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I don't often agree with the Obama administration. So I have to say that I was surprised when I heard it had a plan to reduce the risk of another banking crisis. It wants to prohibit banks that are protected by deposit insurance from engaging in risky, proprietary trading, and it wants to break up some of the very largest banks.
I made both those recommendations in my forthcoming book "Alchemists of Loss" (Wiley 2010). The book, written jointly with Kevin Dowd, a British finance professor, should debut sometime late this spring(we sent the manuscript to the publisher last weekend - what a relief!). But after I studied the Obama plan further, I realized that I shouldn't have been surprised - the idea's sponsor was former U.S. Federal Reserve Chairman Paul A. Volcker.
I made both those recommendations in my forthcoming book "Alchemists of Loss" (Wiley 2010). The book, written jointly with Kevin Dowd, a British finance professor, should debut sometime late this spring(we sent the manuscript to the publisher last weekend - what a relief!). But after I studied the Obama plan further, I realized that I shouldn't have been surprised - the idea's sponsor was former U.S. Federal Reserve Chairman Paul A. Volcker.
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Politically, Volcker isn't quite my cup of tea, either. I was a young banker in New York in the early 1980s, so I saw firsthand the heroic effort he made to finally stuff inflation back in its box. I also saw - and heard - just how unpopular that effort was with many in the banking community and around the country: The whining at the weekly bank economics meetings was very shrill, indeed.
If you're Fed chairman, you like to be popular with Wall Street - as Alan Greenspan and Ben Bernanke have incessantly demonstrated. So Volcker's ability to stick to the policy he knew was right while Wall Street institutions muttered and grumbled and dragged their feet was very impressive. So it's not surprising that nearly 30 years later he's come up with a banking reform plan that I agree with.
But here's the thing: I would go even further.
There are three things wrong with modern Wall Street.
First, it wouldn't recognize good risk management if it fell across it in the Street. The "value-at-risk" (VaR) system, which most investment houses still use, is completely hopeless. It tells you that 99% of the time your losses will be less than "X." However, it completely ignores the other 1% of the potential results. Naturally, the traders got wise to its faults, and so have invented endless pathological risks that behave well 99% of the time, thus keeping VaR happy.
But that "other 1%" is quite capable of wiping out an entire continent.
Credit default dwaps (CDS) are the most notorious of the instruments that can cause such a financial wipeout, but there are others. And while 1% may not sound like much, 100 trading days is just five months, 100 10-day periods (the suggested unit) are only four years, and even 100 months is 8 1/3 years. So a system that blows apart every four or eight years is going to get damned expensive in bailout costs.
The Volcker plan wouldn't improve Wall Street's pathetic risk management capability, but it would at least quarantine the riskiest bits of the system from the parts that get deposit insurance.
The second problem with Wall Street is that the behemoths are far too big, meaning if they get in trouble they have to be rescued. There seems to be an upper limit of about $300 billion in assets, the point at which banks become unstable.
But if you look at total assets of all the banks and investment banks today, there are six above $1 trillion: Goldman Sachs Group Inc. (NYSE: GS), Morgan Stanley (NYSE: MS), JP Morgan Chase & Co. (NYSE: JPM), Citigroup Inc. (NYSE: C), Bank of America Corp. (NYSE: BAC) and Wells Fargo Co. (NYSE: WFC). Then there's a humongous gap before you get to the next two banks, PNC Financial Services (NYSE: PNC) and U.S. Bancorp (NYSE: USB), at about $300 billion.
Everything that was in between those two sizes either went bust or was absorbed by another bank in 2008. The Bear Stearns Cos., Washington Mutual, Lehman Brothers Holdings Inc. (OTC: LEHMQ), Merrill Lynch, and Wachovia all had total assets between $300 billion and $1 trillion; Countrywide Financial Corp. was just a little smaller.
