Juan Pablo Pardo-Guerra (LSE), Synthetic Markets and the Design of Economic Institutions Finance, Mathematics & Philosophy, Workshop, Rome 12-13 June 2014 Villa Mirafiori, room V

1. Synthetic Markets
and the Design of
Economic Institutions
Juan Pablo Pardo-Guerra
London School of Economics
June 2014

2. Markets envelop ……….
every aspect of our lives
………they constitute the
fabric of modernity

7. But markets are also at
the crux of most social
problems

9. How can we domesticate markets
for the 21st century?

10. A provocation, to move from the
metaphors of physics and biology
to those of engineering life

11. Steps
1. Beyond ‘the natural’
2. Engineering nature
3. Three consequences

12. 1. Beyond
‘the natural’

13. 1. Natural markets?
To the question of where markets come from, we are
told:
“[Economic organization and industry] from which
so many advantages are derived, is not originally
the effect of any human wisdom, which foresees
and intends that general opulence to which it gives
occasion. It is the necessary, though very slow and
gradual consequence of a certain propensity in
human nature which has in view no such extensive
utility; the propensity to truck, barter, and
exchange one thing for another.”

14. 1. Where do markets come from?
• Conventional account of the origin of markets
(e.g. Hayek):
– Asymmetries in production/consumption emerge
naturally, providing conditions for barter;
– Unstructured, ad-hoc barter leads to regular trade
– As trade evolves and consolidates, a market
emerges (Barter >> Trade >>Market)
– Ontologically, markets are natural emergent
phenomena, they are ‘natural’ kinds

15. Gomez and Boesch, 2009. “Wild chimpanzees exchange meat for sex on a long term basis”, PLoS

16. 1. The domestication of what?
• Of course, markets don’t just ‘happen’:
– They require, for instance, rules and social
institutions (c.f. Polanyi)
– They reflect social structures (e.g. culture,
interactions c.f. Baker, Zelizer, etc.)
– They are enacted in history (c.f. Agnew)
– They require things (c.f. Callon)
• Markets are fabricated, they are artificial
kinds

19. 1. Let’s take economists at face value
If markets are ‘natural’, what can we do?
• Option 1: Study them, to then intervene; as we
do with other natural kinds (e.g. plants, climate).
– Respects the ‘purity’ of natural kinds (e.g. monetary
systems obey a particular ‘logic’ that is internal to
money)
• Option 2: Re-design. Re-engineer. Re-fashion.
– Nature has never been natural. Everything is an
artificial kind. Laws are made, not discovered.

20. 1. Thinking like an engineer
• If markets are fabricated, why not make them
according to some principles?
• Design according to fundamental building
blocks.

21. • Alvin Roth (+Paul Milgrom):
– Nobel prize-winning economist;
– One of the key figures in market design;
– Market design emphasizes the metaphor of the
economist as an engineer.
– But engineering based on physics….
1. Meet market/auction design

22. ‘Consider the design of suspension bridges. The simple
theoretical model in which the only force is gravity, and
beams are perfectly rigid, is elegant and general [cf.
neoclassical economics]. But bridge design also concerns
metallurgy and soil mechanics, and the sideways forces
of water and wind. My questions concerning these
complications can’t be answered analytically, but must
be explored using physical or computational models […]
Engineering is often less elegant than the simple
underlying physics, but it allows bridges designed on the
same basic model to be built longer and stronger over
time, as the complexities and how to deal with them
became better understood’.

23. 2. Engineering
nature

24. 2. Engineering nature
• Engineering metaphors abound, e.g. in
synthetic biology
• One radical interpretation of synbio refers to
the re-engineering of life itself
• Can we deconstruct natural kinds into their
key components and, on the basis of such
modularization, create new forms of
previously impossible life (e.g. XNA)?
• Nature as an artificial kind

25. Synthetic biology should give
“undergraduates and high school students,
without prior training in biology or laboratory
engineering, [the ability to] design synthetic
biological systems of their own invention
comprised of several dozen pre-existing
standard biological parts, order and receive the
DNA encoding the system, and show it to work.”
(Endy 2005)

26. 2. Divergent epistemologies
• Synbio is democratic: a developer in every
garage / DIY-bio
• Market design is technocratic: economists as
design experts / auction design
• Can we democratize markets by learning from
synbio?

27. 2. Modularized markets
• Synbio is predicated on the idea of
modularization: what are the ‘parts’ of natural
entities?
• Is there an equivalent for markets?
• Arguably, yes…

28. • Philip Mirowski:
– Economist;
– Historian of economic thought;
– Criticizes the idea that economics ought to be like
physics (i.e. model-based and universalizing);
– Advocates a evolutionary computational approach
to the study of the economy;
– Defines the market as a ‘formal automaton’
2. What are the components of the market?

