insider trading revisited a recent article in this journal argued that insider trading is an unethical practice leading to an inefficiently functioning market the debate on this topic has primarily pitted ethical defenses of prohibition against economic arguments extolling its allowance in addition to being incomplete this approach ignores other unwanted economic effects of prohibition itself and unethical implications of its existence this article shows that adam smith s free market concept when properly interpreted provides all the incentive structure necessary for an efficient and ethical marketplace even when insider trading is permitted

is there a leviathan in your neighborhood this paper measures effects of decentralization in local government hierarchies on local public sector size this sector shrinks if decentralization encourages competition among governments it expands if decentralization sacrifices scale economies in a sample of 3 022 counties larger county governments reduce competition and increase aggregate local public sector size relative to aggregate county income more cities and towns increase competition and reduce its size more special and school districts sacrifice scale economies and increase it two recent articles have attempted to identify the effects of decentralization in state and local government on the size of the state and local public sector wallace oates 1985 finds no important effects michael nelson 1987 finds modest evidence that increased competition among government units reduces the size of the public sector this article demonstrates that the effects of decentralization are important and complex decentralization which encourages competition reduces the size of the local public sector decentralization which discourages scale economies increases it

insider trading investment and liquidity a welfare analysis we compare equilibrium trading outcomes with and without participation by an informed insider assuming inflexible ex ante aggregate investment choices by agents noise trading arises from aggregate uncertainty regarding other agents intertemporal consumption preferences the welfare levels of outsiders can thus be ascertained the allocations without insider trading are not ex ante pareto efficient because our model differs from standard ones with negative exponential utility functions and normal returns we characterize the circumstances under which the revelation of payoff relevant information via prices arising from insider tradingbenefits outsiders with stochastic liquidity needs by improving risk sharing among them in models of informed trading allen 1984 dennert 1992 grossman and stiglitz 1980 kyle 1985 leland 1992 repullo 1994 it has been customary in order not to have an unrealistic fully revealing rational expectation equilibrium ree and no profits for informed traders to postulate some portion of the market demand for securities as arising from unmodeled noise traders whose endowments and preferences for consumption are left unspecified this makes it difficult to reach a welfare judgment regarding the impact of insider trading even when the implications for the informativeness of asset prices and investment can be ascertained thus an important issue in financial regulatory policy regarding the desirability of allowing trading by asymmetrically informed corporate insiders remains largely unresolved at the conceptual level our major goal in this paper is to rectify this shortcoming by modeling both noise traders and rational a priori uninformed traders together as agents with well specified preferences these agents allocate their endowments across a risky long term and a riskless short term investment ex ante london school of economics and political science and cepr and universita degli studi di torino respectively we are grateful for financial support from the ente einaudi the italian murst and the international centre for economic research icer torino it is a pleasure to acknowledge the excellent research assistance of giacomo elena work on this paper was begun while bhattacharya was a visiting fellow at icer during the summer of 1995 we wish to thank without implicating in errors gabriella chiesa and jose marin for advice and encouragement and participants at seminars at the universities of brescia roma tor vergata tilburg torino the cepr conference on information financial intermediation and the macroeconomy alghero 1997 as well as an anonymous referee and the editor rene stulz for their very helpful comments and suggestions

where should the line be drawn on insider trading ethics finance ethics have drawn increasing attention from both government regulators and academic researchers this paper addresses the issue of insider trading ethics previous studies on insider trading ethics have failed to provide convincing arguments and consistent results in particular the arguments against insider trading are based primarily on moral and philosophical grounds and lack empirical rigor this study intends to establish and examine the relationship between the ethical issue and economic issue of insider trading we argue that the ethics of insider trading is in essence an economic rather than a moral issue it is so far not clear to what extent insider trading may increase or decrease shareholders wealth until then we must take care to avoid over regulating insider trading

fiscal decentralization and government size numerous studies have attempted to model the possible factors contributing to universal growth in public sectors this paper analyzes one device that appears capable of controlling some of that growth fiscal decentralization the results reported here also support the use of monopoly government assumptions in models of public policy

ethical reasoning and the use of insider information in stock trading the cognitive developmental theory of ethics suggests that there is a positive relationship between ethical reasoning and ethical behavior in this study we trained a sample of accounting and finance students in performing competitive stock trading in our state of the art trading room the subjects then performed trading of stocks under two experimental conditions insider information and no insider information where significant performance based financial awards were at stake we also administered the defining issues test dit ethical behavior as the dependent variable was measured in a binary scale whether the subjects used insider information for trading of stocks or not ethical reasoning as measured by the dit p score indicated statistically significant effect on ethical behavior the results have important implications for recruitment and training of professionals engaged in the use of financial markets for securities trading

