The .03% Solution
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The unwritten rule of Washington debates about taxing and spending is to never consider anything new. But wouldn't it be wonderful if the pressure of the next few months' debate changed that?
Last month, 11 European countries, including France and Germany, moved forward on introducing a minuscule tax on trades in stocks, bonds and derivatives. The tax goes by many names. It's often called a Tobin tax, after the economist James Tobin. In Europe it goes by the more pedestrian financial transaction tax. In Britain, it goes by the wonderful Robin Hood tax, and is supported in an often clever campaign.
On this side of the Atlantic, there is a ghostly silence on a transaction tax in respectable political quarters. But that might change. This month, Sen. Tom Harkin, Democrat of Iowa, and Rep. Peter DeFazio, Democrat of Oregon, plan to reintroduce their bill calling for just such a tax.
A transaction tax could raise a huge amount of money and cause less pain than many alternatives. It could offset the need for cuts to the social safety net or tax increases that damage consumer demand. How huge a sum? Harkin and DeFazio got an estimate from the bipartisan Joint Committee on Taxation, which scores tax plans. It's a hearty one: $352 billion over 10 years.
The money would come from a tiny levy. The bill calls for a three-basis-point charge on most trades. A basis point is one-hundredth of a percentage point. So it amounts to 3 cents on every $100 traded.
And the bill contains some exemptions intended to make the tax more politically palatable. The first sales of stocks (initial public offerings) and bonds are exempted, so that the markets' capital-raising function isn't harmed. Initial investments and withdrawals from tax-protected accounts, like retirement or education funds, also have a measure of protection.
Critics of such a tax cavil that it will harm our capital markets and won't raise that much money. They argue that such a tax cannot be enforced; that it will depress trading, leading to lower asset prices; and that it will ultimately be passed on to retail investors.
These are anemic arguments, and are completely destroyed in an excellent piece of myth-busting by a group in Britain called Stamp Out Poverty.
Lots of taxes are hard to collect, but this doesn't seem like one of them. Sales taxes have decent compliance, and they are often collected by small businesses conducting commerce in cash. Trading, on the other hand, is conducted by large businesses on computers. This tax would be collected by the exchanges. If there's no exchange involved, the buyer owes it. It would be paid on any trade carried out in the United States or by any American entity or individual (a corporation's offshore subsidiaries can't get around it).
If there is truly a concern, then the tax could be modified so that if it hadn't been paid, neither the transaction nor any legal action arising from it would be enforceable in the United States judicial system. Voilà! Plenty of compliance.
But those who argue against the tax are blind to a sea change in the way society sees the financial sector. They should be asked to make an affirmative case for more frenzied capital markets activity, rather than just assume that tamping it down is malign.
Yes, trading costs have come down and trading has skyrocketed in the last decade and a half. What have we gotten for it? Bubbles, crashes, volatile asset prices and an outsize financial sector that extracts rents from the rest of the economy. Rising volumes and tighter spreads haven't delivered good economic growth, broad-based wage growth or good jobs.
Nor have they even helped the stock market. Where is the boom in newly public companies? The Standard & Poor's 500-stock index is only just now getting back to its peak before the financial crisis. The Nasdaq isn't close to the peak achieved in the year 2000. Stock market valuations are depressed.
So let trading costs rise again, if the Tobin tax would really lead to that. (Other factors, like brutal competition, might still keep them just as low.) Much of the trading that occurs in the market is socially useless. It might narrow slightly the spread between the prices at which securities and derivatives are bought and sold, but the minute there's a crisis, the traders flee. They provide the kind of liquidity that is available only when it is not needed.
The average American, who has limited exposure to the stock market, has little to fear from the tax and much to gain. And if some of the high-frequency trading flees offshore? Good riddance.
Alternatively, let's suppose that a transaction tax succeeds beyond expectations in bringing down excessive trading and doesn't raise as much as projected. Fine. The American capital markets will become less volatile and more connected to fundamentals. Pension fund and mutual fund managers will have an incentive to hold stocks longer and adjust their investing expectations. There is a scourge of short-term thinking in American business; a transaction tax leans against this malign influence.
But what if the tide of technology and investor attention-deficit disorder continues apace, and trading does not decline as much as the securities industry and its paid academic shills claim? That's fine, too. We'll take the revenue.
The politics of a transaction tax are fascinating. Harkin doesn't have the juice to get it done on his own, several Senate staff members and Washington observers explained to me. The transaction tax would need to be embraced by some senators on the relevant committees, like finance or banking. The Senate Finance Committee is a problem because Charles Schumer of New York, the heavyweight Democrat who serves on it, often acts as if his main constituency is Wall Street.
There have been hints of a possible anti-Wall Street/Big Bank coalition between Midwestern and Western Democrats and Republicans. The Ohio Democrat Sherrod Brown and the Louisiana Republican David Vitter don't agree on much, but they co-sponsored a bill calling for more bank capital. Charles E. Grassley, the Iowa Republican famous for skewering vested interests, serves on the Senate Finance Committee. Of course, Republicans have taken blood oaths never to support higher revenue.
If some kind of increase in taxes is inevitable, one that takes aim at high-frequency traders probably hits few Iowans and average Americans in general, while doing much good.
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