A financial transaction tax (FTT) is a tax levied on, well financial transactions. Basically there are three types of the financial transaction tax:
- A tax on the trade of securities and derivatives;
- A tax on currency trading;
- A tax on bank transactions.
A FTT is not a tax on financial institutions, but on the transactions they facilitate. Several people have argued in favor of such taxes. They usually have the following motives for the introduction of a financial transaction tax:
- Curbing volatility;
- More fair method of tax collection;
- More difficult to evade this tax than alternatives.
It is, of course, a good thing if it is difficult to evade a certain tax. Since most financial transactions are done electronic these days, the collection of a FTT can be automated. This a major benefit for the effectiveness of a financial transaction tax, but it is not our most important concern.
Also a fair taxation is definitely a good thing. Nevertheless, this is also not our primary concern.
The volatility [i.e. the rapid change in value of financial instrument] of the financial markets is a serious issue. A rapid increase of the price of a certain instrument, could generate an economic bubble. We speak of a bubble when the market value of a financial instrument is significantly higher than its intrinsic value.
Bubbles are fine as long as they do not burst, which unfortunately always will happen sooner or later. In case of a burst, many people who would have invested in that instrument will lose their investment. This would not be that bad, if the losses were limited to those investors. However, bubbles usually affect the real economy very badly.
Suppose that your bank has invested in a bubble, and that bubble has collapsed. Your bank could go bankrupt, and you might loss [a part of] your savings as a result, even you weren’t personally involved with the bubble. A similar thing could happen with retirement funds, and people losing their retirement payments.
Bubbles are generated by speculators. We have to distinguish speculators from ordinary investors. Speculators don not care much about what they are investing in, but are primarily interested in quick financial gains. Typical for speculators is that they hold their positions only for a very short time, weeks or days but even only for a few hours, minutes or seconds; before selling their positions.
Speculation could be discouraged by imposing a tax on the transaction they are involved, typically trading in securities, derivatives and currency. [Currency speculation has a severe effect on the real economy as it influences exchange rates, most businesses prefer stable exchange rates.] For normal investors such tax will not be prohibitive, but for speculators the cost of their activities will be high as they do many transaction in short time.
For this reason we are not in favor of a general tax on bank transactions, since it “punishes” legitimate economic activities as well. A tax on currency trading is very preferable, as is a tax on trading derivatives. In case of securities (here defined as stock and bonds) we have to distinguish between the emission of new stock or bonds, and the second-hand trade of stock and bonds.
Through the emission of new stock and bonds, business are able to do productive investments. Since this is beneficial for the economy, we oppose a tax on the emission of new stock and bonds.
However, in case of the second-hand trade in securities, funds are exchanged between traders with little added value to the real economy. Hence we have no problems with a tax on such transactions, as it will counter act bubbles on the securities markets.
Summarized we propose a financial transaction tax on:
- Currency transaction;
- Trading of derivatives;
- Trading of securities at the second-hand market.
The next question is what the government should do with the revenues raised by the FTT. We have earlier suggested to use these revenues to fund the supervising agency for the financial sector. Possibly this agency could also collect this tax. The surplus will go into the general funds of the government.