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Home Publications Blogs Beat the Press Maybe Reuters Should Have Talked to Someone Supporting a Financial Transactions Tax

Maybe Reuters Should Have Talked to Someone Supporting a Financial Transactions Tax

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Tuesday, 23 August 2011 08:14

A Reuters article on plans by the European Union to impose a tax on foreign exchange transactions (actually the proposed tax would apply to a wide array of financial transactions, not just foreign exchange) reads like an editorial against such a tax. It tells readers that the tax could cause traders to leave the London market, that it would reduce liquidity and thereby increase volatility and also disrupt efforts to develop algorithms for intraday trading. It describes these as unintended consequences of the tax.

If it had talked to a proponent of the tax, she would have noted the size of the taxes being discussed would just raise transactions costs back to where they were in the 80s or 90s. The cost of trading has plummeted in the last 3 decades due to computers. This tax will simply reverse some of this decline. There was already an extremely well-developed market in foreign exchange in the 80s.

The effect of a tax on volatility is unclear. While it reduces the incentive for arbitrage, it will also make speculation less profitable. This could make large speculative swings of the sort that we have seen in financial markets in recent weeks less likely.

Finally, it is not clear why it views the fact that the tax will make it more difficult to construct trading algorithms as an unintended consequence. These algorithms may provide large profits to the people who develop them, but the benefits to the economy and society are likely to be near zero. If a transactions tax discourages skilled mathematicians and computer programmers from developing complex formulas for financial arbitrage and instead has them work in a productive area of the economy, then the tax will have been a great success.

 

[Addendum: Reuters does go a small bit of the way back toward saving its soul by running this column from my friend Mark Thoma.]

Comments (9)Add Comment
intentional social policy
written by frankenduf, August 23, 2011 1:08
part of the essence of the critique here is inconsistent- it is highlighted that a social policy can have unintended consequences for individuals and as such needs more scrutiny- however, it has been empirically verified that policies that favor individual (bank) latitude can have disastrous unintended consequences for society- ethically, the burden of proof should actually be placed on the latter scenario to show societal optimization, rather than the former as this article implies
...
written by S. D. Jeffries, August 23, 2011 2:02
Reuters pulls this "editorial-as-article" trick very often the time. It's infuriating, but as long as everyone realizes what they're getting with this news service, their forays into editorializing their news stories won't result in policy implications.

From the article:
"Such a move would risk London's position as the world's largest FX centre, unless the tax could be introduced worldwide."

Terrific idea! Give the extortionists and whiners nowhere to hide.
Luddite Baker Attacks Computer Algorithms for Being Too Efficient
written by izzatzo, August 23, 2011 3:12
The cost of trading has plummeted in the last 3 decades due to computers. This tax will simply reverse some of this decline.


Any economist knows reduced transactions cost is why stock prices have become more stable - not less, because traders, speculators and arbitragers reduce volatility by absorbing risks which smooths more accuracy into price signals for everyone else.

Baker and his socialist buddies want to impose taxes that drag capitalism back into the stone age when traders stood red faced around ticker tape machines yelling and waving buy and sell quotes.

Just when the middle and lower classes were reaping their first round of significant gains from returns to financial property ownership through algorithistic markets that actually clear the socialist luddites try to shut it down with yet another tax.

Stupid liberals.
How about ...
written by John Puma, August 23, 2011 3:24
... triple the proposed tax AND specifically ban the use of algorithms.
Izzatzo?
written by BigBozat, August 23, 2011 8:12
Yeah, right... reduced transaction costs from those efficient algos have REALLY caused stock prices to become more stable over the last 20 years or more... NOT!

see: http://finance.yahoo.com/echarts? s=^VIX#chart2:symbol=^vix;range=my;indicator=volume;cha
rttype=line;crosshair=on;ohlcvalues=0;logscale=off;sour
ce=undefined

And what "first round of significant gains from returns to financial property ownership" would you be referring to? The one that ended with a massive asset bubble bursting, ensuing financial panic, debt-deflation macro contraction, battered retirement portfolios and bat-shit crazy volatility, mass unemployment et al? Yeah... good times.