Breaking the behemoths up into $300 billion chunks, as the Volcker plan suggests, would thus make the system much more stable. A Goldman Sachs slimmed down from all its hedge fund activities - with capital of $20 billion and assets of $300 billion - would still be highly profitable and could likely provide much better client service, since it would face fewer conflicts of interest.
The third, and greatest, problem with Wall Street - which the Volcker plan doesn't address - is its dominance by trading. Trading is necessary to provide liquidity, but through the explosion of derivatives and the rise of computerized "fast trading," Wall Street's operations have become "rent seeking." Trading operations scoop wealth out of the economy without giving any useful service in return. That's how Wall Street bonuses got so huge; in times of cheap money like the present, the profitability of a trading business with a substantial market share goes through the roof.
Most of those profits depend on insider information - not insider information about company activities (the use of which would be illegal) -- but insider information about trading flows (where the money's coming from and where it's going). Traders have always used this; you can't make it illegal. However, in a world where trading volume has zoomed skyward, insider information about money flows has become exceedingly valuable. What's more, unlike in most businesses, greater market share provides you with exponentially higher profits - it's more than twice as valuable to control 20% of the trading as to control 10%.
The Volcker plan does nothing about this. The best solution would be an ad valorem transactions tax, a "Tobin tax" of, say, 0.05% on every trade. This wouldn't add much cost to legitimate investing, but it would make the "fast trading," scooping a few cents per share on millions of trades a day, completely unprofitable. That in turn would return Wall Street to banking and corporate finance (arranging deals and raising capital) the businesses that actually have a value for the economy.
Still, two out of three ain't bad. Give the plan a thumbs up, and hope that the lobbyists don't succeed in killing it.
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If you're Fed chairman, you like to be popular with Wall Street - as Alan Greenspan and Ben Bernanke have incessantly demonstrated. So Volcker's ability to stick to the policy he knew was right while Wall Street institutions muttered and grumbled and dragged their feet was very impressive. So it's not surprising that nearly 30 years later he's come up with a banking reform plan that I agree with.
But here's the thing: I would go even further.
There are three things wrong with modern Wall Street.
First, it wouldn't recognize good risk management if it fell across it in the Street. The "value-at-risk" (VaR) system, which most investment houses still use, is completely hopeless. It tells you that 99% of the time your losses will be less than "X." However, it completely ignores the other 1% of the potential results. Naturally, the traders got wise to its faults, and so have invented endless pathological risks that behave well 99% of the time, thus keeping VaR happy.
But that "other 1%" is quite capable of wiping out an entire continent.
Credit default dwaps (CDS) are the most notorious of the instruments that can cause such a financial wipeout, but there are others. And while 1% may not sound like much, 100 trading days is just five months, 100 10-day periods (the suggested unit) are only four years, and even 100 months is 8 1/3 years. So a system that blows apart every four or eight years is going to get damned expensive in bailout costs.
The Volcker plan wouldn't improve Wall Street's pathetic risk management capability, but it would at least quarantine the riskiest bits of the system from the parts that get deposit insurance.
The second problem with Wall Street is that the behemoths are far too big, meaning if they get in trouble they have to be rescued. There seems to be an upper limit of about $300 billion in assets, the point at which banks become unstable.
But if you look at total assets of all the banks and investment banks today, there are six above $1 trillion: Goldman Sachs Group Inc. (NYSE: GS), Morgan Stanley (NYSE: MS), JP Morgan Chase & Co. (NYSE: JPM), Citigroup Inc. (NYSE: C), Bank of America Corp. (NYSE: BAC) and Wells Fargo Co. (NYSE: WFC). Then there's a humongous gap before you get to the next two banks, PNC Financial Services (NYSE: PNC) and U.S. Bancorp (NYSE: USB), at about $300 billion.
Everything that was in between those two sizes either went bust or was absorbed by another bank in 2008. The Bear Stearns Cos., Washington Mutual, Lehman Brothers Holdings Inc. (OTC: LEHMQ), Merrill Lynch, and Wachovia all had total assets between $300 billion and $1 trillion; Countrywide Financial Corp. was just a little smaller.
