From Cafe Hayek

If insider trading (on non-proprietary information) causes asset prices to reflect more accurately the true, long-run values of those assets, then insider trading should increase confidence in markets.

Put differently, ordinary investors would be less confident in markets that take an average of t units of time to incorporate into asset prices a piece of relevant information than these investors would be in markets that take an average of t+1 units of time to achieve the same adjustments to asset prices.

To the extent that insider trading causes prices to reflect asset values more quickly and more accurately, general investors should be more confident in asset markets and, hence, more likely to invest their earnings in such markets.

The issue is what is more relevant to the market, material information or the buying and selling power of insiders? Or, what moves the market more, what insiders are saying or what they are doing?

Most of the capital stock of a publicly traded corporation is in the hands of outsiders, people who have little idea what is truly going on in a corporation.  Insiders hold very little company stock in most publicly traded companies.  If the issue is price discovery, because insiders usually hold a fairly small percentage of stock, insider transactions will have a minor effect on stock prices.  For companies where insiders hold a lot of stock, then insider transactions will have a greater effect on price discovery.  However, take a look at the ownership rosters of most publicly traded companies and you will see the same thing - stock ownership is dominated by large pools of capital such as mutual funds, pension funds, hedge funds, insurance companies, etc.  Rarely do you see insiders on that list.  What matters more for price discovery is whether or not Fidelity or T. Rowe Price is getting out of a stock than the CEO since the Fidelity's and the Price's of the world own far more stock than the CEO. Thus, for most companies, insiders buying and selling their stock will have a minor effect on price discovery. 

This incentivizes insiders from disseminating material information as it is in the best interests of insiders to either withhold or even mislead the market.  Management has every incentive NOT to disseminate material information while they are currently buying or selling their stock.  If the stock price is $50, and management has material information that will knock the stock price down to $20, then insider selling will not knock the price down to $20 because insiders do not own enough stock to knock the stock price down to $20.  Insider selling might knock the price down to $48 but it won't go to $20.

One could counter, "Yes, but $48 is still closer than $50," but that misses the point.  Management is incentivized to not disseminate information until after they have dumped their shares.  If management discovers the $20 material information at time T, rather than disseminate it into the market at time T, they will withhold the information until time T+X after they have sold all their shares at $48.  Between periods T and T+X, investors will have purchased the stock from management that they would have not bought had the information been disseminated at time T.  The people who bought the stock between times T and T+X will not care if they bought it at $48 or $50 if it plunges to $20 after they bought it.  They will have been used by management as buyers of insiders' stock at $48.  If it is illegal for management to trade on material non-public information, there is less incentive for management to withhold disseminating information beyond time T.  Thus, it would be management who would ride the stock down to $20, not the investors who bought the stock at $48 from management.

Some might argue that there is more information in insiders buying and selling, but I have never seen a stock price get cut in half on news of insider selling whereas I have seen it happen too many times on the release of material information.

Decriminalizing insider trading is more likely to distort markets and lead to less confidence in the market by the public as it will incentivize insiders to withhold information.  This is clearly a bad thing since it would lead to less efficient capital allocation and thus higher costs of capital and slower economic growth.

Jeff Matthews has a great retort to de-criminalizing insider trading.