GDPR Compliance in Light of Heavier Sanctions to Come: at Least in Theory

[su_pullquote align=”right”]By W. Gregory Voss & Hugues Bouthinon-Dumas[/su_pullquote]

Ridiculously low ceilings on administrative fines hindered the effectiveness of EU data protection law for over twenty years. US tech giants may have seen these fines as a cost of doing business. Now, over two years after the commencement of the European Union’s widely heralded General Data Protection Regulation (GDPR), the anticipated billion-euro sanctions of EU Data Protection Authorities, or ‘DPAs’, which were to have changed the paradigm, have yet to be issued.

Newspaper tribunes and Twitter posts by activists, policymakers and consumers evidence a sense of unfulfilled expectations. DPA action has not supported the theoretical basis for GDPR sanctions—that of deterrence. However, the experience to date and reactions to it inspire recommendations for DPAs and companies alike.In our working paper, EU General Data Protection Regulation Sanctions in Theory and in Practice, forthcoming in Volume 37 of the Santa Clara High Technology Law Journal later in 2020, we explore the theoretical bases for GDPR sanctions and test the reality of DPA action against those bases. We use an analysis of the various functions of sanctions (confiscation, retribution, incapacitation etc) to determine that their main objective in the GDPR context is to act as a deterrent, inciting compliance.

To achieve deterrence, sanctions must be severe enough to dissuade. This has not been the case under the GDPR as shown through an examination of actual amount of the sanctions, which is paradoxical, given the substantial increase in the potential maximum fines under the GDPR. Sanctions prior to the GDPR, with certain exceptions, were generally capped at amounts under €1 million (eg £500,000 in the UK, €100,000 in Ireland, €300,000 in Germany and €105,000 in Sweden).

Since the GDPR has applied, sanctions have ranged from €28 for Google Ireland Limited in Hungary to €50 million for Google Inc in France, far below the potential maximum fine of 4% of turnover, or approximately €5.74 billion for Google Inc. based on 2019 turnover. While the highest sanctions under the GDPR have been substantially greater than those assessed under the prior legislation, they have been far from the maximum fines allowed under the GDPR.

Nonetheless, this failure of DPAs, especially the Irish DPA responsible for overseeing most of the US Tech Giants, has not gone unnoticed, as shown by EU institutional reports on the GDPR’s first two years. Indeed, increased funding of DPAs and greater use of cooperation and consistency mechanisms are called for, highlighting the DPAs’ current lack of means. Here, we underscore the fact that, in the area of data protection, there has been perhaps too much reliance on national regulators whereas in other fields (banking regulation, credit rating agencies etc), the European Union has tended to move toward centralization of enforcement.

Despite these short-fallings, the GDPR’s beefing-up of the enforcement toolbox has allowed for actions by non-profit organizations mandated by individuals (such as La Quadrature du Net that took action against tech giants after the GDPR came into force), making it easier for individuals to bring legal proceedings against violators in the future, and an EU Directive on representative actions for the protection of consumer collective interests is in the legislative pipeline.

On the side of businesses, there has been a lack of understanding of certain key provisions of the GDPR and, as compliance theorists tell us, certain firms may be overly conservative and tend to over-comply out of too great of a fear of sanction. This seems to be the case with the GDPR’s provisions regarding data breach notifications, where unnecessary notifications have overtaxed DPAs. The one-stop-shop mechanism, which is admittedly complex, also created misunderstanding.

This mechanism allows the DPA of the main establishment in the European Union of a non-EU company to become the lead supervisory authority in procedures involving that company, which potentially could lead to companies’ forum-shopping on this basis. However, there is also a requirement that the main establishment has decision-making power with respect to the data processing to which the procedure relates. Failure to consider the latter requirement could result in companies selecting main establishments in countries where there is not such decision-making power, and thereby halt attempts at forum-shopping for a lead supervisory authority for certain processing.  One example of this culminated in the French DPA (CNIL)’s largest fine so far, imposed on Google, whereas the latter argued that the Irish DPA was its lead supervisory authority.

As we explain in our paper, a lack of GDPR enforcement carries risks. Not only does it undercut the deterrent effect of the GDPR, but it also provides a tenuous basis for risk assessment by companies. While the GDPR’s first two years involved a sort of grace period when DPAs focused on educating companies and spent time painfully investigating complaints to litigation-proof their cases, some companies model their risk assessment of regulation based on enforcement histories. If there is a push for greater enforcement, which EU institutional reports would tend to foreshadow, the basis for companies’ models will be inaccurate. Furthermore, such dependence on risk evaluation ignores potential benefits to firms of increased trust and efficiency involved with expanding compliance to adopt a higher data protection compliance standard applied to customers worldwide.

Thus, we argue, not only should DPAs sanction offenders, but DPAs should sanction them severely when justified, establishing the necessary deterrence effect for EU data protection law. Moreover, DPA’s communication should in many cases be modified to stop downplaying sanctions: such communication is counterproductive to the desired effect of sanctions. Companies, on the other hand, should take efforts to understand fully the GDPR, and embrace compliance, leaving behind data protection forum-shopping as a potentially ineffective action. Furthermore, the typical securities lawyer warning that, ‘past performance is no guarantee of future results’, may be a forewarning to companies using past sanctions to create their compliance risk-assessment models that the results may not be accurate for the future.

Gregory Voss is an Associate Professor in the Human Resources Management & Business Law Department at TBS Business School.

Hugues Bouthinon-Dumas is an Associate Professor in the Public and Private Policy Department at ESSEC Business School.

This article originally appeared on the Oxford Business Law Blog (OBLB) and is reproduced with permission and thanks.

[su_pullquote align=”right”]By Lambert JERMAN and Alaric BOURGOIN [/su_pullquote]
At a time when many professions are questioning their own deep meaning, torn between economic constraints and impending automization, the auditor for the Big Four accounting firms has provided a useful insight into what makes work meaningful for today’s service professionals.

From the empowering stature of the expert to difficulties on the ground

On the ground, auditors face a series of difficulties which tend to nuance the idealised vision of the numerate professional. In practice, auditing demands that the practitioner resist and sometimes transgress their company rules, while adjusting continually to the constraints of their missions according to their own subjective logic. Refractory clients with packed schedules or accounting papers in chaos 1 means auditors grapple with a permanent sense of anxiety about their ability to accomplish their missions. The fear of doing damage is omnipresent, since an undetected error in the financial statements can have serious legal and financial consequences. All these facets of the work of the auditor suggest that the construction of his identity does not always bring a sense of worth, reassurance, or inner harmony. It is also linked to an intense relationship between an individual and his or her weaknesses, where the exercise of his professional activity confronts him with the limits of his expertise, his failures, his mistakes.