ma and sun on insider trading ethics ma and sun have recently argued that some forms of insider trading are ethically acceptable we argue that the authors fail to prove three key premises of their argument which is therefore unsound

government size and decentralization evidence from disaggregated data public choice models of government behavior draw heavily from the economics literature of industrial organization following the argument that private monopoly in production leads to relatively high prices and profits the public choice literature suggests that similar analysis of government structure may be useful in the modeling of public production brennan and buchanan 3 4 model government as leviathan a public entity which seeks to maximize its revenue the leviathan hypothesis is motivated by the desire to successfully understand government behavior as well as to recommend effective means of controlling its behavior among other suggestions brennan and buchanan offer the private monopoly corollary that competition among different fiscal units is an effective means of controlling the aggregate size of leviathan the resulting decentralization hypothesis is total government intrusion into the economy should be smaller ceteris paribus the greater the extent to which taxes and expenditures are decentralized 3 15 this paper tests the decentralization hypothesis by examining a data set which considers all units of government by disaggregating federal spending on a state by state basis we construct a cross section of state data on federal state and local government activity all previous examinations of the decentralization hypothesis at the level of the state have excluded the activity of the federal government however given that federal government expenditures greatly exceed those of state and local governments previous cross sectional tests of the decentralization hypothesis may have employed grossly incomplete measures of governmental activity in each state our study provides two extensions to the debate one by testing the decentralization hypothesis at the level of state aggregation we suggest that previous cross sectional studies do not report strong evidence in support of the hypothesis because of their exclusion of the federal sector two our study suggests the importance of including all potential competitors in the government arena state local and federal governments our study does not solve all issues concerning aggregation

the ethics of insider trading despite the fact that a number of economists and philosophers of late defend insider trading both as a viable and useful practice in a free market and as not immoral i shall question the value of insider trading both from a moral and an economic point of view i shall argue that insider trading both in its present illegal form and as a legalized market mechanism undermines the efficient and proper functioning of a free market thereby bringing into question its own raison d etre it does so and is economically inefficient for the very reason that it is immoral thus this practice cannot be justified either from an economic or a moral point of view

federalism and the growth of government revisited recent research in public economics has been testing for a relationship in federal states between the decentralization of governments and the total and individual size of government shares in gnp according to one view economic theory offers no unambiguous empirical predictions provided there is a competitive political environment at each government level the rivalry between political parties will result in an outcome that conforms approximately to the preferences of the citizens as interpreted in the conventional median voter model under this scenario it is not certain what differences might be caused by more decentralization oates 1985 to determine any difference we would have to possess considerable knowledge about the distribution of tastes and the location of the populace it has been hypothesized nevertheless that increased decentralization could result in a higher level of government expenditure quoting the economic historian john wallis oates 1985 749 suggests that since individuals have more control over public decisions at the local than at the state or national level they will wish to empower the public sector with a wider range of functions and responsibility where these activities are carried out at more localizedlevels of government

analyzing insider trading from the perspectives of utilitarian ethics and rights theory the common view is that insider trading is always unethical and illegal but such is not the case some forms of insider trading are legal furthermore applying ethical principles to insider trading causes one to conclude that it is also sometimes ethical this paper attempts to get past the hype the press reports and the political grandstanding to get to the truth of the matter the author applies two sets of ethical principles utilitarianism and rights theory in an attempt to determine when and in what circumstances insider trading is ethical the views of henry manne an early proponent of insider trading are critically examined as are the major arguments against insider trading is insider trading good for the company if it is used as a form of executive compensation which makes it possible to pay lower salaries than would otherwise be the case does insider trading cause the stock market to work more efficiently if insider trading does increase efficiency is that sufficient to call for its total legalization or are there other things to be considered several arguments against insider trading have been put forth over the last few decades but there are problems with all of them one of the main arguments is the fairness argument the problem with this argument is that different people have different definitions of unfairness a closely related argument is the level playing field argument which advocates wider dissemination of information so that it is less asymmetric one problem with the level playing field argument is that it is better applied to sporting competitions than to trading in information some economists argue that forcing the disclosure of nonpublic information can actually result in more harm than good and must necessarily involve the violation of property rights other arguments examined in this chapter include the fiduciary duty argument the problem of outside traders the misappropriation doctrine and the restrictions that insider trading laws place on freedom of speech and press the article concludes by setting forth some principles or guidelines to determine when insider trading should be punished and when it should not