29. • Automaton:
– Self-operating machine
– Driven by a set of inputs
that define possible
outputs
– e.g. Turing machine, the
theoretical
generalization of any
computer (a Turing
machine can simulate
any computer)
2 What are the components of the market?

30. • Markets are specialized pieces of software that
perform these functions:
– Data dissemination and communication;
– Rules of execution
– Order routing
– Order queuing and execution
– Price discovery and assignment
– Custody and delivery
– Clearing and settlement, with re-allocation of
property rights
– Record-keeping
2 What are the components of the market?

31. The metaphor of markets as software is,
indeed, consistent with market design:
“a great deal of market design is going to be
done by computer programmers.”
(Roth 2002)

32. FINANCIAL TIMESMONDAY MARCH 19 2007
COMPANIES INTERNATIONAL
‘Millisecond’ trading arrives
EXCHANGES
By Anuj Gangahar in New York
Some of the largest participants in
US capital markets are to start using
a new system that dramatically cuts
the time it takes to trade and
communicate with each other, as
they respond to the greater demand
for speed from hedge funds and
other traders.
It will reduce transaction times to
just 1 millisecond from about 10
milliseconds at present, in the New
York metropolitan area.
Hedge funds and other traders who
employ complex strategies, are
putting ever greater emphasis on the
speed at which they do business, as
competition to eke out the best
returns intensifies.
The system, known as Radianz
region.
Institutions that have signed up to
use the system already include the
NYSE Group, Nasdaq, Boston
Options Exchange, BATS electronic
communications network, and the
International Securities Exchange,
among others.
The uptake of the new system
comes just weeks after the
introduction of Regulation National
Market System, a controversial set
of rules aimed at levelling the
competitive field in the US equity
market, meaning trades must be
routed to the exchange that offers
the best price.
During the recent market sell-off, a
week before the introduction of Reg
NMS, a spike in trading volumes
caused some systems and servers to
go down, leading to widespread
BT Radianz developed the new
system in response to the growing
use of algorithmic and black-box
trading strategies by broker-dealers,
asset managers, prime brokers and
hedge funds. Tom Price, senior
analyst in the securities and capital
markets practice at the Tower Group
consultancy, said: “Speed is a
competitive differentiator for market
participants using advanced trading
strategies. The ability to consume
massive amounts of data, translate it
into opportunity, and get orders to
the appropriate execution venue
ahead of the competition, is key to
success.”

33. 3. Three
consequences

34. 3. Financial, by design
• What happens when we think of designing
financial markets?
1. Markets as ecologies: beyond equilibrium, and
towards complexity, diversity, linkages and life-
cycles. E.g. Non-continuous financial markets.
2. Beyond oppositional logics: generalizing Polanyi: if
markets can only exist with states, redesigning
markets requires redesigning state institutions. E.g.
regulation as cyclical, recognizing organizational
logics
3. Expansion of market expertise – against economists.
Not only vernacular economics

35. 3. Markets as ecologies
• How are stock markets organized?
– Primarily, through time-price priority
– Order-book dynamics depend on continuous
trading
– This makes space relevant, and leads to a arms-
race-like incentives for innovation
• But, do markets have to be driven by price-
time priority?

36. 3. Markets as ecologies
• No: e.g. auctions (Arizona Stock Exchange)
• (They are also ‘moral’ ecologies)
• Better models of market design may show the
advantages of diversification in over
• (see Budish, Cramton and Shim, ‘The high
frequency trading arms race’)

37. 3. Markets and states
• Animals die, environments change. Regulators
stay the same?
• Should regulators have an expiry date?
• Securities and Exchange Commission:
– Created as a New Deal institution
– Organizational logic emphasizes on auditing,
disclosure and accountability
– 1934-2012, 40 topic models, only 1 on market
structure

38. 3. Markets and states
• 62,000 Comment letters (1995-2014):
– Key preoccupation with market structure
• But the SEC does not ‘see’ market structure
• The question is not ‘is it a wise regulator’ but
rather: should it be a regulator at all?
• Institutions as life-forms: they also must come
to an end (fitness to the environment?)

39. 3. Democratizing markets
• Are economists ‘the experts’?
• 2010 Flash Crash: no conclusive explanation
• The theoretical toolkit of economics fails to
explain the market
• Yet, non-expert HFT programmers and
infrastructural workers have a coherent narrative
• Theorizing beyond economics? An open question

40. Some concluding thoughts
• Changing metaphors as a way of re-engaging with
markets
• Three roles for social scientists:
– not oppositional (e.g. economic sociology) but
contributory; but showing markets as constructed and
drawing alternative designs;
– Not only ‘ontological’ critique but also ontography:
emphasis on how markets evolved;
– Innovating markets: how best to involve publics in the
construction of markets? (e.g. responsible innovation)