This is why we tried to understand the practices and the discourses that the auditor uses to construct the image of a “good” professional. How do difficulties on the ground determine the auditor’s ability to match up to his own expectations as a professional? To answer this question, we carried out an ethnographic enquiry over six months in a big international audit firm.

Negative identity: constructing an identity as a “good” professional through experiencing, confessing and managing one’s weaknesses

Our results show that the construction of professional identity takes place under conditions of stress, when an individual is driven to examine himself objectively in the hope of embodying an idealised professional image in public. Our study of the auditor allowed us to pinpoint the notion of “negative identity” which lies at the heart of our argument. Negative identity equates to the practices and discourses by which the auditor constructs him or herself as a “good professional” in intense and continuous relationship to his or her weaknesses. Specifically, these practices and discourses revolve around (1) experiencing, (2) confessing and (3) managing the auditor’s own weaknesses.

By experiencing his weaknesses, the auditor engages in a practical investigation which enables him to become aware of the distance which exists between his image of himself as a numerate professional and the reality in the field. Ambiguous situations, equivocal subject matter, the constant pressure of error-avoidance and clients, mean he can’t rely solely on the company rules to regulate his behaviour. This dawning awareness brings anxiety and forces him to question his areas of vulnerability, to take risks, to put himself in a “lower position” in response to the demands and limitations of clients. This attitude echoes observations made in other service professions like consultancy 2, where professionals have to contend with anxiety linked to the proliferation of short-term contracts, new environments and contact with demanding clients.

By confessing his weaknesses, the auditor operates a convergence of his vulnerable position and the more empowering image of the numerate professional. This practice maintains the tension between the individual’s negative self-perception and the more laudatory discourse carried by the firm. Confession is in the first instance linked to an exercise in humility, where the auditor again confronts himself in a reflexive endeavour. He must learn to “self-assess as bad”, ie, externalise and verbalise his weaknesses on a voluntary basis in the firm’s appraisal system. These systems then encourage the definition of “progress axes” which operate a fundamental reversal. The detailed factoring-in of the individual’s weak points leads to the stabilisation of a professional profile appreciated at its proper value. However, this transformation is never completely achieved because confession safeguards the imperfectability at the heart of professionalism.

Finally, by managing his weaknesses, the auditor rationalises the key issues of the job and discovers interpersonal and official support which allows him to contend with the challenges of the field. Since the reversal operated by the confession is largely rhetorical and confined within the walls of the company, it isn’t sufficient to enable the individual to contend with his weaknesses in a lasting way. The overall vision of the missions and the client’s issues, team solidarity and official concerns, allow him to make a virtue of necessity, and assimilate the constraints and vagueness of the job, on an intellectual as well as a practical level. The auditor, characterised by doubt due to the challenges on the ground, is thus repositioned within the prestigious social identity of the professional, creating in the individual a temporary equilibrium which must be forever created and recreated between these two poles.

The “good” professional, Sisyphus of imperfection

By taking the auditor’s weaknesses and on-the-ground challenges seriously, “negative identity” reintroduces personal identity behind the well-delineated and high-status image of the expert affixing a final judgement on the correctness of the accounts. We can discern a vulnerable auditor, as invasive with himself as he is with his client. Faced with the ambiguity of the situations in which he has to intervene, the auditor feeds his professionalism with his ability to doubt himself and with an anxious view of his ability to bring his missions to a successful conclusion. A veritable Sisyphus of imperfection, he presents as an individual in tension between a sometimes painful experience of the job and the positive image carried by the firms.

Our observations show how the construction of identity also takes place in and through challenges, placing the individual in an introspective position, maintaining constant doubt 3 about his own value. Beyond the threat of economic circumstances or of the coming automization of verification operations, our study suggests that the auditor owes his success as a professional to the adaptable nature of a practice fed by constructive questioning of his own value.

[su_spoiler title=”Methodology”]The first author worked as an auditor himself and logged his observations (in his firm and when on mission) in a working journal. This ethnographic method let researchers get close to the issues on the ground and acquire insider knowledge of observed phenomena. This method is relevant in analysing the construction of identity, which is experienced intimately by the players and therefore difficult to verbalise during interviews. The rôle of the second author was crucial in order to check immersion bias and find a proper balance between professional distance and the personal involvement that is indispensable to ethnographic research. Reference for the complete article: JERMAN, L., & BOURGOIN, A. (2018). L’identité négative de l’auditeur. Comptabilité – Contrôle – Audit, 24 (1), 113-142. doi:10.3917/cca.241.0113.[/su_spoiler]

[su_pullquote align=”right”]By Gregory Voss and Kimberly Houser[/su_pullquote]
What the Cambridge Analytica debacle and the resulting U.S. Senate hearing revealed in no uncertain terms is that the U.S. does not have adequate data privacy laws. Despite the grandstanding by Senators, they demonstrated a lack of understanding of not only the workings of the data economy, but also of the laws of their own country.

When the EU General Data Protection Regulation (GDPR) became applicable on May 25, 2018, the disparity between the laws in the U.S and those in the EU became very apparent. In our working paper, GDPR: The End of Google and Facebook or a New Paradigm in Data Privacy?, slated for the fall edition of the Richmond Journal of Law and Technology, we explore these differences in terms of ideology, enforcement actions, and the laws themselves.

The American tech business model is to provide services free of charge in exchange for a user’s personal data. This comports with the data protection law in the U.S., which is sector specific, meaning only certain types of data, such as medical and financial data, are protected but only to the extent provided in the applicable statute. There is no omnibus U.S. federal data privacy law relating to the private sector. While the Federal Trade Commission (FTC) is the de facto privacy authority in the U.S., its history of enforcement actions against U.S. tech companies is quite limited. Historically, it has only been when a company provides a privacy policy and then fails to comply with it that the FTC has taken action against it under Art. 5 of the FTC Act regarding ‘deceptive and unfair practices’.

The European model of data privacy is based on a human rights foundation, with both privacy and data protection being fundamental. Under the predecessor to the GDPR (the 1995 Directive), numerous actions were brought against U.S. technology companies for violations of EU member state laws. Despite this long history of successful enforcement actions, these U.S. tech companies have not significantly changed their business model with respect to data obtained from the EU due to the low maximum fines under the member states’ laws (eg, a €150,000 fine in France for a company valued at €500 billion).

The American ideology behind data privacy is the balancing of an entity’s ability to monetize data that it collects (thus encouraging innovation) with a user’s expectation of privacy (with those expectations apparently being quite low in the U.S.). In the EU, the focus is on protecting a users’ privacy. A great example of this dichotomy is the Google Spain case. A Spanish citizen sought to have certain information removed from a Google search as permitted under EU law. Google objected to this in court. On the one hand was freedom of speech (paramount in the U.S.) and the public right to know asserted by Google, and on the other, the European’s right to privacy and to be forgotten argued by the European plaintiff. The European Court of Justice ruled that the balancing of interests tipped in favor of privacy for the Spaniard.