Breaking the behemoths up into $300 billion chunks, as the Volcker plan suggests, would thus make the system much more stable. A Goldman Sachs slimmed down from all its hedge fund activities - with capital of $20 billion and assets of $300 billion - would still be highly profitable and could likely provide much better client service, since it would face fewer conflicts of interest.
The third, and greatest, problem with Wall Street - which the Volcker plan doesn't address - is its dominance by trading. Trading is necessary to provide liquidity, but through the explosion of derivatives and the rise of computerized "fast trading," Wall Street's operations have become "rent seeking." Trading operations scoop wealth out of the economy without giving any useful service in return. That's how Wall Street bonuses got so huge; in times of cheap money like the present, the profitability of a trading business with a substantial market share goes through the roof.
Most of those profits depend on insider information - not insider information about company activities (the use of which would be illegal) -- but insider information about trading flows (where the money's coming from and where it's going). Traders have always used this; you can't make it illegal. However, in a world where trading volume has zoomed skyward, insider information about money flows has become exceedingly valuable. What's more, unlike in most businesses, greater market share provides you with exponentially higher profits - it's more than twice as valuable to control 20% of the trading as to control 10%.
The Volcker plan does nothing about this. The best solution would be an ad valorem transactions tax, a "Tobin tax" of, say, 0.05% on every trade. This wouldn't add much cost to legitimate investing, but it would make the "fast trading," scooping a few cents per share on millions of trades a day, completely unprofitable. That in turn would return Wall Street to banking and corporate finance (arranging deals and raising capital) the businesses that actually have a value for the economy.
Still, two out of three ain't bad. Give the plan a thumbs up, and hope that the lobbyists don't succeed in killing it.
News and Related Story Links:
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Tags: Alan Greenspan, Banking, Banking Crisis, Ben Bernanke, Credit-Default Swap, Paul Volcker, Tobin Tax, Value-At-Risk, Volcker Plan, Wall Street
[Commentary and insertion by me -- Lamson]:
"Reinhart and Rogoff’s book [This Time Its Different], if anything, points to the inescapable conclusion that human nature is the one defining constant in history and that the cycles of greed, fear and their economic consequences paint an indelible landscape for investors to observe." — Bill Gross, "Investment Outlook, February, 2010"
Human nature equates to genetics folks. I've been saying for years that greed is genetic and that no amount of legislating, re-educating, moralizing, and re-moralizing will change that fact.
What will work to harness greed, however, is regulation, effective enforcement of regulation, controls and a steady and even-handed maintenance of controls.
We have a moment in time and history here to make a huge difference in constraining greed and its disruptive abilities for financial and economic systems at home and across the world on a permanent ongoing basis. Such a system of regulation: electronic periodic reporting and monitoring and controlled shutdown of high risk outliers CAN BE effective, even-handed and relatively inexpensive if thoughtful people put their minds to it on a timely basis. Such requires a change in mind-set for many people, but that is what continuing education and learning is all about.
