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“Chirol” of Coming Anarchy (which is a fantastic blog for those interested in global and comparative politics) comments on the recent news that Somali pirates have set up what amounts to a stock exchange to help fund their operations.  Chirol quotes from the original Reuters story:

It is a lucrative business that has drawn financiers from the Somali diaspora and other nations—and now the gangs in Haradheere have set up an exchange to manage their investments.

[…] “Four months ago, during the monsoon rains, we decided to set up this stock exchange. We started with 15 ‘maritime companies’ and now we are hosting 72. Ten of them have so far been successful at hijacking,” Mohammed said. “The shares are open to all and everybody can take part, whether personally at sea or on land by providing cash, weapons or useful materials … we’ve made piracy a community activity.”
[…] “The district gets a percentage of every ransom from ships that have been released, and that goes on public infrastructure, including our hospital and our public schools.”

One commenter noted that the enterprise could not last without formal legal structures to provide proper oversight.  Chirol responded that “those structures essentially exist in Somalia, they are just “informal” according to us since they are illegal by our standards and not government run. But such mechanisms do exist.”

My question is, do they really exist? Theoretically, you have repeated interactions which discourage cheating in the short run as well as a community that could possibly impose reputational costs on particular actors, but these are not efficient mechanisms for compliance and trust. Whose is responsible for monitoring? Who pays those costs? If it is individual actors the transaction costs are sure to be quite high and, moreover, inefficient and ineffective. You need a (presumably) neutral body that can write, monitor, and enforce rules and regulations that act as the foundation for the entire investment process. The pirates themselves are not exactly a neutral party, and as they are effectively running the exchange it should create all kinds of perverse incentives and issues in the long run. In either case, it is a fascinating development.

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