 Hello, my name is Edward Stringham. It is my great honor to be here. I want to thank Jeff for inviting me, Mark for inviting me. I first came here in 1996 when I was a wee boy at age 21 and it was really a great experience reading all of these great works in economics, Mises and some of the other great liberal economic thinkers and I remember spending the summer at my parents' house in my backyard just reading all these great works in preparation for this seminar and it was just fantastic and it really changed my life in a positive way to be connected with all of these great economic thinkers. Since then I've gone on to to read many other great economic thinkers and so I really appreciate the opportunity to be here. Back then the Institute was not nearly as large as it is now. There weren't nearly as many students. David Gordon was here though so David really nice to see you. Mark was here as well nice to see you and the town the Institute has expanded. I also was staying in the dorms back then. Jeff was just asking me how the hotel was and I said well it was great. It was it was much better than those dorms. I had a king bed, got into my room, was fast asleep. It was perfect and in the middle of the night at 4 a.m. Hello? Who's there? And on the other side of the door we're from the government and we're here to help and I was like oh great extra service this year. So I invited them in. The police were there. They were checking to make sure the sheets were on my bed. They're making sure there were pillows on my bed doing the full inspection. How are your towels? Okay. Alright good. If you ever need to call us again here's our cart. Thanks guys. Thanks big government. What I'm gonna do today is talk about two positive economic views of the world and one is the idea that order in society is mandated and created by a centralized authority the state and I'm going to contrast this with another idea which is that order in society comes from society. Order in society comes from the market. Order in society comes from voluntary private associations rather than coercive governmental ones. So those are the two views that I'm going to be talking about. Now notice there might be some normative implications of this talk. What ought we to do? What kind of rules in society ought we to have? But almost everything I'm going to be focusing on is purely descriptive, purely positive, describing how the world works, how markets work, how we have order in society. And to do this I'm going to go through a few examples for true stories and then I will conclude with a fable which is partly based on truth but not all of it's true but it's called the fable of the leeches. Alright Joseph you've heard this one before so don't give it away. Can I trust you? Okay. Alright so in February 5th of 2016 of Friday hackers posing as officials from the Bank of Bangladesh, this is a true story, sent Federal Reserve Bank of New York some request that said can you please send us 900 million dollars and the Federal Reserve Bank of New York, this is all true actually, maybe not the way they respond it but the facts of the case are as follows and they said okay so they start transferring this money and it's going to these two privately held banks one in the Philippines, one in Sri Lanka and after 100 million dollars was already transferred, one of the routing banks, Deutsche Bank was looking at things and they said weird this foundation has a typo in it it's called the foundation. Do you think we should look into this? So they called up the Bank of Bangladesh and it turns out Friday is a weekend day in Bank of Bangladesh and so all the Bank of Bangladesh people like you know playing golf doing whatever they're doing and then they show up to work a couple days later like whoa where's our money and so Deutsche Bank actually stopped the remaining 800 million dollars from being transferred but 100 million dollars was sent and it was transferred to those two private accounts and withdrawn and cashed and spent on casino chips. Now some of you might know that these casino chips are basically impossible to track down and to this day the money is long gone. Now I mentioned this to illustrate that if these two very large governmental institutions can be victim to fraud like this and they have limited ability to get their money back what does that mean for the private sector? What does that mean for the rest of us? Imagine you are a merchant and you're selling something and you become victim of some of these Bangladeshi hackers. How easy is it for you to get your money back? So this is one of my books it's called Anarchy in the Law. I had an order a month ago and the customer was from Bangladesh. He assured me that he was a big fan of my work. I think he had spoken with Jared. Jared had told him about me so thank you Jared. I shipped the book and a month later so I get the money. American Express gave me the money and a month later the credit card company calls me up and like Ed Stringham it was fraudulent order and we're gonna have to issue a charge back. So luckily I've been visited on another occasion by I'm from the government and I'm here to help so I immediately picked up my card. It's Ed Stringham here. How we meet? How we meet? We help you. Someone in Bangladesh stole my $40 book. Okay we're on it. So since then I've followed the following steps. I got my local lawyer. He's called the local police. He then is coordinating with them. I've got a lawyer in Bangladesh and they're coordinating with the local police in Bangladesh. What