Chapter 4: Virtual Prices and Second-Order Transparency

Damn it! Markets turned into algorithms! Yes, indeed. Chapter 4 (“Discovering stock prices”) takes The Provoked Economy to the land of the financial automated exchange — digging into the technical trenches of exchange automation, exploring its intellectual meanders, and looking quite narrowly at some eccentric exemplars. In short:

“‘Price discovery automation’ – a wave of electronic interventions that characterized financial markets all over the world and which culminated, sometimes quite resoundingly, with the abolition of open-outcry and face-to-face trading – was presented as both a unique contribution to the purification of price formation (i.e. the removal of the barriers that prevented the expression of the market in the form of truly transparent prices) and a blatant demonstration of the fact that price formation is a technological service (i.e. something that does not happen in and by itself, something explicitly manufactured, utterly unnatural).” (p. 62)

Financial exchanges today (e.g. Euronext) are technology vendors: they sell machines that produce prices. The jargon of equilibrium, efficiency and transparency stands as a marketing argument on the quality of this particular kind of merchandise that prices are. The chapter focuses first on the problem of explicitness that the algorithmic formulation of ‘price discovery’ (as economists put it) entail:

“All situations are to be considered and all possible courses of action solved unambiguously in a finite (and preferably elegant) number of steps. No ‘We will deal with that when the situation arises’; no ‘It depends on how you interpret it’. All possibilities will be contemplated, all combinations will be exhausted. An algorithm is indeed exhausting in a sense not dissimilar from the one Gilles Deleuze spotted in the combinatorial procedures for (desolate) optimization in Samuel Beckett’s characters.” (p. 66)

The reference there is on Deleuze‘s take on Beckett’s Quad. Deleuze is still at work in the chapter when it reaches the problem of virtual and actual prices:

“Something virtual, a virtual price for example, would be something real, in a sense, something living in a particular place, or in many (perhaps only in the mind of Léon Walras, although this was a very real mind), or perhaps in none particularly, but that can be actualized in another place. And the terms of this displacement (it is, literally, about changing place) are not the repetition, the immutability, the adequacy or the conservation of shape and features. The terms are the multiplicity, the transformation, the opportunity and the generation of occasions. Actualization is enactment, and not all acts look alike. But enactment is enrichment of the virtual, not impoverishment.” (p. 70-71)”

Grounded there on a pragmatist appraisal of prices as signs (and on market technologies as enunciation apparatuses), the chapter interprets the “referential escalation” (p. 71) prompted by exchange automation as the medium of high-frequency, algorithmic trading — a phenomenon aptly scrutinized by colleagues in the social studies of finance (see in particular Lenglet’s “Conflicting codes and codings” and MacKenzie, Beunza, Millo and Pardo-Guerra’s “Drilling through the Allegheny Mountains”). It is there where the chapter introduces the discussion of second-order transparency:

“Transparency means anonymity. This understanding of transparency may sound counter-intuitive if considered from a literal vantage point. The transparency-making device prevents you from seeing directly who you are trading with, making that irrelevant. It is also counter-intuitive if considered from the angle of face-to-face interaction, an angle notoriously reclaimed by a sociological understanding of sensemaking in the market. You lose the insight gained from watching people and you must cope with a faceless representative of the market – namely, the screen (a notion which can convey, paradoxically enough, both an idea of displaying or broadcasting and an idea of partitioning or concealing).” (p. 72-73)

This problem — and its cybernetic guise — is examined in the light of what Jean-Pierre Dupuy has termed “Von Foerster’s Conjecture”:

“A system in which members recognize themselves is transparent to them since they situate themselves, artificially, in a position of exteriority that we usually call ‘society’, but opaque to a second-order observer who finds it messy. A system that prioritizes second-order transparency requires trivial rules, and is therefore somewhat opaque (putting sense out of reach) for internal participants. But, in contrast, it provides a neat delineation of behaviour and rationale from the second-order angle.” (p. 74)

The material culture of financial markets is to a great extent a culture of second-order transparency, the chapter claims, which translates into escalation in meta-observation. The trouble is, it adds, “that what we are now left with is an overcrowded, saturated mass of externalities, blind spots and cracks whose dangers no aggregative magic is likely to cancel “(p. 75).

The chapter concludes on two slightly radical ideas about how to make sense of prices in finance today. The first is about their “uncommercial condition”. Can we interpret prices as the sign of “supply” meeting “demand” in a “single point” with the purpose of engaging a commercial exchange? Perhaps still a little bit:

“But the fact is that price discovery automation produced, above all, a medium for the rapid, automatic production of prices, irrespective of their commercial purpose. To want to buy or sell a determined quantity of stock shares might be fairly common motives for putting an order through the electronic system, but definitely not the only ones, and perhaps not the most common ones nowadays.” (p. 75)

The second conclusion is about the “substrate function” of prices. Prices are not there to refer to mercantile transactions, but to serve as merchandise in an by themselves — as bulk matter for the derivative business:

“The commercial purpose of the immense quantities of prices produced by the automated stock exchange is to provide the stuff (‘underlying’ prices) that serves as a substrate for all kinds of derivative financial activities. The idea that derivative finance emerges on top of plain finance as an overarching probabilistic technique for assessing, insuring, hedging and underlying reality is quite passé. Rather, it is the other way around: first comes derivative finance, and then matter is produced that can serve as its substrate.” (p. 77)

In this respect, the chapter quite connects with current metaphysical developments that try to consider prices as a “medium of contingency”.

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