As we explain in our paper, U.S. federal laws are sector-specific with the primary areas being covered in the Health Insurance Portability and Accountability Act (health care information), the Gramm-Leach-Bliley Act (financial information) the Fair Credit Reporting Act (credit information) and the Children’s Online Privacy Protection Act (children’s information). In addition, states have also enacted varying data security laws aimed at requiring data breach notifications.

The European approach, on the other hand, has always been more overarching. The 1995 Directive, for example, required each EU member state to adopt comprehensive privacy protection laws meeting the objectives of the Directive. While the adoption of a directive allowed flexibility in each member state’s creation of its own privacy laws, in 2012, the European Commission determined that the law needed to be updated. The GDPR was enacted to: provide harmonization of the member states’ laws, incorporate advances in technology, eliminate administrative filing burdens for companies, and, as we posit in our paper, level the playing field for technology companies using the personal data of those located in Europe.

Because U.S. companies have been able to monetize their data with very few restrictions or consequences, they were able to become behemoths in the tech field with an 80% market share for Facebook and 90% market share for Google. The rules, however, have now been updated with respect to EU data. The GDPR requires, among other things, verifiable consent prior to using a user’s data and consent for each secondary use. There is no corresponding requirement in the U.S.; companies operating under U.S. law primarily rely on an opt out mechanism and are not required to disclose secondary uses of your data. The GDPR also provides a right to be forgotten, a right to data portability, the ability to opt out of automated machine decisions (profiling), and requires a lawful basis for processing data. None of these rights are afforded to U.S. citizens under U.S. federal law.

Because the GDPR is extraterritorial in scope, the law will apply regardless of where a company is located if it collects or processes the personal data of those located in Europe, where processing relates to the offering of goods or services (either for pay or “free”) to such “data subjects,” or to the monitoring of their behaviour, to the extent such behaviour takes place in the EU. This leaves us with the question: will the GDPR be the end of Google and Facebook or present a new paradigm in privacy protection? This remains to be seen. However, given that fines may now be assessed in the billion-euro range under the GDPR rather than the thousand-euro range of the past, it does seem likely that the U.S. business model (data for service) will need to adapt, at least with respect to data from the EU.

This article originally appeared on the Oxford Business Law Blog.

[su_pullquote align=”right”]By David LE BRIS[/su_pullquote]
Despite the importance of the phenomenon, there is no clear definition of what is a market crash. Arguably, market crashes should be related to important news but it is frequently difficult to effectively match historical events with market reactions.

When WWI started in July 1914, the French stock index decreased by a modest 7.14 %; a monthly drop ranked only the 105th in the French stock market history. But, a given fall in percent has a stronger impact on a stable market than it does upon a highly volatile one. A crash is not solely a given percentage decrease but represents a significant discrepancy compared to what has been previously observed.

Thus, crashes need to be identified after having taken into account the prior financial context. I propose a simple new tool to identify market crashes by measuring price variations in numbers of standard deviations of the preceding period rather than in percent. French stock market was used to a low volatility before 1914, thus the modest decrease of 7.14 % represents a fall of 6.09 standard deviations, which is the second worst case in French history. This ranking is much more consistent with history.

In a paper in Economic History Review, this method is applied to long term series of US and French stock prices and UK state bonds. This new tool offers a renewed story of the financial shocks. A better match between crashes and historical events is achieved than with pure price variations. Events that were financially insignificant when measured in percent become important crashes after adjustment for volatility. This improved matching brings new insights to several historical debates.

Consistent with other historical sources pointing out the severity of the 1847 crisis, this episode appears to be in the top ten crashes of the UK bond market whereas it ranks 102th in pure price variations. The start of the American Civil War caused a significant crash, supporting the cost side in the cost/advantage debate about this conflict. The Berlin conference dividing up Africa caused a considerable fall in UK bonds, as if the market took account of the future cost of African colonization for UK public finances. Pre-1914 wars (Franco-Prussian, Russo-Ottoman, Boxer Rebellion in China, Boer War, etc.) led to many crashes on both the French stock and UK bond markets, supporting the traditional narrative of the importance of these confrontations despite the weak price changes they caused in this era of low volatility.

Turning to the 20th century, the outbreak of WWI caused major crashes in both French stock and UK bond markets, mitigating the view of sleepwalking to disaster. It is not possible to distinguish more crashes before than after the creation of the Fed in 1913, whose role in stabilizing financial markets is still being questioned. Two crashes in France during the 1920s caused by monetary issues support analysis of French monetary policy as an important factor in the interwar troubles. Hot episodes of the cold war caused crashes on the US and French stock markets, which is consistent with narratives of the risk of disasters incurred at this time. There was no crash on the French stock and UK bond markets in 1929, supporting the views of a transmission of the Great Depression to Europe through other channels than financial markets. The 2008 crisis differs on this point because both French and US stock markets fell strongly. Maybe, our understanding of financial mechanisms could be enriched thanks to this new tool.

[su_pullquote align=”right”]By Louise Curran[/su_pullquote]

In this paper, written with Michael Thorpe of Curtin University in Australia, we explore the recent evolution of Chinese investment in the wine industries in the Bordeaux region of France and compare them with investments in the same sector in Western Australia (WA).

We found that investments are not as widespread as often implied by the media, although the speed of growth in Bordeaux has been impressive. Several difficulties with the investments, as well as potential synergies, were identified.

Varied situation in France and Australia
We chose to look at France and Australia as they were, respectively, the first and second wine exporters to the Chinese market in 2013. We looked at two regions with rather similar market positioning: both Bordeaux and WA focus on the higher end of the market and specialize in red wine. The phenomenon of Chinese investment in the sector is rather recent in both contexts, although Chinese investment in the wider Australian economy has a longer history. The objective of our study was to explore the extent of investment and highlight any difficulties experienced.

We found that the extent of Chinese investment in both regions was rather low, even if the number of investments in Bordeaux (about 80) was impressive, as was their very rapid growth. Still, less than 1% of Bordeaux vineyards are owned by Chinese investors and many of these vineyards are very small, thus the actual acreage covered by investments was low. The number of investments is even lower in WA (7 vineyards), but the large size of some acquisitions makes their coverage higher (6% of vineyard land area). Indeed the large size of Australian vineyards was a clear advantage for Chinese investors, who favoured large scale production structures which could better cater for the Chinese market.

