Alice — of Wonderland fame– would say that our economy is getting “curiouser and curiouser.” Barney Jopson in the Financial Times tells us that prices on Amazon’s mega shopping site are changing as frequently as every 15 minutes because small merchants are now using the kind of high-speed trading tools usually seen on hedge fund trading floors to undercut their competitors.
Amazon sellers – using third-party software – can set rules to ensure their prices are always, for example, $1 lower than their rivals’. More complex algorithms can analyse data to set prices most likely to secure a prominent position on the site.
We’ve already seen how this kind of algorithmic, high-frequency trading approach can go wrong in the stock markets. Remember the Flash Crash of 2010? From Wikipedia, with my emphasis:
On May 6 , US stock markets opened down and trended down most of the day on worries about the debt crisis in Greece. At 2:42 pm, with the Dow Jones down more than 300 points for the day, the equity market began to fall rapidly, dropping an additional 600 points in 5 minutes for an almost 1000 point loss on the day by 2:47 pm. Twenty minutes later, by 3:07 pm, the market had regained most of the 600 point drop.
What do you get when you have multiple sellers employing similar pricing techniques? (Amazon, itself, has employed similar methods for quite some time.) How about a $24 million textbook?
Last month I questioned whether the collective and increasingly technology-driven actions of Too Big to Fail banks, hedge funds, asset managers, shadow banking system participants and others were leading us toward a financial singularity, an economic world with steadily decreasing human intervention that was becoming harder and harder for us to fully understand, yet alone manage. Yes, it’s true that the algorithms will get better and better. More safeguards will be built in to prevent recurrences of yesterday’s problems. But scale, complexity and leverage mean that new problems are bound to pop up.
There’s obviously a big difference in the consequences of a financial singularity that occurs in an economy and banking system in which taxpayers are the donors and lenders of last resort, versus those that occur in a privately financed marketplace such as Amazon. The former is worrying, while the is a curiosity, a signpost on the road to a strange and interesting future. For now. But imagine if these kind of pricing techniques start popping up in markets for non-discretionary items. Some say that this sort of behavior is already common practice when there are competing gas stations located in close proximity to each other. Imagine if they could use digital algorithmic pricing systems to frequently update their prices throughout the day? Or suppose supermarkets decided to try this out, and installed digital price stamps that changed every fifteen minutes in response to the prices of the competitors across the street?
Of coure we’d have the regulatory and political safeguards in place to prevent developments like this from happening in markets for products that we all need to survive…right? On the other hand high-frequency trading apparently now accounts for 73% of all equities trading. Our curious future awaits.