Modern private credit-based financial capitalism is inherently unstable (see Minsky, Keen, etc.). A little sand in the gears is probably a good thing, esp. if it contributes to solving govt revenue issues (incl. funding TBTF resolution).

Stupid free market fundamentalists/conservative corporatist plutocrats.

Dr.
written by s jay, August 24, 2011 11:01
The argument is basically moot, as the Swedish experience with FTT showed years ago. There will be no windfall taxes collected by this scheme, it will simply put most of the high frequency traders out of business, since the tax is much larger than their profit margin per share. This will probably be disappointing to those eager to spend the expected windfall, but the indirect damage to the economy will be far greater than the lost taxes, and never noticed by those who believe they know best about how to organize the world.

It's sad that there is this superstition out there, that anyone could possibly make large sums of money without delivering value. Each of us, in our personal experiences, know that it's impossible to get something for nothing (well, those of us who have had the experience of someone actually voluntarily giving us money in exchange for something we've produced). Markets are self-organizing systems, and they exist in the evolution of the human economy because they provide value. The markets pay for what they need to survive, mainly liquidity and price discovery, without which, well, there is no market. The method of paying for these needed things is necessarily indirect. They don't let bids for liquidity suppliers or price discoverers. Independent business people hold inventories of stock that they really don't want to own, and supply it to Joe random when he dials up his etrade account. They survive and profit by their wits, in a monstrously competitive environment. (This is true in spades for equities. The much larger over the counter fixed income markets do not have this competition, and there, the monopoly arguments apply, but stupidly, no one is looking there. The profits of high frequency trading, which, in equity markets, is reducing the monopoly rents that fixed income markets earn for the big investment banks, is a small fraction of what's made in the monopoly markets. The ignorance of the attacks on HFT is truly massive if hilarious). It's the obscurity of the market's indirect payment mechanism that allows the superstition to persist, because it's not simple to see. In fact, high frequency traders earn far less than the value they convey to the average investor. In other words, it's like any other successful business. Sauter of Vanguard has articulated the savings to the average investor, something like 30% of the value of their 401k's at retirement. This is unseen value that the social engineers are threatening, and it is huge. The superstition that HFT adds zero social value can only be supported by those who have no understanding of value. I don't call it socialism, I call it stupidity. It's as if they are loudly proclaiming, "gravity pulls up!". It's that far off base.
impressive
written by Franco R., August 25, 2011 5:06
quote "If it had talked to a proponent of the tax, she would have noted the size of the taxes being discussed would just raise transactions costs back to where they were in the 80s or 90s The cost of trading has plummeted in the last 3 decades due to computers. This tax will simply reverse some of this decline"
good, let's think of taxes that bring also for example the price of PC close to where they were three decades ago. Brilliant.

" There was already an extremely well-developed market in foreign exchange in the 80s"
This is plainly and simply false
FTT
written by Franco R., August 25, 2011 5:11
A FTT taxes trades upfront, no matter if profitable or not.
It is obviously unfair.

As a tax it is also inefficient. If you tax trades you will get as a consequence less trades and wider bid-ask spreads. Everybody will pay more when buying and earn less when selling.
Take as an example the DAX future. The minimum spread is 0,50 points, ie EUR 12,50 per contract.
Introduce a FTT and you bet the spread will be 1,0 much more often than it happens now.

That means you will pay EUR 12,50/contract more than before (earn EUR 12,50 less when you sell) on top of the FTT.

Compared to commission on average in the EUR 1,50-3,50/contact/leg range that one is a HUGE increase in the cost of transaction.

You do not buy or sell DAX or forex or bonds ?
Well be sure that somebody (your pension fund manager, your bank, the makers of the food you eat) does it for you and then charges the extracosts on to you.

Traders serve society by narrowing the spreads and by beefing up the size of bids and asks.
A FTT taxes somebody for the very fact it offers a service, no matter if it makes money or not. A "small" FTT can be huge when compared to the average per/trade return of a successful trader, that is often very low (make very little per trade on a large number of trades).
Milwaukee brewers
written by Milwaukee brewers, August 26, 2011 9:19

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About Beat the Press

Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.

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