With backing from both the George Soros-supported Occupy Movement and French President Nicolas Sarkozy, the tax on financial transactions, otherwise known as the Tobin Tax, is looking more and more like a real possibility. Though the proposed rate is seemingly miniscule (Sarkozy wants a .1% rate starting in August), the economic implications are disastrous. From the Peterson Institute for International Economics:
The Swedish Social Democratic government enacted a transaction tax on stocks, bonds, options, and some other securities in 1983. The tax, named after the economist James Tobin, was abolished by the new nonsocialist government in 1991.And from the Adam Smith Institute:
The tax rates varied from 0.1 percent on ordinary stock trade to 0.15 percent on treasuries and 1 percent on options.
1. The expectation had been that the tax revenues would be 1.5 billion Swedish krona (SEK), but they stopped at SEK80 million.
2. Most Swedish trade in securities disappeared and went abroad, mainly to Oslo and London, and never returned. Soon after, the previously tiny Oslo stock exchange overtook the Stockholm stock exchange, and it is still the larger of the two stock exchanges.
Almost 60% of trading volume of the 11 most actively traded Swedish shares migrated to London during Sweden’s attempted Tobin tax. The temptation, and indeed relative ease, with which capital flight and cross border arbitrage can occur would spell disaster for the UK.
Sweden is the only country to have tried a “pure” Tobin tax, of 0.5%. It raised only one thirtieth of the proceeds predicted by its proponents and was scrapped after five years. The taxes sparked an exodus of financial activity from Sweden. By 1990 60% of the trading volume for the top 11 most traded Swedish stocks had moved to London. Trading for over 50% of Swedish equities had moved to London by 1990.
All market participants would be subject to the tax; a Tobin tax is unable to discriminate between de-stabilising trades and those which provide liquidity, information and tradefinancing. With short-term trading providing invaluable liquidity to the market, an incapability to segregate individual trader motivations will therefore lead to a reduction in both liquidity and welfare-enhancing trade, in addition to increasing market susceptibility to individual shocks.Financial Atlases shrugging is no surprise. There are plenty of other developed countries out there that would gladly welcome an influx of capital from countries with politicians delusional enough to believe a predictive model based on static behavior. It’s as if public officials truly believe people are submissive and will take their various attempts at pilfering with little, if any, protest. Should the Tobin Tax be enacted in France, or worse yet the U.S., the short term trading industry will suffer a serious blow. Since short term trades occur more frequently, they are disproportionately affected by such a tax. As the study from the Adam Smith Institute shows, the Tobin Tax drove away short term liquidity traders who provide much-needed relief during downturns.
But the core issue with a financial tax goes much deeper than the immediately observable effects. Market transactions aren’t just exchanges of goods or services, they convey vital market information as prices which represent profits and losses. As Mises noted:
Profits and losses are essential phenomena of the market economy. There cannot be a market economy without them. It is certainly possible for the police to confiscate all profits. But such a policy would by necessity convert the market economy into a senseless chaos.The Tobin Tax starts small but one should never doubt the extent to which such taxes are increased in times of fiscal stress. The income tax enacted in 1913 in the U.S. was first levied at 1% for most incomes and between 2% and 7% for higher incomes. There is no telling the kind of economic growth America could have seen had these rates been kept.
So while the Eurozone continues to implode and the Occupy Movement campaigns on the behalf of increased taxes, the Tobin Tax should be feared by all market participants, not just investors. The greater the chains of burden placed on the market, the greater the long term impoverishment for all.
(ht to Mike Shedlock for the studies)