The Financial Transactions Tax vs. the Financial Activities Tax
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Description
On her deathbed, Gertrude Stein reportedly asked ‘What is the answer?” but, upon hearing no reply, added “In that case, what is the question?”. In evaluating what new tax instruments, if any, to levy on the financial sector in the aftermath of the 2008 financial crisis, we would do well to emulate Ms. Stein's focus on the importance of what question is being asked. We need to know what purposes are to be served by a tax on the financial sector before we can evaluate how best to advance these purposes. The European Commission, in its recent proposal that the European Union adopt a financial transactions tax (FTT) that is directed mainly at secondary securities trading, is commendably clear about the general objectives that a financial sector levy might serve. It mentions (i) raising revenue, (ii) ensuring an “adequate (fair and substantial)” contribution from the financial sector, (iii) “reducing undesirable market behaviour and thereby stabilizing markets” and (iv) achieving coordination between different Member States' internal taxes. In my view, however, the Commission is less persuasive in arguing that these considerations support enacting an FTT—in particular, relative to the alternative it identifies, which would be to enact instead some variant of a financial activities tax (FAT), as recently proposed by the Staff of the International Monetary Fund (IMF). I will argue that the considerations identified by the Commission—some of which are more compelling than others—along with broader tax policy objectives, strongly support enacting an FAT, while raising serious questions about an FTT's desirability. Indeed, the case that a properly designed FAT is superior to the FTT is sufficiently compelling—not to mention unrebutted by the Commission's analysis—as to leave one wondering exactly why the Commission came out as it did. As for the FAT, which to date has been somewhat under-explained, I will expand on, and in at least one respect modify, the IMF Staff's analysis, while also suggesting criteria for choosing between the alternative versions that it describes. As it happens, however, there is potentially a decent rationale for enacting an FTT—albeit one that does not relate to extracting a “fair contribution” from the financial sector or easing the risk of another 2008-style economic crisis. Instead, this rationale relates to investors' incentive to seek trading gains at the expense of rival investors, whether by acting faster than their rivals on new information or by special talent (or luck) in “anticipating what average opinion expects the average opinion to be”. The competitive pursuit of trading gains can verge on being a zero-sum game. Moreover, even where some social benefit results from speeding the process whereby markets incorporate new information into asset prices, the private gain from being one microsecond faster than one's rivals may so greatly exceed this benefit as to make a tax on the activity potentially appealing—at least, if the substantial design obstacles that an FTT would face can be sufficiently well addressed to suggest that its good effects will likely outweigh its undeniable social costs. Given how little this possible rationale for an FTT has to do with the objectives identified by the European Commission, I believe that the “FTT or FAT” question is in a sense misguided. While an FAT should be enacted in any event, for reasons pertaining to the overall burden on financial sector actors and the incentives that they face, the case for a suitably redesigned FTT should rise or fall on wholly separate grounds, and largely without regard to whether an FAT is in place. The remainder of this chapter proceeds as follows. First, I discuss the FTT and FAT models that have featured in historical and more recent discussion, including by the Commission and the IMF. Second, I evaluate the objectives cited by the Commission, along with further relevant tax policy objectives, and assess their relevance to the "FTT vs FAT" choice. Third, I discuss the alternative rationale that potentially supports adopting an FTT. Finally, I offer a brief conclusion.
Source Publication
Taxing the Financial Sector: Financial Taxes, Bank Levies and More
Source Editors/Authors
Dennis Weber, Otto Marres
Publication Date
2012
Recommended Citation
Shaviro, Daniel N., "The Financial Transactions Tax vs. the Financial Activities Tax" (2012). Faculty Chapters. 1753.
https://gretchen.law.nyu.edu/fac-chapt/1753