Difficulties for investors, but also potential advantages

We found evidence of all of the classic difficulties faced by foreign investors which have been identified in other studies, but the most significant was their lack of familiarity with the local context. This was considered to be a particular problem in France, where there is little history of Chinese investment and no significant Chinese diaspora. The usual problems of understanding a foreign culture were compounded by the fact that most Chinese investors come from sectors – including jewelry, metals and petroleum – which were unrelated to wine, or even agro-food. The specificity of the wine sector thus caused them further difficulties. In Australia, we found much less evidence of such problems, mainly because the investors most often had existing business relationships in Australia prior to investing in wine and tended to make their investments in partnership with a local business person, rather than alone. Although most Chinese investors in Bordeaux did not invest together with local partners, they usually retained the existing management to continue the day to day running of the vineyard. There was recognition of the need to build on this local expertise, if their investment was to flourish.

The local institutions in both WA and Bordeaux recognized that there was need to provide support to Chinese investors in order to ensure the success of their endeavors. The Bordeaux Chamber of Commerce and Industry organizes regular seminars on Bordeaux and Hong Kong to ensure that investors are aware of the potential, but also the pitfalls, of such investment. The WA Department of Agriculture organized a similar seminar for Chinese investors interested in the whole agricultural sector in 2014.

Finally, Chinese investors in both regions brought two key advantages. The first was financial capacity. Many of the acquired vineyards were in a poor state of repair and in several cases significant sums have been invested in upgrading facilities and increasing productivity. The other key advantage was their knowledge of the home market and capacity to leverage their business networks to develop that market. China has become a key world market for wine, especially red wine in the last few years. Although exports have fallen from their peak, in 2014 their wine imports were worth $1,4bn. Especially for smaller, lower quality vineyards, the capacity of their Chinese owners to provide support for their evolution on this important market was a key factor in enabling their development.

The future – consolidation rather than expansion

In terms of the future, most people interviewed agreed that the peak in investments had passed and that we were entering a stage of consolidation. There have been far less investments in Bordeaux in 2015 than in 2014 and especially 2013-2. Partly this reflects the fact that the Chinese wine market is maturing and growth rates are now less attractive. Several of those interviewed pointed out that China is not, and indeed never has been, an ‘el Dorado’ for wine merchants, but is rather a challenging and difficult market. The recent fall in investments also an anti-corruption drive in China which has resulted in a significant fall in wine sales linked to gift giving (formerly a key motivation for high end wine sales) and official banqueting (which has been extensively reduced). There was also reported to be concern amongst wealthy individuals that high profile investments in luxury products like wine, could attract unwanted attention from the authorities.

[su_spoiler title=”Methodology”]Our research involved twenty interviews in the two regions studied with institutional agents, consultants and other service providers working with investors, as well as with local company personnel in three companies owned (wholly or in part) by Chinese investors and two Chinese investors, one based in China and one the manager of an Australian investment. The interviews took place over the period December 2013 to October 2014. We also used press reports to identify pertinent investments. [/su_spoiler]
[su_box title=”Managerial implications” style=”soft” box_color=”#f8f8f8″ title_color=”#111111″]Our research indicates that the most successful investors in the two contexts we studied were those that partnered with local business people. It seems that in cases like this, where there are large differences in the institutional and cultural environments between the home country and the country of investment, working together with a local business person provides an important bridge to reduce unfamiliarity. Investors who acquired vineyards without local partners more often experienced difficulties, although many retained local staff and took a rather ‘hands-off’ approach to the production side of the business, which seems prudent given that they frequently lacked knowledge of wine. The most important asset which Chinese investors brought was their expertise and linkages to their home market, so the potential for synergy was significant, provided that understanding and trust was present.
[/su_box]
By Louise Curran, Chinese FDI in the French and Australian Wine Industries: Liabilities of Foreignness and Country of Origin Effects. Co-authored by Michael Thorpe, Economics Department, Curtin University Western Australia. Appeared in Frontiers of Business Research in China, Volume 9, issue 3 in 2015. This research was supported by a Research Fellowship awarded to Louise Curran by Curtin University in 2013.

[su_pullquote align=”right”]By Pierre-André Buigues[/su_pullquote]

Despite significant state aid, the French meat sector is losing ground against other European countries which are also in the Eurozone. Indeed, it’s the European market which has caused the deterioration of France’s position, and not globalisation, China, or other emerging economies.

No matter which sector we look at – poultry, pork or cattle – French meat farmers are in difficulties compared with their European competitors.
The French pork market : Production is markedly down, from 25.5 million pigs a year in 2000 to 21 million in 2016. Over the same period, it went up in several other European countries. In 2000, France and Spain were producing pigs at the same rate, whereas today Spain is producing 46 million pigs a year. France is now a net importer of pork products. The sector’s competitiveness has been eroded due to high costs and lack of investment.
The French cattle industry : France was the biggest European producer of beef in 2015: 1.49 million tons compared with Germany’s 1.12 tons and the UK’s 0.9 tons. 79% of the meat consumed in France was also produced there. Imports are essentially European. However, the average income of cattle farmers is among the lowest in the farming sector and is projected to decline steeply. In 2014, a typical cattle farmer’s earnings after tax were 22% below the average over an extended period (2000-2013).
The French poultry sector has also seen a drop in production over the last decade. France used to be the second biggest exporter of poultry in the world, but today it imports 40% of the poultry it consumes. The country has a trade deficit with other European countries in terms of both volume and value, and this deficit continues to deepen. The majority of French imports come from other European countries, with far less coming from non-European countries like Brazil or the USA.

Why are we seeing such a serious deterioration in the French meat sector?
We will look at the two main factors behind the decline: Le refus français d’une industrialisation de la filière viande, d’où des économies d’échelle insuffisantes.
France’s resistance to the industrialisation of its meat sector, and hence insufficient economies of scale: France has always supported family farms but the international meat markets are high-volume markets where price is the determining factor. Unlike the French domestic market where quality is highlighted by labels (red label – farm quality) and constitutes a competitive advantage, on the international market, price is key. While Germany has positioned itself as a producer of cheap and standardised meat products with an “industrial” image, France has a “gourmet” image and premium products. Unfortunately, at this stage in its development, the international meat market, whose growth is being powered by emerging countries, has little interest in quality. Cost is therefore the strategic variable for success on the international markets, so the French sector is paying the price for high costs and an absence of economies of scale.

In the pork production sector, the average size of a pig farm in France is between 1,000 and 2,000 pigs, as against Denmark and Holland, whose farms average 2,000 to 5,000 pigs. Moreover, between 2000 and 2010, the average size of a pig farm has grown by 98% in Denmark, by 37% in the Netherlands, by 29% in Spain and by only 16% in France. Finally, German abattoirs often exceed 50,000 pigs slaughtered annually. In France, what is needed is far fewer abattoirs and comprehensive modernisation.