THIS TIME IT CAN and SHOULD BE DIFFERENT (No tongue in cheek here)
Regulation only works to bring new inefficiencies to the activity and never, ever curbs greed. What curbs greed is consequences, which this administration will never allow to occur, in spite of their threats and the other forms of lipstick they are trying to put on this pig. Failure of a failed strategy is the only thing that will work to curb pursuit of that strategy and its kin and it is incredibly cheap — a sort of self-correction that cripples or eliminates the bad actor. If we had let these creeps fail, it would have been a little messy for a while, but other safely operated banks existed to fill the void for our credit needs and we would be about $8 trillion to the good. Instead, have the greatest assembly of economic bozos in history telling each other they know what is best as they collectively lead us into the abyss, trying to resurrect a failed economic model of encouraging narcissistic consumerism funded by ATM-like home equity "wealth" — spending resources we do not have for things we do not need. In spite of these puerile attempts to reflate home values with disastrously low interest rates, home values are inevitably going to return to levels more reflective of the value of "housing" rather than the "investment" claptrap that easy money dislocations have brought. Rank & File consumers intuitively understand what is ahead and are voting against this failed economic approach every day through massive deleveraging and personal debt repayment headed to levels not seen since the middle of the last century. Feel good rhetoric about changes to the banking sector to somehow rob the product of inevitable greed is simply stupid. Washington enabled this kind of behavior with its unholy alliance with Wall Street and the ill-conceived bailouts that filled the coffers of miscreants that helped bring us to the brink of disaster. Although the bankers are publically giving this threatened regulatory approach low marks, the larger banks love it because it will, in reality, favor them competitively, making it disproportionately more expensive for smaller, safer community banks to maintain market share and remain compliant with the new rules. This is just another product of the Washington-Wall Street Axis of Evil !!
So size does matter, in business anyway.
We understand the law of diminishing returns in the context of 'small business' issues and and businesses have ways to mitigate the effects. After all they are working within a competitive field of a modified version of perfect competition, and must always innovate to protect their small profits
However this LDR curve plunges when corporate greed becomes the KPI instead of quality of product, when the consumer does not come first. The innovation tends to the criminal.
Power currupts.
Dear Mr. Hutchinson,
In all due respect, wouldn't the reinstatement of the Glass-Steagal Act have basically the same impact? Wasn't it basically the removal in 1999, which led to the type of risky financial behavior that resulted in the financial meltdown of 2007? And if so, why, in your opinion, is Mr. Volker trying to "reinvent the wheel" rather than urging reinstatement?
Mike
Volker has been effectively sidelined since he was appointed, so it's a good sign that Obama has finally turned to him for a plan to deal with "too big to fail". I'm sure that Bernanke and Geitner will do their best to kill it.
Well, It all sounds good, but does anybody believe that ANYTHING will actually be done?
There are other problems with VAR that go beyond the 1% risk. The history used in the model, at times, does not go back far enough or has meaningful gaps that are ignored or covered by assumed data. More importantly, the historical data may be meaningless when new higher risk instruments are being created. There is no history on the price movements of security types when they are in their infancy.
The point that gets overlooked in most discussions of where things went wrong is the rise of the Phd economists that created the black box models, replete with assumptions buried deep in the box that were not considered by investors or ratings agencies. These models have some value for risk management if the inner workings are understood, but they seldom are. Good risk management must go beyond blind allegiance to the models and requires sound analysis of the present situation by veteran investors and managers that have seen the cycle of greed and excessive risk cause repeated implosions over the decades.
Paul Volker was the the Fed Chairman under both Carter & Reagan who raised interest rates to combat inflation. Although Reagan suffered mid-term losses, the economy responded well after the inflation distortions were under control. Although Volker is not of the Austrian School of Economics, he is much more classical than Lord Keynes and his followers. Now that the Obama administration is reeling, Volker has Obama's ear. This could signal changes in banking regulations and laws to bring abuses under better scrutiny. With Helicopter Ben weakened in his bid for another Fed term, Volker's influence can be considerable. Bernanke will react too slowly to raise interest rates when inflation flares while Volker will push to head inflation off.
Clinton's Rubin led banking changes through the repeal of the Glass-Steagal Act that allowed banks & investment houses to use newly printed fiat monies from the FED to cash-in on the transactions of money without adding value. This led to moral hazard in bank management creating the perfect storm for the DOT.COM bubble, housing bubble & the current stock bubble. Volker is pushing to reverse the Clinton banking initiatives as evidenced in Obama's new railings against the banks & Wall Street.
Volker's friend was Ben Stein's father, a classical economist.
