Friday, 15 February 2013

Tobin's taxes

By Stephen Spratt

In 1972 the Nobel prize winning economist James Tobin proposed a small tax on all spot currency transactions. Following the break-down of the system of fixed exchange rates drawn up at Bretton-Woods, Tobin was concerned that speculative trading would increase the volatility of exchange rates, damaging the real economy. The aim of what would become known as the Tobin Tax was to discourage short-term speculation and thus ‘throw sand in the wheels of our excessively efficient international money markets’.

In its more recent incarnation, the revenue raising potential of the Tobin Tax has been the main argument used. Those concerned with international development have been prominent in this, seeing taxes on financial transactions – particularly currencies – as a way to raise large sums for development. Environmental groups have made the same case, arguing that funding for climate change could be raised in the same way. These advocates have largely stayed away from the possible impacts on market volatility, however, preferring to focus on the (very large) sums that could be raised.

Forty years after Tobin’s original proposal, the European Commission yesterday announced its own plans for a ‘Tobin Tax’ in 11 European countries. According to the best estimates, this could raise €30bn-€35bn through a 0.1% levy on equity and bond transactions and 0.01% on derivatives. So how does this relate to the earlier versions?

First, there is no talk of throwing sand into any wheels. The tax is presented as a way of raising revenue, or of ensuring that the financial sector ‘pays its share’. Tobin’s original goal of reducing volatility by discouraging speculation is nowhere to be seen.

Second, the EC version would apply to equities, bonds and derivatives, but not currencies, reflecting the fact that not all Eurozone countries were prepared to sign up. The foreign exchange market – which as the largest financial market in the world turns over more than the UK’s total annual economic output every day – remains untouched.

Third, as well as not talking about reducing volatility, nobody has heard about tax proceeds being used to fund development or environment goals. The appeal to European governments of a new source of tax revenue in these times of austerity is strong. Campaigners may finally get what they want – a version of the Tobin Tax – only for the money to disappear into the coffers of European governments.

But will it work? On this front, the proposal looks quite robust. A change from earlier drafts sees the tax apply to instruments as well as actors. That is, not only do institutions based in signatory countries have to pay the tax, but so does anybody else trading financial assets issued in those countries. US banks trading German shares in London would be liable for the tax, for example. This is very important, as without it trading in these instruments would simply migrate outside the jurisdiction to avoid the tax, as happened in Sweden when a transaction tax was introduced there. The only tricky areas will be certain parts of the derivatives market, but these should be surmountable.

Expect the usual howls of protest from the financial lobby, as well as protracted legal challenges. One issue of dispute is likely to be the extraterritorial nature of the tax, where non-European institutions would still be liable if they trade assets issued in signatory countries. If you hear voices from the City of London making this point, however, you could point out that this element is modelled on the extraterritorial nature of the UK’s Stamp Duty on shares transactions. At 0.5% this is many times larger than the ‘Tobin Tax’ proposed in the Eurozone, and it too is liable regardless of where UK shares are traded or by whom. To those who fret about transaction taxes destroying the financial sector, you might point out that the Stamp Duties were introduced in 1694 in the UK, and have not exactly impeded the growth of the financial sector...

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