they're trying to do right now is they're gonna try and identify the culprit. Once we identify the culprit we've got the court system lined up where we're gonna create this trial. We're thinking about having it start in the United States. We're gonna have the trial there and then concurrently we're gonna have the trial in Bangladesh and then after we have this trial we're gonna have this coordinated mechanism between the police in the United States and the police in Bangladesh and then I'm gonna get my $40 back. Now I mentioned this because this is an actual problem for all merchants. All merchants who are victims of fraud even though the government exists even though laws against fraud exist they cannot rely merchants cannot rely on government to get their money back. So they have one of two options. They can either just deal with the problem, consider it a loss, cost of doing business or they can take private steps to mitigate those costs and that's what the focus of my research is on private steps, private rules and regulations to mitigate the costs of fraud and or also unintentional default. So theoretically you can sue people and government courts but I'm going to argue as a practical matter the cost of using government courts is so big even for this $900 million fraud in many cases the government courts cannot help you in the slightest. So you have to rely on private solutions. So what do people do? I'm gonna highlight one of the pioneers in what I call private governance. Private governance is my other book, Jarrett, I appreciate you reading Anarchy and the Law but you have not read private governance as well. Come on what's wrong with you? How old are you anyway? Oh come on. When I was 20. In PayPal's case they were one of the pioneers and helping individuals transfer cash to each other and or to merchants and what they didn't realize within a short period of time they were victims of large-scale fraud. There would be all these people who would specialize in sending out these phishing emails to get people's passwords. There would be these illicit black markets where they would sell passwords to other parties and those parties would then be able to steal from the accounts and in many cases they would program bots to log in to all these accounts in the middle of the night, transfer it $10 out of each person's account. In the mornings the bot transfers the money to one person's account, the fraudster's account, he withdraws the money, and then it's long gone. In each case you've got all of these disparate individuals. You might not notice that that $10 is gone. By the time you notice it's gone it's gonna be like whoa who is that fraudster again? What happened was PayPal was losing tens of million dollars per month on these fraudulent transactions and similar to my examples before they actually did contact law enforcement and they found out, this is according to their founder Peter Thiel, that the government was very ill-equipped to deal, I'll just say it that way, very ill-equipped to deal with their problems. In one story he tells the, he said there was a dispute between the FBI office in San Jose and the FBI office in San Francisco of which one of us has jurisdiction over Kazakhstan. So they didn't have legal jurisdiction and really more importantly they didn't have technological knowledge. The internet, well now thankfully we've got the NSA reading all of our emails but back then the internet even today they don't have great forensic abilities to be able to see who are those quasi-anonymous fraudsters. In one case they found out who the person was, they reported it to the authorities, they brought in a bunch of evidence and they're like okay look here it is and the authorities looked at it like, ah, what's a banner at? So what did they do? They ended up having to take matters in their own hands. They programmed a private security system which used machine learning coupled with human review and they called it Igor which was named after one of the fraudsters who was stealing from them and Igor would basically monitor all of the transactions at any given time and they'll be able to say look at everybody's account and they say, though Bishop you don't usually make transactions at 5 a.m. for diapers. Is something wrong with you? And the machine and to this day our credit cards use this will predict using predictive analytics probability whether the transaction is good or bad. They, unlike legalistic approaches or regulatory approaches, need to weigh type one errors and type two errors. They don't want to turn down all orders that would be bad. They don't want to accept all orders that would be bad. So they have to weigh the costs of accepting some bad orders with the flip side of that and so you have the ability to calibrate that and each firm is in this market, I'll call the market for private governance, trying to figure out how to do things better. The better they can do things the lower the transaction costs of conducting trade and they price basically they price the cost of fraud into every single transaction. So right now the fraud loss ratio for most online transactions is say 1% in some cases it's less and private parties can price that into a transaction and it makes it a economic transaction, an economic variable rather than a legal and regulatory one. There are certain goods that are more likely to be fraudulent transactions. So gambling websites, adult websites, electronics, there's lots of things that are more likely where the customer buys it as I know