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Friday, February 15, 2013

The Financial Transaction Tax: Who will pay, will it work?

The FTT: Who will pay?
The European Commission has now tabled its proposal for a Financial Transaction Tax (FTT) applying to the eleven EU states who so far have said they're willing to go ahead. Arguably, the proposal throws up more questions than answers - here are some of the main ones:

Q: Will non-FTT states get caught up in the tax? 

This is a crucial question and one the proposal does not shed that much light on. The proposal says the FTT will apply  
"on the condition that at least one party to the transaction is established in the territory of a participating Member State and that a financial institution established in the territory of a participating Member State is party to the transaction."
So if one party is not in a FTT state they would still have to pay if their partner in the trade is. This could mean occasions where people end up paying twice, i.e UK stamp Duty and the FTT. But what does "established" mean? Particularly since most large financial institutions have multiple subsidiaries and passports.

Q: Is that why some in the US are concerned?

A group of US business groups, including the US Chamber of Commerce, has written to the European Commission objecting to its proposal raising similar questions. The letter claims the tax overreaches borders, breaks international treaties and amounts to a “unilateral” imposition of a global FTT. A spokeswoman for the US Treasury also warned that the current plans would “harm” US investors.

Q: Who will collect it?

One of the major omissions in the proposal is an explanation as to who will collect the tax if the transaction takes place outside the FTT area. In the FTT states the exchanges will undoubtedly be expected to collect it (which is why some are upset), but what if a security is traded on an exchange outside the FTT area? There is a provision to make each party "jointly and severally liable" but how would it be collected and how would they pay?

Q: Would it be possible to avoid it?

The Commission has come up with a number of anti-avoidance measures including its own brand of extra-territoriality - the "issuance principle" - that would allow it to tax all transactions of instruments originating in an FTT state. For example, a government bond issued by an FTT country would be taxed no matter where it was traded or by whom. Another issue tackled is "depository receipts", again there is an anti-avoidance measure but how in practice would you outlaw the creation of UK depository receipts or for that matter already existing American Depository Receipts (which have previously been used to avoid paying UK stamp duty).

Q: Is it legal?

According to a study by Clifford Chance there is a danger that the FTT could violate the single market by distorting the free movement of capital and competition between states - though the Commission will have gone to great lengths to make sure the proposal stand up at a potential case at the ECJ. There are also questions about the compatibility with international tax agreements and a range of complex issues surrounding extra-territoriality. Whatever the final answer it could potentially lead to years of litigation.

Q: Will it have a knock on effect on ordinary individuals?

Those in favour of the tax hope this will be seen as a tax on the financial services industry. However it is difficult to see how this will not affect the wider economy or individuals. Every security bought by a pension fund will be taxed and so will reduce someone's pension, likewise taking funds out of the economy through taxation is often inefficient and could hamper economic growth. But the tax is pretty minor in terms of absolute amounts.

Q: Will companies be forced to leave FTT-land?

FTT states in red
The Commission hopes that they have cast the net so wide and set the tax at such a low level that it would not be worth an organisation leaving the FTT states. This seems optimistic as the proposal seems to create incentives not to issue securities within the FTT states. The Commission itself accepts that derivatives trade will likely fall by 75% in the FTT area - it is not clear if this trade is expected to be eradicated or simply move elsewhere.

Q: Will it ever be brought in?

The Commission is hopeful saying:  
"The proposed Directive will now be discussed by Member States, with a view to its implementation under enhanced cooperation. All 27 Member States may participate in the discussions on this proposal. However, only the Member States participating in enhanced cooperation will have a vote."
Under the treaties the measure will need at least nine states to agree the final proposal and there is still a possibility that some of the eleven states will read the detail and change their minds. Interestingly it also remains unclear at what stage a state can still decide to drop out.

Q: What would happen to the proceeds?

The proposal mentions some states using the revenues to pay their EU budget contributions. They would be free to do so but at various times, proponents of the tax have also wanted to spend it on projects such as international development and job creation.


Anonymous said...

OE, your paymasters are not happy about that one, I bet.

As a normal citizen I welcome measures making banksters contribute to paying for the financial crisis they caused.

Jesper said...

'will it work?'

Whether or not it will work depends on what it is intended to achieve. So what is it intended to achieve?

Stop speculation/gambling?
The US government doesn't like online gambling, has its legal measures succeeded in stopping people in the US from gambling online?

Raise taxes/revenue?
There are easier ways of raising revenue/taxes.

Is there something else they intend for it to achieve? Keep lawyers/economists in employment? Or?

Open Europe blog team said...

Hi Anonymous,

Thanks for your comment. We would agree with you that the financial sector should pay for its mistakes - we're certainly not in favour of some free pass for banks and investors. The problem is that the Financial Transaction Tax is an ineffective tool for achieving this, as the cost is passed on to consumers and small business, while it remains extremely difficult to properly tax something so mobile as financial transactions (even with the Commission's anti-avoidance measures). There are far better ways to ensure financial stability and a responsive / responsible financial sector: for example, robust, anti-cyclical capital requirements and an asset-proportionate bank levy used to fund a resolution fund would, for example, be far more effective. Resolution funds could play a significant role in ensuring financial stability and so getting bank lending into the wider economy in a way an FTT will never do.

Kind regards

Mally said...

