeb, another prominent hedge-fund manager.
Regulators and politicians should take these revelations and run with them. Too often they defer to market experts on issues of financial regulation for fear of looking like they don’t understand how things work. Thanks to Michael Lewis, we now know that pretty much nobody does.