no way I would not have bought that and they issue a charge back and in those markets the charge back ratio can be upwards of 10% and that in some abstract sense from a legalistic perspective oh that's impossible we can't have that well what do they do they have high-risk payment processors and high-risk payment processors simply price that into a transaction and each of those companies doing business in that space has an incentive to try and reduce the risks of fraud and so they take extra steps figuring out oh well we're gonna analyze when these transactions are occurring we don't want to have too many orders from one IP address at one time because that's more likely to be fraudulent on the other hand it might be a legitimate order if it's at a college where everybody's ordering a textbook so they have to weigh these costs and benefits of being too strict or true lackadaisical and they make this an economic transaction in PayPal's case we pay them and in our credit cards pace case we pay them to assume the risk of fraud and manage it on our behalf and it transforms that what could have been a legal decision into a an economic one another related example I'll mention this is also from the 1990s a guy I know he had a a computer company and not too far away from when he was gonna come out with his product some hackers called a broke into his system and so he called the police and this is what happened what happened some hackers broke into my system where they break in from the internet what's the internet so at this point we all know that the private computer security industry is a huge industry because private parties cannot rely on government as much as we want to think the night watchman state creates order in society it protects our private property that's not how private parties consider their problem let me give you a couple other examples in 1997 98 I after I graduated college I worked in Boston and I was working on a trading floor for one of the largest financial companies I was in World Trade Center Boston at the time our firm was dealing with 5% of all volume on the New York Stock Exchange so we were very huge most of that was automated but I was working on what's called the over-the-counter trading desk and that was dealing with illiquid stocks in many cases stocks that had been delisted and there's not you can't really automate those and you had to actually they were called pink sheet stocks and people would call us up and say I'd like to unload a bunch of this pink sheet stock and we actually had this book it looked like a phone book with pink sheets in it and we'd have to see what other firms made a market in that and then we'd call them up and say all right you know we've got X number of this share what's your bid ask on it and then they would tell us and then I'd say to the person we were dealing we were my desk was agency traders so we're in the middle and I was assisting the people would execute the trades and and then say all right here's the bid ask and then they say okay all right they want to place the order the trader I was working with it would execute the order and then I deal everything we've done now at the end of the day and variably there would be some problems and it wasn't intentional but you're getting so many of these orders every minute or every hour for the entire day and it's very easy for the other party or you to miss here I thought the person say buy 100 versus sell 100 or I thought the limit order was this versus that or we or they did not get the order in the right time period and did not fill it at the right time and the right price and we were obligated to make sure all customers got the best execution and so we would act we couldn't just say to the to the customers ah sorry you know it was noisy I couldn't I couldn't hear what you're saying so all right okay next we would actually have to call up the market maker and say you know something went wrong so what did we do do do do 9-1-1 I tried to make it we tried to make a trade today and the person misheard the order go get them go get our shares of this delisted stock and make sure they deliver it at the right price and if they don't we're gonna sue them we'll see in court buddies is that what I did what did I do I'm sure everybody here knows what I did yes yes Adam Smith had a phrase which Gordon Tullock actually uses this phrase so it's not an Adam Smith but this phrase called the discipline of continuous dealings and he says when you're dealing with people multiple times in a day you don't want to just sour the relationship over some small thing especially an error and so because this happened so many times we just call them up like hello you think you can help me out please and there's a sure thing and there was a case where every single day it was like you repeat dealings and in most cases these errors would even out and so in most cases they would say yeah sorry we'll just fill it at the right price in a few cases if the error was large enough and the price of the stock went the wrong way a lot that became an issue so you know one of my friends made a I won't say the amount but a pretty big error on one day and that was the last day he worked there but what they we did is if it was a large enough thing it would either be charged to the trader's account or the firm would just eat it so it was never legalistic it was economic incentives economic incentives and repeat dealings provide a substitute an alternative to the quote necessity of relying on government courts imagine having