18 August 2011

Adam Smith Institute published a paper on the Tobin tax: reason or treason?

As European leaders discuss an EU-wide Tobin tax intended to reduce market volatility and "Robin Hood Tax"-campaigners propose a similar tax, this briefing paper on the Tobin tax assesses these arguments and examines the historical case for and against a Tobin tax.

Summary:

1. FX turnover in the City of London reached over $1.8 trillion every day in 2010, accounting for 36.7 per cent of the global total. The City is vital to Britain’s economic interests.
2. A Tobin tax is a proportional tax on all spot conversions from one currency into another. There are now calls for a Tobin tax to be introduced into Britain.
3. A sole implementation of a Tobin tax by the UK would be economic suicide. Almost 60 per cent of trading volume of the 11 most actively traded Swedish shares migrated to London during Sweden’s attempted Tobin tax. The temptation, and indeed relative ease, with which capital flight and cross-border arbitrage can occur would spell disaster for the UK.
4. Sweden is the only country to have tried a “pure” Tobin tax, of 0.5 per cent. It raised only one thirtieth of the proceeds predicted by its proponents and was scrapped after eight years. The taxes sparked an exodus of financial activity from Sweden. By 1990, 60 per cent of the trading volume for the top 11 most traded Swedish stocks had moved to London. Trading for over 50 per cent of Swedish equities had moved to London by 1990.
5. There is a consistent lack of evidence that transaction taxes increase market stability. The UK’s experience with stamp duty suggests that the opposite is true. Numerous studies found a significant reduction in equity turnover following the stamp duty introduction, with a significant (-3.3 per cent) fall in the FTSE All Share Index returns witnessed in the 1 per cent rate rise in 1974.
6. A cross-study, consistent, empirically convincing causal link, either statistical or econometric, has yet to be found between an increase in transaction costs and a reduction in volatility. In both equity and foreign exchange markets, a large number of empirical studies reveal a positive relationship between increasing transaction costs and higher levels of volatility.
7. This is usually accompanied by significant declines in turnover, stock prices and a migration of trading activity. A Tobin tax could drive a significant proportion of the financial sector out of Britain.
8. The worst cases of speculation usually cited by Tobin tax advocates occur in emerging markets. However a Tobin tax would provide little deterrence to investors in these markets, where often short-term movements of 2–5 per cent are expected. In the worst cases of currency crises and manias (i.e. where investors expect short-term devaluations of over, say, 10 per cent) a Tobin tax would be an almost irrelevant deterrence to speculators.
9. The claim by supporters of a “Robin Hood Tax” that £20 billion annually can be removed from the UK financial sector without causing significant disruption is ill-informed and reckless. This recklessness is augmented by the fact that we are emerging from one of the most accentuated cycles of boom and bust to date.
10. Employment in the UK financial services sector stands at over 1 million; 4 per cent of the UK total. A Tobin-style tax would result in job losses both within the financial sector and also within supporting industries through employment spillover effects.

Full paper

© Adam Smith Institute