We are better off with Volker's influence than Summers, Geithner or Uncle Ben. We would be even better served with Paul, Woods, Schiff, Bergland or Norquist; all Austrian economists.
Congress is included in the statement, “Reinhart and Rogoff’s book [This Time Its Different], if anything, points to the inescapable conclusion that human nature is the one defining constant in history and that the cycles of greed, fear and their economic consequences paint an indelible landscape for investors to observe.” — Bill Gross, “Investment Outlook, February, 2010? As long as Congress can spend more than they have by not taxing, the money machine will keep spitting out worthless dollars and given to the big contributors like wall street. The biggest problem is having a central bank answerable to no one. Moral hazard of the highest order is the working process of the US economy. Until we rid ourselves of the immoral practice of money printing, all the regulations administered by an army of regulators will not prevent bankruptcy. At the current rate, we are the next Zimbabwe.
Not with Mr Volcker on duty!
Geithner, while testifying before a congressional panel yesterday, said he was against reappointment of The Glass-Steagal Act. No big surprise when you consider where he came from. Let's hope Obama listens to Volker big time and reappoints and quick. In my opinion, if that doesn't happen, we are headed down again, to far lower lows. And once again, history (as in 1929 and The Great Depression) will be repeated……..
"Trading operations scoop wealth out of the economy without giving any useful service in return"
Seldom have I heard a truer statement, Mr. Hutchinson! These elephants have their trunks in the giant river of OPM and they are not going to stop drinking unless forced to do so.That alas, is only human nature and fixed thereby.
The recent practice of recruiting people to manage our economy from among the elephants was and is extremely misguided. Getting unimaginably rich at places like GS or any of the others is an enviable talent, but it has little to do with an understanding of economics, either macro or micro.
It is uncertain to what extent Mr. Volcker's proposals will increase short term pain, but it is almost a cast-iron certainty that they will signally diminish it in the longer term. A sound dollar and a healthy economy seem to go together – amazing, isn't it.
This is excellent perspective on the current reality and proposed remedy for financial regulatory reforn. Financial institutions are no longer playing the vital role of enabling the private sector with PATIENT CAPITAL for building transformational economy that will support sustainable living and improved quality of life for all Americans. We need to produce goods and services that rest of the world aspires to for maintaining our standard of living. New generation economy (cleaner, renewable, new lighter stronger materials, improving quality of living for aging global population, etc.)with similar scope and size we experienced after WW II.
Dear Mr. Hutchinson,
The heart of the issue is not the size of the company. Exxon is a gigantic company that has to take great risk to fulfill it's business model, but it doe's so using very conservative principles to secure it's financial stability.
The crux of our problems stem from the lowering of capital requirements at banks, the inherent tax law contradiction of taxing equity but allowing debt to be deducted, the removal of a standard of backing currency with real assets, and the government's allowance of credit default swaps in the first place.
The plain fact is, the US government allowed banks to make poor quality loans and said that if you fulfilled this political aspiration, then we will overlook your lousy balance sheet with a simple CDS. There were many small and medium sized banks that did not fall prey to sub-prime mortgages because they implicitly understood these were poor banking practices.
The big banks should have been allowed to go into bankruptcy and those banks that still understand how to run a bank would still be here to thrive. Instead, as evidenced by the recent bonuses, we are rewarding the inept and castigating the just.
I am not an economist, But the one thing I believe needs to be stoped is Derivatives Trading. It is not taxed and makes it too easy for the cooks To hide stolen money.
Volcker is in the administration for exactly the reason being displayed now. He's an old hand, but you quickly get a perspective of his wisdom when he said recently, "I have not seen any real innovation in the banking industry over the past 30 years beyond the ATM".
So much for "new banking products"!
He gets it and these "bankersters" will be getting an education very soon.
The greed was for derivatives; now it is for gold. How many pitches by different names have we seen on both television and in print?