a trial for any one of these cases which might take months two parties don't want to have an open-ended position in these stocks because if they're going fluctuating in crazy ways like oh well we're just gonna wait till the judge decides it's like no just settle it right now figure out the price as quickly as possible and deal with it privately all right the courts were not involved I'm going to tell you a another example and this comes from the construction industry I spent some time in New York and I had the opportunity to see one of these high rises being built and I can tell you the amount of speed that they do things is just it's just amazing so Israel Kursner talks about the fog of uncertainty well I would wake up every morning in a fog and uncertain are these people really here at 7 a.m. the day after Thanksgiving working so crazy to get this done and the answer is yes they were working because there's so much money at stake if you're the master developer for one of these 80-story high rises it's like a huge march everybody needs to be there at the right time the cost of the cranes is expensive the cost of the financing is expensive you can't put in the kitchen cabinets until the pipes are there you can't put in the pipes until the floors are there so everybody needs to be marching very tightly next to each other now suppose you've got a small contractor one-man show he doesn't need to worry about other subcontractors holding up the show but in some of these huge high rises there's just you would never want to have it all done as a vertically integrated shop it needs to be all these different subcontractors and in my own case I know my couple cousins who work in the kitchen industry and one of the things they do is they provide kitchens to high rises a couple of my other neighbors also provide work in the space one of my neighbors she provides Italian marble and different materials to kitchens and baths in high rises in New York now I like my friend a lot she's great person but I can tell you this and this is not an offense to people from Italy I love Italian people but any time like it's like hey we're having a party at this hour and it's like four hours later she's like oh what what time was the party we're going to the opera it starts at seven okay so like nine no no no seven and one of my other neighbors also Italian and I asked her she's a lawyer she deals with courts court disputes between American no not court disputes legal potential disputes between American companies and Italian companies and I asked her I said I said what happens if you have to go to a court in in Italy and she's like no no don't do that in Italy the average case according to this statistic I have here is total length of trial is two thousand eight hundred and sixty six days okay so imagine being a master developer and you order this Italian marble and you're like all right great I'm gonna have the best most beautiful kitchen ever and then all of a sudden it doesn't show up on time obvious solution do-do-do big government I'm gonna need your help we've got an operation here we're gonna need to send some people to Italy to get some new marble wouldn't work so well the United States would not work so well either you need every single person to be delivering right at the right time because if you don't those people are gonna hold up the show for every else so what happens how does my cousin's kitchen company and bath company tell the master developer that they're gonna be able to deliver on time when there's no real legal mechanism there's something called a contract bond a performance bond anytime there's a lot at stake like this my cousin's kitchen company they have to go to this performance bond company a contract bond company and this company basically provides the equivalent of insurance that says this party is going to deliver I promise and if they don't deliver I promise I'm going to give you the master developer a lot of money now how does this align incentives my cousin's kitchen company wants to be able to install kitchens in Manhattan high-rises they need to be able to get insurance or underwritten by these performance or contract bond companies and so the last thing in the world a kitchen company wants to do is not deliver with their contract bond company the company that writes the contract bond will then do beforehand an investigation of my cousin's company to look at their capacity how many you know what's the largest project you've done what's your performance record on this and if you get you want to go to a larger style building you have to apply to these contract bond companies to say well I don't think you know we don't know if we can underwrite you on that one okay so it's all private because things are so timely you cannot rely on government courts for this but instead there's private solutions private mechanisms private governance is important when government is slow let me give you one more example and then I'll get to my fable and then we can talk about the full or two more examples and I'll talk about the full implications does anybody here do direct business with companies that are heavily involved with blockchain technology a couple of you is anybody here let me how about your parents let me ask on behalf of your parents does anybody here have parents who do business with companies related to blockchain technology okay all right one of you all right I'm gonna actually suggest that all of you hundred percent of people in this room would fit into this category a friend