searching for leviathan comment and extension in a recent article wallace oates 1985 investigated whether fiscal decentralization tended to act as a constraining influence on the overall size of the public sector this hypothesis has been advanced by several alternative theories of government behavior including richard musgrave s 1959 model of how the distribution function of government would be carried out by subnational governments geoffrey brennan and james buchanan s 1980 leviathan model and the more traditional public choice model for example walter hettich and stanley winer 1984 all contend that the decentralization of tax and spending decisions introduces competition among governmental units seeking to attract citizens and other mobile resources and thereby constrains taxing power oates analyzed two data sets one pertaining to the state and local sector in the united states and the other consisting of a sample of 43 countries and found little empirical support for the decentralization hypothesis the purpose of this paper is to reconsider his analysis in the case of state and local governments specifically it will be argued that oates s measures of decentralization may be inappropriate to test the hypothesis furthermore by taking into account the structure or composition of local governmental jurisdictions within a state empirical support of the decentralization hypothesis can be marshaled for general purpose local governments such as counties and municipalities i measuring fiscal decentralization among the states

some remarks on leland s model of insider trading this paper shows that leland s 1992 results on the positive effects of insider trading on investment are not robust to the introduction of noise in the insider s information the paper then considers two variations of his model in which the insider is risk neutral to ensure robustness and the investment decision is prior to the placing of the stock in the market it is shown that if insider trading takes place in the primary market it has no effect on the level of investment whereas if it takes place in the secondary market it has a negative effect on investment ing debate insider trading moves the resolution of uncertainty forward and this may bring benefits better information for investment decisions as well as costs increased volatility of prices and hence higher risk premia to analyse these effects leland 1992 constructs a model with an endogen ous level of investment and he shows that when insider trading is permitted stock prices will be higher on average expected real investment will rise and markets will be less liquid and more volatile leland s model is however very special first of all he assumes that the risk averse insider learns exactly the future return of the risky asset in this paper i analyse the robustness of leland s results to the introduction of some noise in the insider s information i show that given the assumptions of his model an arbitrarily small amount of noise is sufficient to make negligible all the effects of insider trading the source of this lack of robustness lies in the assumption that because of risk aversion the insider s trade is always negligible except in the limit case where holding the asset entails no risk to ensure robustness to the intro duction of noise in the insider s information i then consider a model with a risk neutral insider however for this model insider trading does not have any effect on the average price of the risky asset and hence no effect on the average level of investment another feature of leland s model is the fact that the only supplier of the risky asset is assumed to be a price taker this seems a fairly implausible assumption so i propose an alternative model with a risk neutral insider in which the investment decision is prior to the placing of the asset in the market and which allows the supplier to have market power the equilibrium of this model can be easily derived from leland s analysis and although we get the same results for the volatility of the price and the liquidity of the market now insider trading has no effect on the level of investment the result however depends crucially on the assumption that the supplier of the asset is risk neu tral under risk aversion the increase in price volatility would imply a negative

the power to tax analytical foundations of a fiscal constitution preface 1 taxation in constitutional perspective 2 natural government a model of leviathan 3 constraints on base and rate structure 4 the taxation of commodities 5 taxation through time income taxes capital taxes and public debt 6 money creation and taxation 7 the disposition of public revenues 8 the domain of politics 9 open economy federalism and taxing authority 10 toward authentic tax reform prospects and prescriptions epilogue notes selected bibliography index

an empirical analysis of state and local tax structure in the context of the leviathan model of government this paper has investigated the ability of an extreme and relatively simple model of political behavior to explain the level of revenues generated by state and local governments in general the behavior of these governments appears to be at least consistent with many of the fiscal outcomes predicted by the leviathan theory several although not all of the specific leviathan theory hypotheses considered received empirical support the evidence was consistent with the hypothesis that states utilizing comprehensive tax bases especially a personal income tax can be expected to generate higher levels of aggregate revenues strong support was also observed for the contention that intergovernmental competition by general purpose substate governments may serve as a substitute for constitutional constraints in limiting the revenue generating power of local governments

reviving leviathan fiscal federalism and the growth of government this article revisits the influential leviathan hypothesis which pos its that tax competition limits the growth of government spending in decentralized countries i use panel data to examine the effect of fiscal decentralization over time within countries attempting to distinguish between decentralization that is funded by intergovernmental transfers and local taxation first i explore the logic whereby decentralization should restrict government spending if state and local governments have wide ranging authority to set the tax base and rate especially on mobile assets in countries where this is most clearly the case decentralization is associated with smaller government second consistent with theoretical arguments drawn from wel fare economics and positive political economy i show that governments grow faster as they fund a greater portion of public expenditures through intergovernmental transfers