Does anyone care for the ecological loss that is faced every time a new open pit mine is dug? I ask for you who buy this gold to please come to Costa Rica to see the "approved" damage done to this entire country for gold, for highway building, for progress. There is only one country that does not allow cyanide to be used in gold extraction and it is not Costa Rica. The list of damaged and soon to be damaged areas is greater than the famous national parks.
Part of the political payoff for CAFTA was an airport. Perhaps you have heard of or visited the Osa Penninsula and Corcovado National Park. National Geographic calls this area the most biological diverse area on the planet. Guess where this airport is. It is just outside the park. There are alot of airstrips around this country as air travel was the only way to go between vast areas of this small utopia. Palmar was one of these places with an airstrip. It soon will be a jetport. If you drive here you will be able to see the ruined rivers devoid of all fish. The stones are now the gravel for this airport. The tourist bureau will soon have no reason d'etre.
Come soon or soon won't be soon enough to enjoy this area. Greed will win. Please do NOT buy gold. I don't.
THANK YOU.
This is all done with the approval of the Nobel Laureate Oscar Arias.
The problem with Wall Street banks is only part of the problem caused by the stupid idea that if there are few firms in a business and they are big, that they can not fail. In reality, big companies can only survive with the protection of the government to prevent competition and bale them out when they do fail as we have just been through. This happen in insurance, and the auto as well as banking. They managed on the idea that they were so big that them failing would do more damage then if the government bailed them out.
And for once I find myself agreeing with a Tory grump like Martin Hutchinson. It's great how Wall Street has succeeded in uniting so many people in common loathing.
Rescind TARP (Troubled Assets Recovery Program) now. It served its purpose. Why not let the CDOs' (Credit Derivative Obligations) and CDSs' (Credit Default Swaps) float and stand on their own feet, swim or sink. The ones holdings them took the risk. Let them answer to themselves for buying them and taking the losses like we ordinary investors did buying stocks and seeing our stocks drop in value more than 50%. Why save them? Only then will Mr. Market be performing its proper function and living up to the principle of "survival of the fittest". The mega banks, investment banks, oil sheiks and sovereign wealth funds should take their lumps like everybody else to bring back fairness to the marketplace. It is so grossly unfair now to see the institutions that brought us into this morass go unscathed and basking in continuing wealth. Now is an appropriate time to take that kind of drastic measures needed to correct our dysfunctional global and domestic financial systems. Now that our global economy and our own US economy have stabilized and making gradual recovery, maybe we need to take some more pain to make our financial system right. Otherwise, the same scenario will repeat itself with the same players who brought us into this mess in the first place once again doing the same thing.
Regulation is a terrible idea. First of all, it was not CDS, but conventional home loans that brought down banks like Wamu, Wachovia, and Countrywide. CDS was not a significant component, nor would it have been since they were going to sell most of the junk to Fannie and Freddie (which don't use CDS). Bear and Lehman had similar problems, and though their exposure to CDS was greater, the solution was simply to let them fail. That leaves only AIGFP with huge CDS exposure, which should have been left to fail as well.
CDS are not the cause of the housing bubble or the financial crisis. They were simply the first indicator, the canary in the coal mine, and a lucrative arbitrage strategy orchestrated by Goldman. Regulating them along with proprietary trading will have no effect.
And even if it did, in 5 or 10 years the banks will have vitiated the restrictions or figured out ways around them, or another (perhaps foreign) non-bank will have figured it out.
As for restricting or taxing trading, that kind of proposal will have unintended consequences, not least of which is making US banks uncompetitive (as if SOx isn't enough). Nor is it tenable politically.
Everyone wants smaller banks. It's easy. End the bailouts and let the big banks fail, and then chop them up in receivership.
