You can wind up in jail for insider trading. You just need to divulge confidential information that relates to stock activity. It could be a drug test that flopped or a pending corporate acquisition. If you tell your tennis partner who then buys the stock and gives you a Maserati, it is insider trading.
Instead though, what if you tell your brother? And then he tells his future brother-in-law. And then he bases his securities trades on the information. Because no car nor any other tangible benefit was exchanged, it might not be insider trading. In Salman v. United States, the Supreme Court has to decide.
Specifically, the Salman case is about Wall Street. For us though, it is about what economist Tim Harford called “institutionalized trust.”
In a market system, trust matters. Personally, trust can be informal. But for the market, “institutionalized trust” is the core of good governance. Knowing that good governance prevails, market participants can avoid costly detours like bribery. Equally crucial, it can boost per capita incomes, literacy rates and investment in oil exploration.
Looking at Latin America, the IMF (International Monetary Fund) has cited a direct connection between good governance and global competitiveness. Below you can see that while more affluent OECD countries have higher rule of law scores, Latin America’s grades are much worse. However, countries vary. Comparable to developed OECD nations, Chile’s score is vastly better than Venezuela:
Our Bottom Line: Alexander Hamilton
My favorite person, Alexander Hamilton, got it. Whether writing the majority of the Federalist Papers or confirming that a ruthless speculator could be a legal owner of the war debt, Hamilton understood that good governance required institutionalized trust. With Revolutionary War bonds, he knew that the rights of the current holder had to be respected. And thus began a rule of law that spawned the institutionalized trust that a vibrant market required.
Leaping ahead to now, when the Supreme Court tells us whether insider trading requires material benefit, it will redefine the border of our institutionalized trust.
My sources and more: Each related in its own way to good governance, this NY Times article focuses on Salman v. United States, this IMF study looks at Latin America, and this Forbes column from Tim Harford defines institutionalized trust.