The deficit-reducing potential of a financial speculation tax

Published on real-world economics review, issue no. 56, by Dean Baker, Center for Economic and Policy Research, USA, March 2011, 6 pdf-pages.

While a number of commissions and organizations around Washington have produced plans for reducing the projected deficit in the decades ahead, most have not included a financial speculation tax (FST) in the mix.1 This seems peculiar since an FST has several features that could make it attractive as a revenue source.

First, it would help reduce the economic rents earned by the financial sector. A tax on the turnover of stocks, options, credit default swaps and other financial instruments would make it less profitable to trade these assets. To a large extent current trading patterns reflect rent-seeking behavior with little or no economic benefit. 

For example, the complex computer algorithms that can allow sophisticated traders to purchase assets ahead of ordinary investors – and therefore gain at their expense – provide no obvious benefit to the economy. In fact, the use of algorithms to jump ahead of ordinary investors reduces the expected gains from long-term investment. If an FST can reduce this sort of trading, it will impose no loss on the economy. This is one of the reasons that even the IMF, an institution generally friendly to banks, has advocated increased taxation of the financial sector.2 … //

… Conclusion:

In a context where deficit reduction is now playing a central role in Washington policy debates, it is striking that financial speculation taxes have received almost no attention. Calculations that assume sharp reductions in trading volume from current levels show that an FST can raise an amount of revenue that exceeds 1.0 percent of GDP. This is not just a hypothetical; the revenue collected by the U.K. on its more narrow tax on stock trades shows that it is possible to collect large amounts of money through such taxes. Furthermore, the incidence would be almost entirely on the financial industry and those involved in very active trading.

The potential revenue from such a tax far exceeds the amount of money involved in most items that are heavily debated in Congress, such as the extension of unemployment benefits or the tax breaks going to the wealthiest two percent of the population. The revenue from an FST also vastly exceeds the size of the projected Social Security shortfall. Given the amount of money potentially at stake and the progressivity of the tax, it is surprising that it does not feature more prominently in policy debates. It is not clear what possible downsides would be posed by such a tax, except for its negative impact on the income of people connected with the financial industry. (full long 6 pdf-pages text).

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