Matt,
The problem is that before the removal of Glass-Steagall, you couldn't take A loans and B loans and combine them together and call them AAA. Millions of those bundled securities got sold to insitutuions that could only buy AAA because they where chartered to be ultra safe. When those B loans started to go bad the value of those structured securities fell causing huge loses to the holders. If the government hadn't bought billions of dollars of these depleted instruments, many of the biggest financial institutions would have probably collapsed. Guess who ownes those financial instruments now? Yep, we the takepayers. Does it kind of make you a little mad. Glass-Steagall was enacted in 1934 because of the findings of the Pecore Hearings which where held to figure out what caused the Crash of 1929. It was removed in 1999, eight years before the worst financial collapse since 1929…. In my opinion, THAT is why we need to reiact it. In my opnion Mr. Volker favors reinactment or reregulation by another name.
Mike
I think Volker’s influence is a good thing. His knowledge and independence in economic opinion seems unbiased by political whim. He quietly distanced himself the past year from the policies implemented under Bush or Obama to save us unless directly put on the spot when he denied being an influence in the policy determination. In fact one situation in England he made it fairly clear his opinions were being ignored and laughed. Now a year later he is being called back in to clean up the situation and develop sustainability for us!
It may not be immediate and it may still be painful! A lot of the stock market rise and enjoyment of life since 1980 has been based on unrealistic inflation and devaluation and articially low interest rates. He has consistently indicated we were living beyond our means as a country. We were buying and consuming more than we were producing! We went from a net lender in 1980 to the largest net borrower now! Like personal debt its got to be paid back or defaulted on! Usually this involves doing with less consumption which is created by national policy or global lending refusals! In any case it means living on less and possibly a reduction in inflated values.
This problem happened under the Greenspan terms in the FED which started under Reagan. There seemed to be strong ties and perpetuation of national global policy under the Bushes and Clinton inspite of supposed party differences and they are still pictured together in the requests for money for disasters.
I wonder who Volker would recommend for Treasury or the Federal Reserve to get this mess straightened out! I also wonder what other changes he would recommend including congress!
I very much appreciate the article and the comments. I always liked classical economics in college because of the "truism" of the perfect competition model, and the ever-repeated mantra that deviations from it (imperfect or FALSIFIED information, OLIGOPOLY, and failure to price in externalities) would cause problems, distortions, higher prices, and ultimately less total value in the economy. Enlightened regulation was ALWAYS the cure, to return the system to as close to the perfect competition model as we could get. Our systemic problems today are the result of failure of our economic, banking, investing, and political elites to follow Economics 101, due, definitely, to the Original Sin of Greed. Unfortunately, it our collective failure as voters to become educated, and then vote the bums in both parties out!
You hit it on the head. Today, insider trading is not about trading on insider company information, it is all about insider trading on money flow information.
I respectfully disagree however with your conclusion that nothing can be done about it. Major investment houses have an undue advantage over small traders since small traders do not have visibility on the major trade trends that the investment houses themselves or their peers may be trading on. If trading on the information about money flows can't be made illegal, then steps must be put in place to make the money flow information available to the public. In the context of today's electronic trading platforms, this is entirely possible. Anonymity can be maintained to protect the interests of specific parties and collated trades by large traders should be disclosed. Using means to disguise such intent should be made illegal. Trading flow disclosure is a key disclosure requirement. Proof is, SEC rules all over the world have long required investors to disclose ownership above certain thresholds and almost all large ownership changes.
The disclosure rules were made to keep the trading public informed in the days of manual exchanges. The "fast trading" which is now possible on electronic systems can make daily mockeries of the ownership disclosure rules, with parties exiting positions well before disclosure time frame requirements are reached. This is aggravated by the micro-profits that are made on the trades which as you point out encourages even more "Fast Trades".
Likewise, why do only the largest investors have real-time or near real-time access to money flow information like short interest? Ordinary traders only have access to this information long after the value of the information has passed.
The role of the regulator is to level the playing field. Putting in place measures that will prevent catastrophe on the playing field is good but not nearly enough. Taking away the "obscene" home court advantage is a key step to developing markets that are stable and efficient.