In the beef and lamb sector, France is likewise suffering from the small size of its farms. The lawsuit taken against the only French farm with 1,000 cows (ultra-modern farm with a giant facility to produce energy from cattle waste via a methanizer and fitted with solar panels), shows how hostile French public opinion is towards industrialised farming.

In poultry production, French farms are far more numerous and also far smaller than German ones: German, Dutch and British poultry farms are the biggest in Europe, with an average volume above 60,000. In France, more than half of all poultry farms have a capacity of between 1,000 and 10,000, because of the importance of quality and origin labels (Red Label, organic, Appellation d’Origine Contrôlée), whose product specifications limit the size of buildings.

With farm sizes which don’t allow for economies of scale, and with labour costs well above some of its European competitors, the French animal agriculture sector is in great difficulty and is losing market share.

An avalanche of costly production standards and over-regulation compared with European norms

Stringent regulation is an indisputable factor in the economic difficulties facing the French meat sector. (2)
Often complicated and sometimes incomprehensible, these regulations place a very heavy administrative burden on farmers. A Senate report estimated that an average farmer spends 15 hours a week on office work. There are two main reasons for the relatively high cost of these production standards in France.

First and foremost, farms in France are, as we have seen, smaller than in European competitor countries. They therefore don’t possess the human or financial means to assimilate and implement these standards. Second, regulations often change in this sector, environmental standards are more and more exacting and require significant investment.

What does the future hold for French meat farming?

European farming is no longer just a sector regulated by the Common Agricultural Policy, but a competitive sector. In order to develop French meat farming, there are two possible strategies:
Strategic development of a quality-oriented farming sector : How can we find enough outlets for a high-end product with strong export branding to allow small farms to survive with high costs? There is a model in the French wine sector where prices are, on average, twice as high as the competition, and yet which still hold their own. This “high-end” strategy could save French farming. However, it will involve considerable investment in marketing and the international distribution chain.
Strategic development of intensive, low-cost farming : How can production costs be reduced? By heavy restructuring, and the elimination of uncompetitive “small farms”. Massive investment would also be needed to create ultra-modern farms, with state agencies fostering fully automated mega-farms – a far cry from today’s situation.
Is there a middle way? Xavier Beulin, former president of the FNSEA (the French farmers’ union) has estimated that investment to the tune of 6 billion Euros will be needed “to develop a third way between industrial farming and diversity, high-tech and diversified farming, organic and robotic farming”.

[su_spoiler title=”Methodology”]References: Elie Cohen et Pierre-André Buigues « Le décrochage industriel », Fayard, 2014; and Pierre-André Buigues, « Refonder l’agriculture française » Journée de l’économie, Jeco , Lyon, Novembre 2016 [/su_spoiler]

[su_pullquote align=”right”]By Pierre-André Buigues and Denis Lacoste[/su_pullquote]

French car-makers exported fewer and fewer cars over the course of the first decade of the 2000s. At the start of the 2000s, PSA was exporting 54% of its French production and Renault 47%.

Ten years later, that percentage had dropped by over 20 points for PSA; Renault’s case is even more critical since the company has even started importing vehicles to France. Today, Renault now produces fewer vehicles in France than it registers! And France now has a significant trade deficit in the car sector; the last surplus was in 2004!

Does this mean that French manufacturers have become less international in their reach?

Absolutely not. Indeed, during this same period, French manufacturers invested heavily in building assembly plants abroad. In the early 2000s, the number of cars manufactured by Renault and PSA abroad represented about 70% of domestic production. In 2010, the ratio of foreign production to domestic production was close to 170% for PSA and almost 300% for Renault.
One might think that these developments are related to macroeconomic and monetary conditions in the Eurozone. However, when you look at the development of German car-manufacturers’ strategies over the same period, it is clear this is not the case. Between 2000 and 2010, we can see that Volkswagen’s exports remained stable while Mercedes and BMW’s exports rose.

Why did delocalized production replace export?

Specialists in business strategy generally agree that the choices made for an international development strategy are determined by two key factors: the company’s competitive advantages and the economic conditions affecting production in the home country.

The competitive advantages of French manufacturers. . Basically, industrial companies can choose between strategies based on low production costs or differentiation strategies based on technological innovation. A low-cost strategy drives companies to delocalize a significant part of production to low cost countries. On the other hand, a differentiation strategy generally goes hand in hand with increased exportation, because the competitive advantage is based on R & D and hence on the high-level expertise that is only available in developed countries. Companies that opt for a low-cost strategy will look abroad for cheap labor whereas those who base their strategy on differentiation will be less affected by the higher production costs linked to domestic production and can draw on the positive effects of the interaction between production and R & D.

In the case of the car industry, there are considerable differences between the innovation strategies of French companies – which seek to set up production abroad – and German companies, which maintain a high level of exports. At the start of the 2000s, Volkswagen was already investing more than twice as much as Renault and PSA in research, and in 2010, Volkswagen’s research budget was three times greater. If we specifically look at the R&D content of each vehicle sold, there is naturally a quite significant technology input with high-end manufacturers like Mercedes and BMW (more than €2,000 per vehicle), but this is the case even with mid-range manufacturers; the R&D content in a Volkswagen car is 20% higher than that of Renault and 45% greater than that of PSA. Again, the gap widened during the first decade of the 2000s; the increase in R&D expenditure per vehicle is significantly higher in German-made cars compared to French-made cars.

The economic conditions in France The more or less favorable domestic business environment, particularly in terms of cost, also has an impact on their choices in terms of international development. What about the French car industry? What are the differences between the French and German environments? If we look at things on a very general level, we see that the hourly labor costs for manufacturing in general increased by 38% in France, compared with only 17% in Germany, during the first decade of the 2000s. If we look closer at the car sector, we can note that productivity per employee was lower in Germany than in France in 2000, but that productivity increased sharply over the decade in question, while it decreased in France. In 2008, employee productivity was 25% higher in the German car industry compared to France. This can be explained by the fact that French car manufacturers have made little investment in France, their priority being their overseas factories.

Even though we may bemoan the extremely negative consequences in terms of employment and the creation of wealth in France, French car manufacturers made strategic choices that are coherent in terms of international development in view of their low R&D expenditure, their medium- and low-end positioning and the unfavorable domestic production conditions in terms of cost. However, it is not surprising that French manufacturers’ profit margins are lower than those of their German counterparts. For example, over the period 2000-2010, the operating profit per car was €635 for VW and around €250 for Renault and PSA.

Is this specific to the car industry in France?

Unfortunately for French international trade and the employment market in France, the car sector is not an isolated case. France has far fewer companies that export than Germany, and the share of exports in French GDP is almost two times lower. On the other hand, France has more large multinationals than Germany (14 companies in the world’s top 100 compared with 10 for Germany) and these French multinationals have a larger proportion of their workforce abroad than their German counterparts.

