NB Financial Health
Roundup 1/17/15 – Superman, Robin Hood and Stock Trading: Should the U.S. impose a financial transaction tax?
Do you remember the movie Superman III? If not, you’re in luck – it was a terrible film. But it did have a rather memorable plot device, in which a down-on-his-luck computer programmer (played by Richard Pryor) embezzles huge sums from his employer’s payroll after noticing that the company rounds each paycheck down to the nearest cent. The amounts are so small that nobody initially notices when he diverts them into his own account, accumulating a windfall that soon launches him into a number of implausible, irritating hijinks.
What does all that have to do with global finance? Unbeknownst to many, stock traders in the U.S. and other countries have been using a similar technique to make money. It’s called high-frequency trading, and it employs super-fast computers to figure out which stocks investors are in the process of buying, purchase them milliseconds or even fractions of milliseconds in advance, then immediately sell them to the investors who made the original order – at a slightly higher price. Just like in the movie, the amounts involved are imperceptibly small, but due to the volumes of securities involved, they add up to real money. Traders use pepped up computers to process hundreds of thousands of these trades per day, employing high-speed fiber optics and strategic placement of their servers to get a few milliseconds’ advantage over their competitors. Though the amounts generated by the high-frequency trading industry are modest by Wall Street standards (though still over $1 billion a year), the trades themselves account for about half of total trading volume in the U.S. (You’ll be hearing a lot more about this subject as Michael Lewis’s book Flash Boys, which brought high frequency trading to light, is being made into a movie).
It’s important to note that this practice is entirely legal, and some analysts consider it beneficial to the overall stock market, in that it makes market prices more accurate and brings greater liquidity. But if the past week’s political developments get any traction, this kind of trading will likely come to a screeching halt.
On Monday, U.S. Congressman Chris Van Hollen (D-Md.) proposed a measure that would levy a 0.1 percent tax on Wall Street trades of stocks and derivatives. As with Richard Pryor and the high-frequency traders themselves, the amounts being collected would be too small to significantly alter the economics of a deal. But for traders making thousands of trades per hour, those small amounts would quickly become unsustainable – and over time, they’d add up to a sizeable sum for the government. The combined impact of the tax could generate as much as $800 billion over the next decade, its advocates say. The Democrats propose to return that money to the middle class in the form of tax breaks – along with several hundred billion more, which would come from the proposed cancellation of tax breaks for the very wealthy.
Responses to the proposal were largely predictable: there was immediate criticism from business interests, Republicans and conservative commentators, who insist that a financial transaction tax would make it more expensive for businesses to raise capital, hindering economic growth and failing to raise any net revenue for the government. Their Democratic counterparts disagreed, with prominent Democrats and opinion leaders quickly endorsing the proposal.
But as U.S. politicians and commentators retreat to their ideological corners, it’s easy to forget that in the rest of the world, taxes on financial transactions are increasingly common. Over 30 other countries already tax financial transactions to differing degrees, including South Korea, South Africa, India, Hong Kong, the U.K. and Brazil. Advocates, who often refer to it as the Robin Hood Tax, are working to spread it to more. And in Europe, 11 countries are in the advanced stages of negotiations to implement the first regional financial transaction tax. To date, the sky hasn’t fallen in any of these countries. Indeed, America itself had a financial transaction tax from 1914 to 1966, and it was far larger, percentage wise, than the one currently under discussion.
If the United States were to impose the tax, many economists believe it would reduce volatility in the financial sector, removing an incentive for traders to chase new bubbles, and driving out those whose primary goal is speculation rather than investment. In an ideal scenario, it might even help popularize the approach – pioneered by UNITAID – of using targeted micro-taxes to help address income inequality and other problems, by taking largely imperceptible amounts of money from society’s wealthiest industries and consumers. Going a step further, perhaps the revenue generated could be put to more innovative uses, helping to shape markets that benefit BOTH the poor and industries themselves, as UNITAID has done by lessening risk for the multinational companies that want to supply low-income populations with medicines.
But back in the real world, Van Hollen’s proposal isn’t likely to go anywhere. Republicans enjoy majorities in both houses of Congress, and even President Obama is apparently opposed to the tax. And even if the proposal were to come up for a vote, it seems likely that a few hundred million in financial industry lobbying would put a quick end to it. So don’t hold your breath for a Robin Hood Tax to come to America – in the current environment, it’s just too heavy a lift, even for the Man of Steel.
James Militzer is the editor of NextBillion Financial Innovation.