57. Economic inequalities and forex or stock exchanges trading.

ANYONE WHO WILL TRY TO MAKE MONEY SOLELY BY TRADING AND SUCH SYSTEMS OF TRANSACTIONS SHOULD BE AWARE THAT THERE IS A VERY POWERFUL AND ALMOST UNBEATABLE COLLECTIVE WILL SO AS NOT TO SUCCEED!  NO-ONE WANTS  PEOPLE TO QUITE THEIR JOBS AND MAKE MONEY THIS WAY AS IT IS SOMEHOW PARASITIC. IT IS IN SOME SENSE  UNETHICAL AS A PRACTICE ENFORCEABLE  TO  THE MAJORITY. AND OF COURSE NEITHER THOSE WHO HAVE LARGE CAPITAL  WANT THAT A MAJORITY WILL MAKE MONEY THIS WAY, AS THEY WOULD PREFER THAT THEY WORK IN THEIR COMPANIES FOR THEM. ONLY IN SPECIAL CONTINGENCIES AND SITUATIONS SOMETHING LIKE THIS WOULD BE ETHICAL. AND IN PARTICULAR A HIGHER MORALITY THAT WOULD SUPPORT SUCH A PRACTICE, WOULD BE PROVABLE WITH COLLECTIVELY BENEVOLENT DEEDS FROM A POSSIBLE SURPLUS OF SUCH MONEY!

It is mentioned in some places in this blog , and also in its subtitle, that trading may contribute in reducing economic inequalities. How is t so?

Let us concentrate at first on stock exchanges trading (securities, commodities derivatives etc).

 It is known that the economic system operates withing economic inequalities, and the statistical distribution shape of these inequalities is the a power or Pareto statistical distribution. (See e.g. http://en.wikipedia.org/wiki/Pareto_distribution ).

From this it is derived also the Pareto rule: "More than 80% of the wealth of the society is concentrated in less than 20% of the population".

In domestic economies the economic inequalities of annual income are also measured with the Lorenz curve, and the Gini index . (see e.g. http://en.wikipedia.org/wiki/Lorenz_curve  and http://en.wikipedia.org/wiki/Gini_coefficient ).

Let us assume that the traders of stock exchanges have a Pareto distribution of  foresting abilities, so that a tiny minority, has very good forecasting abilities and is winning while  the  majority has inadequate forecasting abilities and is losing. Let us furthermore assume that locally stock exchange trading is a zero-sum game. E.g.  by making the accounting of profit and loss daily (mark-to-market accounting) even on still open positions. This is not literally so in general. Investing in the stock exchanges is not a zero-sum game, as e.g. if all are buy-and-hold investors then all  may win simultaneously or all may lose simultaneously when all securities go up or all go down. 

Now if we may assume that forecasting abilities are not correlated with volume of trading , among the winners will still hold a Pareto distribution of the volume of trading, and among the losers the same. Now a trader who is winning, as we assume a zero-sum  game, will take his profits, from losers that follow a  Pareto distribution of losses. Therefore most of his profits will be from a minority of large players and less of its profits from a majority of small traders. Now if the trader himself is a small trader, this means that his gains are mainly from more rich traders, therefore inequalities are reducing. But if the trader is e.g. the largest trader, then his profits will be from smaller traders, (still most of the profits from comparatively large traders) so inequalities are increasing. As a total of trading in the Stock Exchanges , because the volumes of trading are mainly from large traders, the inequalities are increasing (which is the same with the profits of real business too, outside the stock exchanges). But the isolated effect of winning small traders is decreasing the inequalities , while the isolated effect of losing small traders, is increasing the inequalities!
There is a critical size of the assets of the trader, that decides of his trading increase (regressive trading) or decrease inequalities (progressive trading) . Funds with larger size , and winning trading increase the inequalities, while winning trading with funds of smaller size decrease the inequalities. This critical size is the median of the Pareto distribution. Now this median defines a quite large size of funds , more than one could expect.  

Let us now concentrated on forex trading. The same hold as above, with the exception, that in forex we have a class of largest traders, the major 10  banks, who are systematic forex winners, because they have inside information what will happen with the currencies as their customers exchange currencies through these banks, therefore by knowing the transactions of tomorrow of their customers they know which currency will go up or down, and thus they can win rather safely in forex trading. Of course the forex trading of these major bank-players is increasing the economic inequalities. 

Remark about Pareto and Log-normal distributions.

It is custom in the economist to model the financial inequalities with the Pareto distribution (see e.g. https://en.wikipedia.org/wiki/Pareto_distribution  ) which is essentially a polynomial function. The exact model of the inequalities is even worse and is closer to the log-normal distribution (see e.g. https://en.wikipedia.org/wiki/Log-normal_distribution ) where the severity of the inequalities is modeled with exponential functions.But here in this book we may keep talking about the Pareto distribution which is celebrated term among the economists