federalism and the size of government over the last few decades the size of the public sector in both absolute and relative terms has increased in all of the western economies this has led to considerable investigation of the factors determining government size factors considered have included income elasticity of voter demand for public goods i e wagner s law relative price changes threshold effects e g wars or depressions interest group demands e g public sector employees or unions 17 productivity differentials 1 and redistributional motivations 18 10 one factor which has received little more than passing interest is government structure that is centralization of government activities as opposed to decentralization or federalism authors such as fratianni and spinelli 7 musgrave and musgrave 12 beck 2 and buchanan 4 make no mention of government structure as a factor in the determination of government size when considered the impact of government structure on government size is treated more as an afterthought for example mueller and murrell 11 incorporate a centralization variable in only two of their twenty two regression equations and then only in their two stage least squares equations and offer little analysis of its expected impact on government size exceptions to this standard treatment of federalism include brennan and buchanan 3 oates 15 nelson 13 14 and marlow 9 brennan and buchanan consider the structure of government and its impact on public sector size in the context of a revenue maximizing government model they argue that with mobile voters and local public goods decentralization of government taxing and expenditure powers would serve to constrain the size of the public sector in a tiebout like world any attempt on the part of one jurisdiction to exploit its citizenry would result in instantaneous and complete migration on the part of the citizenry to an alternative nonexploitive jurisdiction this competition among jurisdictions for the patronage of the citizenry limits the extent of fiscal exploitation possible and as such the size of the public sector brennan and buchanan note however that w ithin a constitutionally designed federal structure one would predict that there would be constant pressures by competitive lower level governments to secure institutional rearrangements that would moderate competitive pressures 3 182 these institutional rearrangements would take the form of collusive agreements between the central and lower level governments which assign to the central government what were previously lower level revenue raising powers subject to the revenues being returned to the lower level governments by

do intergovernmental grants create ratchets in state and local taxes a large literature on the flypaper effect examines how federal grants to states at time period t affect state spending or taxes at time period t we explore the fundamentally different question of how federal grants at time period t affect state tax policy in the future federal grants often result in states creating new programs and hiring new employees and when the federal funding is discontinued these new state programs must either be discontinued or financed through increases in state own source taxes government programs tend to be difficult to cut as goes milton friedman s famous quote about nothing being as permanent as a temporary government program suggesting that it is likely that temporary federal grants create permanent future ratchets in state taxes far from being purely an academic question this argument is why south carolina s governor mark sanford attempted to turn down federal stimulus monies for his state we examine both the impact of federal grants on future state budgets and how federal and state grants affect future local government budgets our findings confirm that grants indeed result in future state and local tax increases of roughly 40 cents for every dollar in grant money received in prior years

searching for leviathan an empirical study in several papers and a recent book geoffrey brennan and james buchanan 1977 1978 1980 have put forth a striking and controversial view of the public sector drawing by analogy on the conventional theory of monopoly in the private sector they envision a monolithic government that systematically seeks to exploit its citizenry through the maximization of the tax revenues that it extracts from the economy from this perspective they develop a fiscal constitution whose central purpose is to constrain leviathan by limiting in various ways its access to tax and other fiscal instruments while the leviathan hypothesis has been the source of lively debate and a wide range of policy proposals it has not been the subject of much systematic empirical work or testing this is a matter of some importance since the policy implications of the leviathan view are disturbing to put it mildly in particular brennan and buchanan virtually stand on their heads many of the basic theorems in public finance for an efficient and equitable tax system if in fact the leviathan view is an inaccurate depiction of the functioning of the public sector the introduction of their policy proposals is likely to make a sorry mess of the fiscal system the leviathan model does however have some straightforward implications for observable fiscal behavior it is the purpose of this paper to examine one of these testable implications brennan and buchanan stress that fiscal decentralization is itself a powerful constraint on leviathan competition among governments in the context of the interjurisdictional mobility of persons in pursuit of fiscal gains can offer partial or possibly complete substitutes for explicit fiscal constraints on the taxing power 1980 p 184 such competition among governments in a federal system that places heavy reliance on local fiscal decisions will greatly limit the capacity of leviathan to channel resources into the public sector in short as indicated by the epigraph to this paper the leviathan model implies that other things equal the size of the public sector should vary inversely with the extent of fiscal decentralization 2

the indefensibility of insider trading the article inside trading revisited has taken the stance that insider trading is neither unethical nor economically inefficient attacking my arguments to the contrary developed in an earlier article the ethics of inside trading journal of business ethics 1989 this article constructs careful arguments and even appeals to adam smith to justify its conclusions in my response to this article i shall clarify my position as well as that of smith to support my counter contention that insider trading is both unethical and inefficient