I think we should all remember that every tax for whatever reason is paid, eventually by the man in the street. Generally he is the only loser.

PPNN said...

@Mally: Yes, not only taxes. Everything that costs a company money (for example rigorous health rules on food) will be passed on to the customer. The trick is to get the balance right - will the perceived good of the tax (or rule) serve a good for society (e.g safer food, financial systems that do not break down). Just a remark on principle, not on the subject as such. I think FTT is a far from brilliant idea which will do more harm than good, but I can still see where the supporters come from. We tried this tax in Sweden in the 80's, which serves to tell why we are not supporters of it now...

Since I am (relatively) not so knowledgable in financial markets, I would want to take the opportunity to ask two questions to the OE as well as the esteemed readers of this blog. I have pondered these issues and want to know the following:

1. When trading stocks, there is usually a fee levied on the transaction by the bank (or financial institution), the brokerage fee. Wouldn't it be an easier and more straight-forward solution to just put a tax on this? It would be self-collected (since fees would raise accordingly) and put a brake on transactions. I guess I am wrong on this, but would love an explanation why.

2. Some people are worried about the extremely quick, computerized, automatic trading and wish to slow this down. Some has suggested that assets should be compulsory held for at least 30 seconds before sold. What are the merits and drawbacks on this suggestion?


Rik said...

1. The problem with any tax is while who should bear the tax legally and who should collect it can be made sure, the one that actually ends up paying for it is far from certain.
The latter situation can also change because of eg a bad economy. Increase VAT (FTT is a similar levy) during a recession and likely retailers will take most of the burden at first instance. But if the economy gets better they will increase their prices and pass it on. So the one whoi actually carries the burden simply changes depending on the economy.
The same will happen here.
However general rule is longer term that most will be passed on to the end user/consumer. Basically what overall you see in Europe vs US European countries with a similar per capita GDP have higher prices than the US, simply (next to some inefficiencies) taxes are higher.

Collecting taxes from people in another country is very difficult btw.
It is however the big question who is the end consumer. The bondbuyer or the issuer of the bond. Depending on the circumstances you are likley to see a similar play as described above. But now between 2 endusers. Probably in a normal market issuing debt by governments will become more costly because if this.

2. The problem with HFT (High Frequency Trading) is that several of the techniques used for trading simply manipulate the market in a way that the average investor is not able to do. Basically create artificial demand or supply (or volatility (pricemovement) and profit from that.
One of the most used techniques is simply make an order (to buy or to sell) and redraw it later. Other people see that order and it influence the price. The trick it to benefit from it of course.
The time between the 2 events now is very short and impossible for a private investor to copy. 30 Seconds will mean that manipulation will become much more difficult, as you run the chance that that the order will materialise and you end up with assets you might not want or having sold things you donot like to sell.
Some sort of rules are required to create a more even playing field, the big players have always the advantage of more knowledge and likley lower transactioncosts, this looks simply too much and looks pretty dodgy as well next to that.

A FTT btw does a similar thing. Margins in HFT are very low (profit comes from quantity). Makes most HFT transactions simply unprofitable.
Basically it will however only work as a regulatory device if it is a worldwide tax (or at least most important markets have one) and you cannot escape it easily (like now). This proposal might legally be ok from an EU law point of view (doubtful but lets assume). But it bumps into all other sorts of international law and more important simply international trade policies. It will be very simply do in NY a EZ-FTT transaction and play it hard. Congress will go balistic. It is against anything they believe in and against the intrest of their main/stringest lobby-group.

Denis Cooper said...

"on the condition that at least one party to the transaction is established in the territory of a participating Member State and that a financial institution established in the territory of a participating Member State is party to the transaction."

It's "and", not "or", and doesn't that mean that if you use a financial institution which is not established in the territory of any participating Member State then there will be no liability for FTT even if you are established in one of those countries?

So if a financial institution was only established in London, say, could it not hold securities in nominee accounts on behalf of customers across the EU, and carry out their instructions for whatever transactions they wanted, without any liability for FTT?

Idris Francis said...

Those whom the Gods wish to destroy they first make mad - or in this case, even madder than before

Open Europe blog team said...

Hi Denis, interesting point, the definition of "established" set out in Article 4 seems to be very wide. Article 4, 1. (c) for example seems to include non-FTT banks with a "registered" seat in a FTT state and Article 4. 1 (g) seems to deem all banks dealing in FTT state issued securities, swaps etc and if that is not enough (f) seems to deem all banks dealing with FTT customers as "established"! From that it seems difficult to tell how far they might try to extend it?

Unknown said...

No, at the 15% they aren't paying their full share because they use more resources. They may be one person but the amount of money they spend and resources they use equate to hundreds or possibly thousands of average people. If that 200m was split up between a few thousand people(salaried income), they would all be paying 30-35% and the government would earn more revenue than having one person who owns it all and pays 15% tax. I understand that there needs to be an incentive to invest but there is a point where its too much. These rich people arent going to stop investing if the tax rate is raised. They will still make a ton of money.

Unknown said...

Will individual traders also have to pay this mad tax?

Unknown said...

Another ludicrous tax that will only aim to make the rich more rich and poor even poorer...

This seems like more of a tax on individuals than the big companies since we don't even know who collects the tax. My guess is in some big wig's pocket.

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