of mine she works for what's called the depository trust and clearing corporation I bet not many of you have heard of it but every single person or your parents in this room deals with them and what they do is they basically are the depository or the custodian of pretty much all stocks all stocks are held by this company and they settle are you ready 1.5 quadrillion dollars worth of stock transactions per year and they are the custodian of 49 trillion dollars worth of securities and the origin of this company is actually kind of cool there were two precursors of it that merged but this was came about in the well the precursor to this but there were these problems emerging in the 60s and 70s and it was called the paper crisis in New York anytime you make a stock transaction you have to have lots of different forms associated with it and in up until even the 1980s they were using it was largely solved by them but the equivalent of wheelbarrows between the brokers and the banks in downtown Manhattan to actually be like giving this huge things of paper and invariably a lot of these pieces of paper would get lost and so for the first time the depository trust and clearing corporation created electronic settlement and so that really took off in the 70s and the 80s and incidentally if people visit New York you'll know that now a lot of the banks are based in midtown rather than financial district because you don't need to actually be physically wheeling these pieces of paper back and forth so most transactions are on digital certificates digital databases digital letter ledgers but as of 2012 there was still lots of other things that could not at the time be digitized and they were stored in a vault this vault had 1.7 million dollar paper certificates and other documents in a 10,000 square foot vault 60 feet below the street in Water Street in downtown Manhattan let's just think about the name of the street what's the origin could the origin of that street be well anybody here from New York it's by the water there was this other thing called Hurricane Sandy anybody hear about that I was living in New York at the time and I had major conflict because on the one hand I had a place right in downtown also right by the water and I'm like looking on the news and the two storm fronts coming and everybody's nervous calling me and I'm like this is gonna be awful it's gonna be really bad but also at that time was Occupy Wall Street and they were also in downtown Manhattan so is this thing being recorded chat chat so yes depository trust and clearing corporation after the flood officials from the depository trust and clearing corporation so so so the storm flooded all downtown New York and after the flood these officials descend the staircase 60 feet below level see street level and they open up this vault all of these certificates are floating in this very dirty seawater okay so what they did was they opened up Paul Samuelson's textbook and they said all right government establishes property rights they they delineate the rules of the game they create order they make sure people know who owns what do do do 9-1-1 we've got an emergence here come send send all the cops you got to help us okay maybe you realize that's not what they did it's not what they did at all they had one of the most amazing it was like there needs to be a movie about this but they've got these security comes in and all of this is under some full surveillance are videoing it making sure nobody steals anything but they take these pieces of paper up to the street level and they put them in these freeze trucks these refrigerator trucks which and I'm not a scientist but this is what I've read when you freeze the water it stops deterioration so now they've got these huge blocks of ice with all of these materials in them and then once they do that they then sent them with brinks trucks this talk is brought to you by Brinks if you just kidding I don't know if it was Brinks but I think it was Brinks and if you're in need of a private security solution so this these armed guards trucks then drove all these certificates down to Texas and there they freeze dried the the the frozen stuff and apparently that gets rid of the water somehow and then they then put in all this other chemicals into it which somehow preserves these now dry pieces of paper and they could like actually use them again very interesting I saw some pictures of after this they had this kind of copy facility in New Jersey and you know as a backup but since they don't use it all the time it's like had these very outdated like 1990 computer so it's like looks like something like straight out of like it's like old-fashioned movie but they ended up restoring all these certificates and everything is fine and guess what party right now what company right now is a huge investor in blockchain technology depository trust and clearing corporation is using blockchain technology to have ledgers of all of these different either certificates or a distributed ledger that says here who owns what so most people think about blockchain technology is with its association with the currency Bitcoin but I think a lot of you know there's a lot of other uses of blockchain technology and in many cases companies are having shares private issued private issue companies say all right we've got 100 shareholders and here here they are and we're gonna have this ledger distributed ledger on many different computers and we now know who owns what even with regular stocks right now most companies don't