Sep 29th 2011, 12:55 by Buttonwood
WHO can argue with a Robin Hood tax? There will be some who say that anyone who doubts the benefits of an EU-wide financial transactions tax is in the pockets of the banks but let me try anyway.
Let me start with the proposition that the financial sector has grown to dominate the Anglo-Saxon economies in ways that are unhealthy, particularly as the best and brightest have been lured to finance by high salaries. In my view, however, this outcome is the result of easy credit policies that fuelled a series of asset booms, accompanied by the gearing up of balance sheets and the willingness of central banks to rescue the markets whenever they faltered. The result for 25 years was a one-way bet on asset prices that the finance sector took advantage of. This was not a free market, but a rigged game.
So what to do about it? The collapse of Wall Street in 2008 started to redress the balance but then central banks stepped in again (via QE) to give the finance sector another spree, while penalising small savers who kept their money in deposits.
In the long run, moves to force banks to have higher capital will reduce the scope for leveraged returns, and thus reduce those big bonuses. Banks can go back to being rather dull utilities. But even this process is fraught with problems. The Bank of England's financial policy statement this week said that
banks should take any opportunity they had to strengthen their levels of capital and liquidity so as to increase their capacity to absorb flexibly any future shocks, without constraining lending to the wider economy. This could include raising long-term funding whenever possible and ensuring that discretionary distributions reflected any reduction in profits.
That is a tough combination to pull off, and so far lending has suffered. On the first part of the proposal, bank shares have underperformed this year, making it hard to raise new equity. The second part sounds good; cut back on bonuses rather than cut back on bank lending. But the banks are likely to say to one another; after you. If one bank cuts bonuses, and the others don't, the "good" bank will lose a lot of staff. Maybe this is something regulators have to decree, not just suggest.
So why not try a transactions tax instead? EU governments need the money, after all, and there is evidence that excessive trading can lead to volatility. Some will argue that the existence of stamp duty on UK equity transactions shows it can be done. But who pays the duty? Anyone who has ever bought shares in the UK will know that it is passed straight through to the retail investor or to pension funds, insurance companies and mutual funds (which are the aggregated savings of private investors). The duty has done nothing to slow the rapid rise in bankers' bonuses, which are generated elsewhere. Such taxes are just passed straight through to clients. Hedge funds often get round the duty, by trading in contracts for difference, a kind of leveraged bet on share prices that are exempt from the tax.
But what about all those derivative deals that are "socially useless"; wouldn't the tax catch them? It might if it were worldwide. But the bulk of European financial trading occurs in London, and the the bulk of that trading is conducted by non-UK firms. It would take little effort to switch the business to New York or Geneva or Singapore. Note that an impact assessment of the tax (which the EU commission undertook) says it will reduce GDP by 0.5%. Let Europe sign up for a financial transactions tax when the Republican party votes in favour of it (but don't hold your breath).
Indeed, this idea is so anti-London that the UK government is bound to veto it. Which makes one wonder why it was proposed; was it a smokescreen to divert the attention of EU voters from the mess that leaders are making of the debt crisis?
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A first step in pressing an international agreement? In an election year, the Republicans have to be at least a bit careful about being seen in Wall Street's pocket while suggesting that the social safety net be dismantled.
Perhaps Obama is even awake enough by now to point out the contrast.
Just stop printing, and the financial sector will shrink to a reasonable percentage of the economy.
As a side benefit, the standard of living of the non financial sector will go up. Bankers will no longer be able to confiscate pensions and wages from the majority, and turn them into bonuses for themselves.
I think that the tax is a sign of the resurgence of European politics, ie. those that really deal with what will Europe become. It may start off as a Euro-area only tax which catches nothing but may be extended by licence - any Euro-area investor may be required to pay it. No chance for a British veto, in the same way that EFTA countries have to play by the same rules as the EU.
Whether the tax is the right way to go is another matter but I do think it is hard to argue in favour of high speed trading or many of the other instruments that have been dreamt up to arbitrage arbitrage. It all seems very clever on paper but in "Newtonian economics", every trade has a real effect.
That is a tough combination to pull off, and so far lending has suffered.
Lending always suffers during a financial collapse. Overleveraged people and businesses can't or won't borrow, and those that aren't overleverage probably don't feel secure enough to do so. (And I'm not even counting those that won't buy a house out of fear that the new neighbors aren't paying their mortgages while awaiting a gov't handout/program.)
So why not try a transactions tax instead? Maybe for Europe, but it won't fly in the current House. "Primaried" fears, ya know.
In the old days when we made things, my state used to have a tax on Ohio's corporate franchise, personal property and personal income taxes.
That was scrapped for a commercial activity tax.
Anyone who has ever bought shares in the UK will know that it is passed straight through to the retail investor or to pension funds...
That's true of ANY tax. But people have the right to choose to pay taxes when they choose to buy any product. It's baked into the price.
They can choose not to pay the tax by not buying the product.
Regards
The basic problem is how to tame the banks without inhibiting innovation. Taxing financial transactions does nothing to reduce moral hazard and transparency which seem to me to be the root problems. Let me make a suggestion:
Governments should institute insurance policies for banks. (No private insurer would ever have sufficient resources.) In exchange for accepting tight regulation - the equivalent of requiring smoke detectors and fire escapes in buildings - and the payment of premiums which would insulate the taxpayer from responsibility for the immediate costs of banking failures, banks who sign up would be protected against catastrophic failure.