Consequently, for France to become an “export country” once again, it would take a radical change in the strategic positioning of companies located in France as well as more favorable production conditions in the country.

[su_note note_color=”#f8f8f8″]Written by P.A. Buigues and D. Lacoste. The information in this text is taken from the following articles: “Les déterminants des stratégies internationales des constructeurs automobiles européens : exportation ou investissements directs à l’étranger” (Determining factors in the international strategies of European car manufacturers: exportation or direct investment abroad? ”), published in 2015 in the magazine “Gérer et Comprendre”, written by the authors in collaboration with M. Saias M, and “Les Stratégies d’internationalisation des entreprises françaises et allemandes : deux modèles d’entrée opposés” (International business development strategies of French and German companies: two opposite input models), written by the authors and published in “Gérer et Comprendre” in 2016, as well as their book “Stratégies d’Internationalisation des entreprise” (International Business Development Strategies), published in in 2011 by De Boeck. [/su_note]

[su_spoiler title=”Methodology”]The database was essentially built using information published by the manufacturers in their annual reports, as well as data provided by the French Automobile Manufacturers’ Committee (CCFA), the International Organization of Motor Vehicle Manufacturers (OICA) and by Eurostat. The data relating to international business development, strategies and economic conditions were analyzed over the entire 2000-2010 period. [/su_spoiler]

[su_spoiler title=”Practical applications”]This study shows that any assessment of a company’s choice in terms of international development cannot be cannot be conducted without analyzing other aspects of its strategy (particularly in terms of positioning) and the economic conditions in the company’s home country. The study also suggests that foreign investments are not necessarily the best way forward in terms of international development. The case of the car industry shows that it is possible for a company to keep a significant part of its production in its home country while remaining efficient, even in a global industry. [/su_spoiler]

[su_pullquote align=”right”]By Servane Delanoë-Gueguen[/su_pullquote]

When looking at business creation, people tend to take more interest in the project than in the entrepreneur behind it. However, starting a business has strong personal implications. Assessments of personalized support programs would be more relevant if they paid greater attention to gauging how entrepreneurs feel about their ability to see their project through to completion, particularly as regards the strategic and financial aspects.

What drives someone to want to start a company? Obviously there is the initial project, which may or may not result in the creation of a start-up, but above all there is the individual behind the project, the budding entrepreneur, who will end up transformed by the experience, whatever the result. The process is a form of apprenticeship, during which the business creator acquires new skills, develops new ways of looking at things, and builds networks. If the individuals manage to create their business, this personal transformation will provide them with valuable skills for the company’s development. If not, they will be able to draw on these newly-acquired skills to prepare an entrepreneurial project later in life, or to use their new knowledge working for someone else.

Taking greater interest in the perceived abilities rather than the number of creations

People with new business projects do not have to go through the process alone. They are even encouraged to participate in support programs, which may have a profound impact on the project as well as the person behind it. Unfortunately, when assessing such programs, this personal dimension is rarely taken into account: to evaluate their effectiveness, we tend to focus on the participants’ satisfaction with the program or the fact that they managed to create their business, but not on the effects that the programs have had on the budding entrepreneurs. Our study looked at people participating in a support program set up by Brittany Chambers of Commerce and Industry (CCI). The aim of the study was specifically to analyze this personal impact. Rather than focusing on the project leader’s actual skills, we studied their perceived entrepreneurial self-efficacy , i.e. how the individuals perceived their ability to create a business.

This perceived entrepreneurial self-efficacy – originally developed in the field of psychology – is a key determining factor in the process of creating a company, because not feeling capable can be a major obstacle. If properly evaluated, it can even foster the entrepreneur’s tenacity in the face of difficulties. However, this remains a perceived ability, which is not necessarily representative of the actual ability; indeed, certain individuals have a tendency to underestimate their abilities whereas others overestimate them. Finally, the perception can change, according to four major influences: personal experience, observation of others, verbal persuasion by third parties and emotional state.

The shock of reality

The study sought to measure the change in the perceived self-efficacy of budding entrepreneurs who took part in a support program by interviewing them at the beginning of the project, and then a year later. While we might expect participation in a personalized support program to have a positive effect on entrepreneurial self-efficacy (that is to say, the project leaders feel more capable of creating their company), the results of the study actually show an overall decrease in self-efficacy. If we look in more detail, the only positive impact was on entrepreneurial administrative self-efficacy – concerning the planning of the project and formalities – whereas perceptions related to strategy and finance tended to deteriorate.

These results can be explained by what we could term a “reality check”. At the start of the process, many budding entrepreneurs think that the administrative side is highly complex and focus on this aspect; then they realize that this is not actually the most complicated aspect, particularly since a number of measures have simplified business-start-up procedures over recent years. At the same time, they start to realize how difficult it is to find customers and funding, that there are competitors in the market, and that they never have enough time to do everything. All these aspects are often under-estimated when they build their project.
However surprising it may be, this result shows the value of having an objective assessment of start-up support programs, by focusing on the personal impacts: the aim of support programs is to help people with start-up projects set up viable businesses and understand the realities of the market, not to simply ensure that the majority of the individuals actually start their businesses. With this in mind, it is not necessarily a bad thing for prospective business creators to feel less capable at the end of the process than at the beginning. Participants who ultimately decide not to start their business, after appreciating the importance of having a customer base and a network, have the opportunity to ask themselves the right questions, to readjust their perceived ability, and sometimes realize they are simply not made to be entrepreneurs. They will be better equipped for the next project, or at least thy will have more realistic perceptions.

A practical tool for improving programs

This evaluation method is a valuable tool for improving support programs, with practical uses that can be taken advantage of almost immediately. For example, it may be interesting to adopt a differentiated approach depending on whether the people at the start of the program underestimate or overestimate their ability to create a company, in order to help them reach a more realistic self-perception. In relation to the case analyzed in this study, the support programs could focus more on strategic issues and funding.
These results are a step towards achieving an objective assessment of support mechanisms for budding entrepreneurs. Now, it would be useful to fine-tune the results with a more representative sample group of budding entrepreneurs and extend the research to different types of support initiatives.