think it would be very difficult to know who owns shares in that company because there's just so many trades back and forth every day Microsoft might know okay 1% of our companies owned by fidelity customers but they don't know who those people are and what blockchain technology has the prospect of doing is having these distributed databases to ensure clean efficient tracking of the shares in these companies other things that I think are very exciting about blockchain technology is not my topic of the talk today but there's these things called smart contract technologies has anybody who has heard of that smart contracts okay good a lot of you and basically programming algorithms to say under these certain conditions when those are met transfer these shares and it's a way of basically automating what used to have to be done using these whale barrels okay so markets to me are fascinating they are this invisible hand full of invisible hand mechanisms there's conscious choices at each step of the way by the individuals involved but there's not this one governmental planner who's saying aha here's what you need to do here's how we're gonna track property rights and here's how we're gonna make sure people get what they owed if you look back in history there's just plenty of examples of this my own research my book on private governance this talk is brought to you by private governance with Oxford University Press by Edward Stringham if you act now I go through some examples in history and show that all of the first stock markets government did not understand them they in many cases thought they were forms of gambling and people created private rules and regulations in each of them in the London Stock Exchange the precursor to that was coffee houses where they started creating rules to make sure people got what they were owed this was not created by the government all right now I'll give you my last story for today and this one is most well some of it's true now I know what each of you are thinking right now okay you Ed Stringham have shown examples of markets working markets creating rules and regulations doing it successfully but they're in the backdrop of the state and really it's the state that underpins all of these things without the state we wouldn't have any of this so here's my fable my grandparents my great-grandparents my dad my dad grew up when he was a very young child in this very beautiful it was part of this very beautiful state in upstate New York and it's been in my family for a couple hundred years and it's just incredible and we used to have dairy and grain and ice and a lot of different things there but by the 20th century we weren't really doing much of that and this is about 100 miles north of New York City and in Dutchess County New York and so we had this beautiful estate and this water which had become fallow so it just used to be used as a mill and now is just sitting there so it's very attractive but it was not being used for anything and so my dad said that when he was a kid he could go swimming in this little pond like area and it was cool but I had one downside leeches so if you weren't careful if you get leeches and so he tells me the story of one time he went swimming how's great swim okay now let me just take a nap such a great day wakes up an hour later leeches I'll leave out the details dr. Stringham dr. Stringham please don't kill us you need us leeches dr. Stringham listen to reason we were here before you existed therefore it shows that we preceded this great estate we've done research we've done econometric studies and found a perfect correlation all great estates have leeches therefore great estates caught are caused by leeches find any economist and he will tell you we create the conditions for great estates to exist now we will not be greedy we will not suck all of your blood but you need strong leeches we will just tax 33 percent of your blood now in the interest of having my work subject to interpretation I will let you the dear audience conclude whether that story applies to any human institution my own view is that we can look at the world and assume ah look at how great it is it's because of the cops it's because of the police it's because of the law or we can look at the world and say it's because of private action because of what we might call emergent order invisible hand mechanisms and I'm not saying it's spontaneous and that like everything's random people are making choices private people are making choices rationally but bringing things together improving things gradually over time I would argue the history of markets is a slow and gradual improvement that we see today I will suggest that the economists who argue that markets are created by government are the equivalent of of certain type of creationists I'm Christian I believe the God that God created the universe but I don't believe that God created the universe in a modern human conception of seven days I reject that idea that most Christians believe in evolution and I believe that markets evolve so we have this slow evolution of markets in the same way that the world has evolved I don't believe that markets were created on the seventh day Elizabeth Warren created the consumer financial protection bureau and then we had markets that is economic creationism and I think it's wrong instead I look at the world and I look at all the private rules the private regulation and private governance that make modern society possible and I'm very grateful and I'm grateful to you thank you