Banks would be free to forego this insurance and regulation, so that there would be a two-tier banking system. Clients could choose between "liberated" banks with no insurance or regulation, and "limited liability" banks which had both. The first would be less expensive and more risky while the latter would be more expensive and very much safer.
One result of this arrangement would be that the banks would be obliged to market their services in a much more transparent fashion - they would be forced to compete on cost versus risk. Another would be the elimination of moral hazard. A third would be that governments would have to look much more closely at the risks relating to policy decisions like encouraging home ownership and either explicitly accept those risks or adjust the insurance premiums accordingly. Financial innovation by the un-insured would encouraged and innovations which proved their worth and stability could then migrate to the insured.
My strong suspicion is that the two tiers of banks would quickly find equilibrium. Small "c" conservative clients would opt for - and pay - the insured banks while the more risk-tolerant would go to the cowboys. Competition would be healthier (competing for clients instead of employees) and the economy more stable. And the bankers would have to stop whinging about being regulated - they either accept it or they don't. Either way, it would be a business decision with predictable results.
Obviously a lot of details would have to sorted out. Any country - say Switzerland - could institute such a policy and attract banks willing to accept its controls. If successful, other countries would enter in competition as a provider of services and a gatherer of premiums.
(Also, I rather like the idea that free competition would be enhanced by the introduction of a state-owned commercial enterprise. There's something to please, and something to offend, people of all ideologies. But that's just me.)
I cannot see a down-side to this approach, which appears to solve a whole lot of problems. A cannot believe I am the first to think of it, so would someone please explain to me why it would not be workable.
My apologies to Buttonwood for going a bit beyond his topic.
My 17 lb cat objects to the motion.
Gamesmith94134: Sarkozy Prods Regulators
Mr. Sarkozy called for minimum cash deposits for derivatives trades, a central global registry for all commodities trades, and drafting new rules against "market abuse" and World Trade Organization has the best of Inter-agency Task Force on Statistics of International Trade in Services and Inter-agency Task Force on International Merchandise Trade Statistics available.
However, the data does not give the best of control even through the offices of the World Trade Organization; it would depend on the zone like EU or OCED in charge on the anti-trust or Sherman act in similar that oversees on the mergers or purchases. The best controls of on the derivatives trades that even call of minimum cash deposit, because cash deposit is not sufficient for control since commodities and resource trading has a delay process and element in completion of the trade.
If seller and buyer compromise on the deal, then, Zone by EU or OCED might underwrite legislatives in resolving the imbalance through its political power to extend control over its regional resources. Then, the sovereignty nation can purpose the regulator to monitor the transaction or settle on the disputes over the region. The best choice is through the global supervision like World Trade Organization since the Organization can provide a better vision on the both trade and merchandise interactions. And the GATT is part of its control too. This is the best protection on fair trade if the regulators can act properly according to the legislative and apply its duty with free will. The worst scenario is the creation of such gatekeeper by another power broker through the community of commerce that no one would have a specific control over it and each sovereignty nations cannot get its collective bargain from it gatekeeper. Then, gatekeeper turns jailor.
I think Lee A Licata wrote: "I believe a freer economy, with fewer rules, but with rules that make some sense, (like if you buy the commodity, you have to take possession of it, and if you short the commodity, you have to have possession first) is the way to go...."
May the Buddha bless you?
Buttonwood, it wasn't easy credit as much as it was easy PL recognition. Few outsiders seem to realize that PL for complex derivatives is very much like a Max Escher drawing (try "staircase" or "waterfall"). People want to think of ways to make banks to pay smaller bonuses without realising why they paid them in the first place. Many of those big bonuses were paid as a reasonably small percentage of officially declared, 100% audited and perfectly legal profits. It's just that some of those profits were only on paper, and could never be turned into cash, but who cares about that. All you need is a tiny bid or a MarkIT consensus to mark your billion dollar porftolio to "market". If "mark to market" says it's a profit, it is a profit. If it says tomorrow is Sunday, then tomorrow is Sunday. Instead of pushing for true and fair profit recognition, which is the case for the real economy (which a lot more people understand, as compared with the differential equations and dynamic hedging that underpin derivatives pricing theory), people push for transaction taxes and higher capital ratios, and go after the prop desks trading in vanilla instruments. You have a car that is steering in the wrong direction. Reducing the amount of fuel it has is not the best way to keep it from crashing next time.
Cornish Expat - that's an interesting thought, but I can see some major issues arising:
Is your new insurer run as a for-profit company?
Who runs it? You need experts, right? Ex-insurers and bankers? Isn't that a door waiting to revolve?
Having one pot of premiums to ensure against "failure" seems nice, but are you allowed to invest that money? (if so, in what? can the Italian version only invest in Italian Govt Bonds? can you see where I'm heading with this?)
Insuring against "failure" seems too vague. I'm not an insurance expert, but the contracts I've signed for my flat/health/etc are full of tiny tiny print that details in amazing detail when I will and when I won't be able to claim. If you're specifically talking about default risk, then we already have CDS and that is reflected in the interest that banks will pay on their deposits/bonds/liabilities. To a large extent, it's already quite easy to see which banks are "safe" and which ones aren't.
Finally, the slippery slope. Shouldn't other too-big-or-too-important-to-fail industries be forced to follow a similar path? GM had to be rescued after all, and if Rio Tinto or EDF went bust, taxpayers would be justifiably upset at rescuing them, wouldn't they?
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