[su_note note_color=”#f8f8f8″]Servane Delanoë-Gueguen is a research professor in entrepreneurship and business strategy in Toulouse Business School. She is responsible for the TBSeeds incubator and is joint Head of the “entrepreneur” vocational option. She has a PhD in emerging entrepreneurship from the Open University (UK). Her research focuses on budding entrepreneurs, entrepreneurial ecosystems, business-creation support programs, entrepreneurial desire and business incubation. This publication is a summary of the article “Aide à la création d’entreprise et auto-efficacité entrepreneuriale” (Support for business creation and entrepreneurial self-efficacy”) published in 2015 in theRevue de l’entrepreneuriat.[/su_note]

[su_spoiler title=”Methodology”]Within the framework of her research, Servane Delanoë-Gueguen conducted a longitudinal study. Based on a literature review, she developed a theoretical model with 3 research hypotheses concerning the evolution of entrepreneurial self-efficacy over the course of one year concerning individuals with business start-up projects involved in a support program, who had ultimately created their business or not, with gender differentiation. The model was then tested with a group of budding entrepreneurs. In the first year, a total of 506 people answered a questionnaire to assess their perception of their entrepreneurial abilities. The following year, she managed to re-contact 394 of the people concerned, of whom 325 had a genuine start-up project in progress. Out of this group, 193 people answered the questionnaire again. [/su_spoiler]

[su_pullquote align=”right”]By Gilles Lafforgue [/su_pullquote]

Climate change issues are increasingly the focus of international negotiations these days. Could carbon capture and storage (CCS) be a more promising solution for reducing emissions without reducing the consumption of fossil fuels?

Today fossil fuels account for almost 80% of the world consumption of primary energy, since their relatively low cost makes them more competitive than renewable forms such as that solar, wind or biomass energy. Their massive use alone contributes 65% of the greenhouse gases, mainly CO2, which accumulate in the atmosphere and contribute to global warming.

Is CO2 capture and storage a viable alternative?

In the expectation of a transition to a more sustainable energy strategy, Carbon Capture and Storage (CCS) appears to be a viable medium-term alternative for limiting emissions without restricting the consumption of fossil fuels. Developed during the 1970s to improve extraction efficiency from oil wells, CCS involves capturing carbon emissions at source before their release into the atmosphere, then injecting them into natural reservoirs (e.g. saline aquifers, geological formations containing brine unfit for consumption), into former mines or even back into hydrocarbon deposits (still being exploited or else exhausted). CCS would appear to be effective since it can remove 80 to 90% of emissions from gas or coal power stations.

The cost of using such a process remains to be determined. Implementation of CCS becomes cost-effective if the rate of carbon taxationreaches between 30 to 45 dollars/metric ton for coal-fired thermal power stations and 60-65 dollars/metric ton for gas-fired power stations (given that this price ought to fall as a consequence of technological change). However, CCS can only be implemented at a reasonable cost for those sectors that produce the greatest volume and the most concentrated emissions: heavy industries such as cement or steel works, or conventional electrical power stations (coal especially). This technology is, however, inappropriate for diffuse waste gases of low concentration such as are emitted by transport or agriculture.

What strategy must therefore be adopted to optimize the sequestration of CO2?

CCS deployment strategies

To answer this question, and to determine a meaningful association between the exploitation of fossil resources and CO2 sequestration, we have developed a dynamic model. This model enables the optimum pace of CCS deployment to be defined, and takes three essential parameters into account: the availability of fossil resources, the accumulation of carbon in the atmosphere (and its partial absorption by the biosphere and oceans), and the limited capacity of storage sites. Using the model we show that the optimal sequestration of the greatest possible percentage of CO2 released by industrial activity occurs when the CCS process starts. CO2 sequestration then gradually falls until the site is completely filled. Note that as long as the CO2 can be sequestered, consumption of fossil fuels remains strong. Consumption slows down once the reservoir has become saturated and all the CO2 released has been subject to payment of the carbon tax. This is where renewable energies come in.

In another research project we sought to determine the optimum policies for capturing CO2 emissions by comparing two sectors. Sector 1with heavy industries such as steel and cement works, or conventional thermal power stations with concentrated emissions, has access to CCS and can therefore reduce its emissions at a reasonable cost. Sector 2, the transport sector for example, whose emissions are more diffuse, only has access to a more costly CO2 capture technology (e.g. atmospheric capture, a technique which involves recovering the CO2 from the atmosphere using a chemical process to isolate the polluting molecules). Considering these two “heterogeneous” sectors, we have been able to show that the optimal strategy is to start by capturing the emissions from Sector 1 before the permissible pollution ceiling is reached. The capture of emissions from Sector 2 starts once the pollution ceiling has been reached, and is only partial. As far as carbon tax is concerned, our research shows that this has to increase during the pre-ceiling phase. Once the ceiling has been reached, the tax must fall in stages to zero.

Carbon tax: the optimal cost for CCS competitiveness

It seems clear in a market economy that the only way to persuade industry to capture and store CO2 is to put a price on carbon, by taxing it, for example. Reasoning in terms of “cost-effectiveness”, industrial firms will compare the cost of sequestering a metric ton of carbon with the amount of tax they would need to pay if that same metric ton were released into the atmosphere. This tax must be unique and applied to all sectors, regardless of their number and nature. What level of tax would guarantee that CCS would be competitive and thus ensure its development? According to the IPCC (Intergovernmental Panel on Climate Change), if we are to limit the global temperature rise to 2°C then atmospheric pollution ceiling must not exceed 450 ppm (parts per million). This equates to a carbon tax of around 40 dollars/metric ton of CO2 in 2015, reaching 190 dollars/metric ton of CO2 in 2055 (the date at which the threshold is reached) which would widely stimulate the development of CCS.

However, it is essential to note that carbon capture is merely a transient solution for relieving the atmosphere of carbon emissions, while continuing to benefit from energy that is relatively cheap compared with renewable energy sources. Between now and 2030 policies should implement strategies for implementing a sustainable transition to sources of clean energy.

 

[1] Primary energy: energy available in nature before any transformation (natural gas, oil, etc.)

[2] Carbon tax: officially known in France as the Contribution Climat Energie [Climate Energy Contribution] (CCE), the carbon tax is added to the sale price of products or services depending on the amount of greenhouse gases (e.g. CO2) emitted during their use. This came into being in January 2015 and has risen to 7 euros/metric ton of carbon. This recommended ceiling in the concentration of atmospheric CO2 was established with the objective of limiting the rise in temperature to some desired value (e.g. the infamous +2°C).

