Polly\’s for it

Therefore it\’s a very silly idea indeed. The financial services tax that is.

The prize is so immense that most administrations must eye the possible proceeds with lip-smacking relish as they face belt-tightening to increasingly anorexic levels. A study by the Austrian government showed that a 0.05% tax imposed on UK financial trades would raise about £100bn a year. That spells a near end to the debt problem caused by the banks and/or cash for climate change action in poor countries. Now, Brown says, the risks fall on the taxpayer, the rewards on the banks; but a new system must insure against future risk and yield a fair levy to society.

The City emits its obligatory squawk – the goose will flap off to take its golden eggs elsewhere. But that remarkable £100bn is the sum the Treasury would reap even if a transaction tax were to lead to a highly unlikely two-thirds drop in UK transactions. As a tax, 0.05% is infinitesimal compared with the commissions charged by a finance industry whose clients seem happy enough to be fleeced as their accounts are churned.

Sadly there is a marked lack of free lunches in this world.

The report is here.

Even a quick eyeballing shows that it rests on two very dodgy indeed logical foundations.

1) It assumes that speculation increases both short and long term volatility of prices. This rather goes against quite a bit of real world evidence. Famously, onion prices in the US became more volatile not less after futures and options trading in them was banned. We also have Bob Shiller\’s work pointing out that more speculation in house prices (most especially the ability to go short that futures and options would provide) would have mitigated the boom. That is, make prices less, not more, volatile.

2) There\’s a devil buried in the detail there. The vast majority of the tax raised comes from futures and options. And do note, that this rate of 0.05% is on nominal numbers, not premiums, value at risk or anything like that. So we\’ve a $500 tax on a $1,000,000 transaction. For a spot transaction, one used to facilitate a real world movement of goods, sure, this is pretty meaningless. Tiny.

For an option, say, an out of the money option for a month (something I\’ve used as a hedge, not in currency but in metals) if I\’m well out of the money I might only be putting up $1,000 as a premium. A $500 tax on that looks rather large really. And yes, the report really does look at this and think it a good thing (I\’ll not comment on whether it is or not here, rather, look at the next stage).

Now, they then assume that transactions will only fall by 66% or so. But, but….futures and options are the most mobile part of the financial markets. That\’s actually why London has so many of them, for they have indeed been mobile from other countries. If we start imposing taxes of 50% of the transaction price (that 0.05% of nominal value) who in buggery thinks that only 66% of the transactions aren\’t going to bugger off?

Now, you can think that reducing speculation is a good idea (I disagree and so it appears does the real world) and that you want to reduce it by taxing it. You can also believe that you\’ll be able to do wonderful things with the money raised.

But what you cannot believe, not if you want to be logical, is that you will raise lots of money if you tax transactions that entirely bugger off if you tax them.

And the vast majority of this tax revenue does depend upon taxing the nominal values of futures and options which will be the first transactions to bugger off if they are unilaterally taxed. For by taxing nominal value we are not taxing such activities at 0.05%: far from it. The rate is hugely higher simply because of the leverage that such transactions allow.

Finally, of course, there is this point:

The burden of a transactions tax doesn’t necessarily fall upon evil bankers.

It won\’t be the intermediaries paying the tax: it\’ll be you and me.

6 comments on “Polly\’s for it

  1. Brian:

    You must be young. People entirely ignorant of business, the size of profit margins, and attendant expenses do, indeed, tend toward such more-or-less childlike confusion and have done so forever.

    The reality–insofar as are concerned the many left and left-ish among the more educated classes, whether writers, “educators,” or politicians, is that, regardless the actual state of their knowledge, they aim to encourage precisely those misunderstandings among the general populace which serve to aggravate such invidiousness.

    The older you get, the more you’ll come to realize that most of such are deliberate, calculating malefactors. To award them a “pass” on presumption of ignorance might be tempting–we want to regard ourselves as generous of spirit and “fair,” recognizing that it’s a general mistake to ascribe to malevolence that which can be explained by stupidity. But those we discuss are not the “general,” but a particular subset whose social position (and income ) is entirely derived from their ability to misinform and mislead (and, in the process, injure almost all others). They are a bane, not merely to all others, but to civilization itself.

  2. I can see some reasons for a Tobin tax, but it’s obviously lunacy to expect an economy of £1,400 GDP can suddenly find £100bn in tax just like that.

  3. Gene,

    No longer young, I was just checking I’d understood the problem correctly.

    As for Toynbee’s motivation, I think the truth is rather more scary than you are willing to allow. She genuinely believes what she says.

  4. Since the problem was caused by the amount of credit in the economy, and that was caused by lowered regulatory reserves, I cannot see how a tax on flows would help. On the contrary this tax would be a barrier to the only way to wealth creation, namely comparative advantage.

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