Imagine I ask you to go to the shops and buy me something simple – let’s say 5 tins of beans. You go to the local shops, return with the goods and I pay you for them, together with a tip to compensate you for your efforts. If you do a good job in terms of price and getting all 5 tins quickly, then I might well ask you to do my shopping on a regular basis. But if I discover that you did a poor job and paid over the odds, I won’t ask you again and I’ll suggest to my friends that they don’t either.
Now let’s assume that a law is passed obliging you to drive to every available store and, before you buy a single tin, check all the prices to ensure you are getting me the best price. To make it harder, some of these stores (which only operate in dark alleyways) won’t actually tell you the price or even if they have any beans; all you can do is write down the price you’re prepared to pay on my behalf, leave a note on the counter and come back later to see if you were successful. To make it trickier still, a newcomer arrives in town and starts buying and selling tins of beans between the different stores hoping to exploit tiny differences in their prices. Because he has a faster car than you (and knows about your legal obligation to me) he waits until you are about to visit a particular store, zooms past you and stocks the shelf with tins he bought cheaper elsewhere. So you buy a faster car, but then so does he, and now the roads are full of people driving like maniacs. Accidents start to happen as wrong prices get put on tins and people crash off the roads in the hunt for the elusive beans.
To complete the nightmare, let’s finally assume the lawmakers forgot to include any mechanism that combines all the different prices that were available so that – despite all your efforts – I simply can’t tell whether you have met your obligation to me or not.
The moral in all this is that regulators seem keen to stress that with technology comes responsibility, and yet no one seems prepared to take them to task on whether they are actually making markets any better. Let’s just hope that derivatives markets fare a little better as they run the same gauntlet.