[su_note note_color=”#f8f8f8″]Gilles Lafforgue, and articles “Lutte contre le réchauffement climatique : quelle stratégie de séquestration du CO2?” [Combating global warming: what CO2 sequestration strategy?] published in Tbsearch magazine, “Optimal Carbon Capture and Storage Policies” (2013), published in Environmental Modelling and Assessment, co-authored by Alain Ayong le Kama (EconomiX, Université Paris Ouest, Nanterre), Mouez Fodha (Paris School of Economics) and Gilles Lafforgue, and “Optimal Timing of CCS Policies with Heterogeneous Energy Consumption Sectors” (2014), published in Environmental and Resource Economics, co-authored by Jean‐Pierre Amigues (TSE), Gilles Lafforgue and Michel Moreaux (TSE).[/su_note]

[su_box title=”Practical applications” style=”soft” box_color=”#f8f8f8″ title_color=”#111111″]The macroeconomic models that have been developed provide insight into how CO2 sequestration can be implemented so as to make an effective contribution to global warming while maximizing the advantages of exploiting fossil fuels. Expressed as a rate of CO2 emissions to be reduced, the theoretical results cast a pragmatic light, enabling governments to encourage industrialists to sequester CO2 rather than pay the carbon tax.[/su_box]

[su_spoiler title=”Methodology”] In the first study, a dynamic model was developed for the optimum management of energy resources, taking account of interactions between the economy and the climate. Carbon was assigned a value that penalized economic activity directly.
For the second model we adopted a “cost-effectiveness” approach. Assuming a maximum threshold of emissions which cannot be exceeded (from the Kyoto protocol), the scale at which CCS had to be deployed was determined and we then ascribed a financial value to carbon.
[/su_spoiler]

[su_pullquote align=”right”]By Laurent Germain et Anne Vanhems
This article won the Prize of the French Finance Association 2014.
[/su_pullquote]

We took a close look at the personality of traders to try and understand better how speculative bubbles work and we noticed that some traders do not act rationally. However they are not the only ones who affect financial markets.

For each transaction, traders have to take into account many parameters: market trends, competitors’ strategies and the latest news. But sometimes the situation gets out of hand, and other less rational aspects influence their decisions.

Studying why people make decisions can explain certain events

In spite of their experience, individuals sometimes act in a biased way. We may thus observe disproportionate reactions, such as buying shares at a price that is much too high in relation to their intrinsic value. These are illogical decisions which trigger speculative bubbles and stock markets then crash when everyone wants to sell assets simultaneously and their value collapses.

While it is now acknowledged that some traders do not act rationally at a given time, we still find it difficult to imagine that this might also be true for market-makers. These market-makers are organizations (mostly investment banks), or people, who set the buy and sell prices of assets: they are said to ‘quote’ the buying and selling prices and thus set the value of the assets. However, it is possible to demonstrate that some of these market-makers also make the wrong decisions. The market-makers are considered to be more experienced and “battle-hardened”. They are paid to stay one step ahead and traders are trained to analyze their latest strategies. As they are key players, it was difficult to admit that these market-makers might act irrationally, by increasing prices until red lights started flashing, or, inversely, lowering the price of shares in a context of increasing demand.

In order to study the effect of this phenomenon, we separated the two main biases. The first bias, related to the degree of optimism, causes the broker to misread the market trend. Thus when clues are showing that a share is about to lose value, he may think that it will soon go up again. The second bias, related to the level of self-confidence, leads him to over-estimate his own skill. He may then cause the price of the share to vary a lot, thus making the market more volatile. Now, the higher the volatility, the bigger the gains and losses.

The effects of these biases on markets

We first observed that the biases of market-makers affect the depth and liquidity of the market. A deep market is one in which the price remains relatively stable A liquid market is a market in which prices are not set aggressively (there is then a lot of buying and re-selling).

For instance, an optimistic market maker may think that the information he received is more reliable than it actually is and consider that his judgment is less crucial for his decision. He will then tend to overestimate the price of the asset, and traders (who buy and re-sell) will decrease the number of their transactions. When this market maker is too confident of his assessment, he will quote the share less aggressively and thus increase the liquidity of the market.

The tulip bulb crisis was the first speculative bubble and remains an outstanding example of a frenzied financial market. In 1636-1637, some bulbs were sold at more than 15 times the annual salary of the horticulturist and the volumes exchanged on the markets were completely unrelated to the actual number of available bulbs.

The first conclusion we can draw from this study is that market-makers who are too confident or not confident enough can make either profits or losses. When the market maker is pessimistic, but still trusts his own judgment, then price variations are seen to be weaker.

Prices increase mechanically, and the volume exchanged by rational traders is then low. Nevertheless, one conclusion of the study is that market-makers are able to take advantage of this market: the rise in prices does not affect the overall demand.

The results of this research also show that while traders with biased behavior trigger situations of disequilibrium, market-makers who are over-confident increase the likelihood that this will happen. For instance, an optimistic market maker amplifies excessive trading, which means that there are too many transactions. We can compare this to the Internet bubble, when both traders and market-makers thought they were witnessing the birth of a new economy and hence the likelihood of extreme growth.

The prices of shares in technology start-ups then went sky-high, uncorrelated with the actual profits of the companies and nevertheless, the number of transactions continued to increase. The March 2000 crash led to a recession in the sector but also in the economy in general with losses exceeding the profits made.

Moreover, we proved that there was an unexpected result: the fact that market-makers may behave in a biased way sometimes favors traders who are not very confident. In this case, a trader who lacks confidence may get better results than a trader who acts correctly. Consider for example a share whose value will not change. The optimistic market maker believes that it will increase and therefore sets a high price. A pessimistic trader believes that it will drop and therefore sells his shares, whereas a ‘standard’ trader will wait. In this case the pessimistic trader will make profits but not the ‘standard’ trader.

We may conclude from our research that the volatility observed may not only be due to traders, but may also be amplified by the attitude of market-makers. In fact, the last conclusion of the study is that in the extreme cases of levels of confidence, we observe excessive volatility and an excessive number of transactions. In a situation in which some traders lack confidence, market-makers who also lack confidence will cause rational traders to make too many transactions.

We are now working on a new more complex model which assumes that some market-makers act according to the way others do: in other words they no longer act as independent ‘black boxes’ but take into account the strategies of their counterparts.

[su_note note_color=”#f8f8f8″]Reference: This article written by Laurent Germain and Anne Vanhems and the article entitled “Irrational Market-makers”, co-authored by Fabrice Rousseau and Anne Vanhems, were published in Finance vol. 35, no. 1, April 2014. This article won the Prize of the French Finance Association 2014.[/su_note]

[su_box title=”Practical applications” style=”soft” box_color=”#f8f8f8″ title_color=”#111111″]These unpublished results pave the way for new strategies in which traders and market-makers should consider that, both among their peers and their competitors, some agents may take biased decisions.

Banks expressed a lot of interest in the study when the article was published and we may assume that this theory has been integrated into their trading practices[/su_box]

[su_spoiler title=”Methodology “]Our team of researchers constructed a mathematical model simulating the effects of psychological biases on markets. We defined two reference scenarios: the first in which all actors are rational and a second including rational and irrational traders dealing with rational market-makers. This enabled us first to illustrate the impact of trader irrationality. We then compared these results to a simulation in which all of the market-makers are irrational.[/su_spoiler]