Global Policy Forum

'Tobin Tax' Could Raise $850bn (...and Market Volatility)


A new study by the Institute of Development Studies has found that contrary to popular belief, a Tobin tax might actually increase market volatility. The study has also concluded that a currency transaction tax would be unlikely to destabilize markets if it was designed appropriately. The authors of the study have noted that the estimated revenues outweigh this risk.  A 0.005% tax to markets could generate $850 billion in revenue, which is equivalent to seven times the current estimated aid in 2008 from wealthy countries to poor countries.

by Matt Turner

Financial News
June 14, 2011

A tax on financial transactions could raise in excess of $850bn per year although it was likely to fail in its purpose of providing greater stability by increasing, rather than reducing, volatility in the markets.

In a report published by the global charity Institute of Development Studies, co-authors Neil McCulloch and Grazia Pacillo concluded that while the proposed levy, known as a Tobin tax, could increase volatility, the potential tax revenues outweighed the relatively small rise.

It said: "We conclude that the Tobin tax, and other FTTs based on the value of the transaction, would probably fail in their original purpose of providing greater stability to the market.

“On the other hand, the evidence does not suggest that a Tobin tax would be highly destabilising either, at least not at the low rates of taxation typically proposed; volatility may increase, but only by a relatively small amount."

It estimated that a tax equivalent to 20% of the existing transaction costs in each market, if applied across equity, derivatives, FX and OTC, could raise a figure equivalent to seven times the estimated aid from wealth countries to poor countries in 2008.

It added that the way transactions are settled has made it much easier for countries to introduce taxes on currency trading, for example.

The report said: "We find that applying a 0.005% tax to the foreign exchange market alone might raise around $25bn per year worldwide. Including the other markets, the revenue raised could reach over $250bn, even if the OTC market is excluded, and well over $800bn if it is included."

Total annual revenues to the UK would be $34.2bn if the tax excluded OTC activity and $287.6bn if it included the activity.

These figures include the assumption that the volume of trade is reduced by 20% due to avoidance, and by a further amount due to the tax itself.

The fact that the report said that the tax would likely increase, rather than reduce volatility, is significant as one of the central arguments politicians have used to promote a transaction tax is its impact on volatility.

The European Parliament in March voted in favour of a Europe-wide tax of between 0.01% and 0.05% on financial transactions, claiming a transactions tax would improve stability by curbing speculative trading, such as the activities of high-frequency traders, and force firms to take on some of the cost of the financial crisis.

Despite that, the report broadly came down in favour of the introduction of such a tax, concluding that while a tax would not be as progressive as some of its proponents claim, it would not be any worse than most alternatives, nor would it be any more difficult a tax to collect.

The report concluded: "Our overall conclusion is moderately positive. Although the literature is far from conclusive on many points, it seems clear that an FTT is implementable and could make a non-trivial contribution to revenue in the major financial economies. It seems unlikely to stabilise financial markets, but, if appropriate designed, unlikely to destabilise them either.

"In short, we conclude that, somewhat contrary to our initial instincts, a financial transaction tax may not be such a bad idea after all."


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