In my Sociology study I came across an intriguing paper called “How Community Institutions Create Economic Advantage: Jewish Diamond Merchants in New York” (Richman,2006). It attempts to explain the dominance of Jews in the diamond trading business from a micro economic perspective of incentives. If this isn’t the perfect paper for Kruxi, then I don’t know what is. Richman analyses the diamond trade as hugely prone to corruption, deception, theft, and black-market trade. Legal structures of due process, court hearings, and time lags within the jurisdiction cannot disincentivizes from cutting corners in this business. His main thesis states that only a community imposing extra legal costs to those who cheat can effectively trade with diamonds. First, I will outline the trade of diamonds. Secondly, I will discuss why the NYC orthodox community can impose costs on cheaters in that system. Lastly, I will discuss other markets in which extra legal costs are necessary to ensure trade, and that it not being surprising that strong knit communities run those markets.
In 2002 the Diamond Industry is worth 60$ billion. Approximately 65% of the rough diamonds, originated mostly from African, Australian, and Canadian mines, are sold wholesale in London. This trade is facilitated in an odd transaction organized by the Central Selling Organization (CSO), where 125 merchants sell to pre-arranged “sight holders” at a pre-arranged price. “Sight holders” then sell the rough diamonds to Antwerp’s four diamond bourses. 80% of diamonds sold in London’s CSO end up in Antwerp. The Antwerp bourses then get the rough diamonds cut in India or China. The cut diamonds then reach NYC. Approximately half of the world’s diamonds are sold in the US. That accounts for circa 30$ billion. They all must go through NYC’s 47 Street. Here the diamond dealing starts.
Imagine thousands and thousands of diamonds pouring into the 47 street every day. The aim is to find an end consumer who is willing to pay maximum prize for a single diamond. This is achieved by system of middlemen working on a credit structure.
Diamonds come in specific shapes and forms used for necklaces, rings, watches. On top of that they are differently cut, come in different purity and style. The big load of diamonds need to be split in different sections. Each section has a specialist middleman who knows who in his section knows his sub-section best. This trickles down to the end consumer who needs this purity of a diamond, cut in this style, for this kind of jewellery. A diamond might pass 10 merchants a day and doubling in price each day, before eventually finding a retail store, or specialized seller across the country.
The specialized middlemen merchants don’t actually buy the diamond. The system works on credit until the end consumer pays the full price and money trickles down to the man of first contact in 47 Street. It would be hugely costly to always transaction large amounts of sums for only small margins. Thus, strict credit books are an efficient alternative.
These middlemen trading in NYC are overlooked by the Diamond Dealers Club (DCC). The DCC has only 1800 members of which 90% are Jewish and most of those are orthodox. How come so many Jews work in that system? Sure, there are some historical explanations, but these don’t explain the persistence of the diamond trade structure. Richman argues that for this system to work organizations need to introduce extra legal costs. The above described middlemen system is a great way to filter out who might pay the maximum prize for a diamond from a vast amount of diamonds. This system best works on credit since large amounts of money don’t need to be transferred at every single stage. But with this comes a huge incentive to cheat. A middleman can decide to defect and not pay his previous middlemen, thus stopping the trickle down at his doorstep. The small margins of the middlemen and the large amounts of money make it unbearably simple to take money and run. Legal systems are not adapted for this trade. A legal process would start in which witnesses would have to give account of what happened, and over months a possible agreement might have to be sorted out. Cheating would happen all the time. Thus, one must introduce costs for cheaters that go beyond the legal system: extra legal costs. These can be found in Jewish orthodox communities, where individuals live isolated among the community. They eat, live, marry, and pray within their community. Their families are tied up within that community. If they defect or cheat, they face immense costs in their everyday life. This system ensures that the cost of cheating is higher than the benefits. One can lose everything if the community perceives an unfair handling of diamonds as middlemen. The future discounted costs of cheating to an individual and family outweigh the costs of a single cheat. This cost structure goes way beyond the legal system. It is only in this kind of community that such a structure of costs and benefits can be implemented.
We now know that some high-trust trades can only be facilitated in communities which incentivize and punish people on a personal level on top of a legal level. This might also explain supply chains of mafia like families. While I do not want to compare Jewish communities to mafia communities in their work, I do want to point out structural similarities in terms of family, community, and incentivization. If legal costs are not sufficient to ensure fair trade, community costs are introduced. This might be true for Mexican Drug cartels or Italian-American Mafiosi Families. There is a reason why “The Godfathe’s” starting scene (https://www.youtube.com/watch?v=OIBpHO1gZgQ) is a family wedding. The famous exchange between Don Corleone and Bonasera perfectly describes this extra legal cost. Bonasera asks Corleone to avenge the beating of his daughter. Corleone points to the legal system for avenge. Bonesera wants assurance of avenge. Corleone accepts, but with a caveat, that Bonasera is now in the realm of extra legal punishment, a system that goes beyond legal costs: “Someday, and that day may never come, I will call upon you to do a service for me. But until that day, accept this justice as a gift on my daughter's wedding day.”
You can find the article here : https://www.jstor.org/stable/4092751?seq=1
( My description of the diamond trade might be slightly outdated since I base my figures on this 2006 paper)
More work on extra legal cost and community can be found in Diego Gambetta’s work.
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