Financial transaction taxes
A financial transactions tax (FTT) can be used to shift the incentives financial firms face when deciding on their trading strategies. In particular, such taxes can disincentivise high-frequency trading, which is associated with rising volatility in financial markets.
FTTs can also generate significant revenue. At least forty countries already have taxes on financial transactions of one kind or another, including the UK where stamp duty acts as a form of FTT on trading in equities. It was estimated in 2017 that a modest extension of a FTT in the UK could raise an estimated £23.5 billion over the course of a Parliament.
Financier Avinash Persaud proposes a financial transactions tax for the UK, extending the current stamp duty on shares.
The Brookings Institute assesses proposals for the introduction of a FTT tax in the US, noting that it would be overwhelmingly paid by the most well off in society. The Institute on Taxation and Economic Policy argues that FTTs can curb inequality, improve markets, and raise “hundreds of billions of dollars” over a decade.
The kinds of FTT used in different jurisdictions are explored in this report by BNY Mellon.
Currency transaction tax
The principle of financial transactions taxes can also be applied to currency trading. Currency transactions taxes (CTTs) act to slow down currency transactions by raising their cost, thus reducing volatility. This makes them effectively a form of capital control – a tool that can be used to help regulate the flow of money into and out of economies.
As Covid-19 unfolded many countries faced significant capital outflows, strengthening arguments for using CTTs as a partial response, particularly for emerging markets.
The International Monetary Fund’s series of recent papers marks a softening in its position on capital controls, advocating their use in certain circumstances. One of the tools they cautiously recommend using is currency taxes.
IPPR calls for the introduction of a currency transaction tax. It suggest thats the tax starts low and rises over time, with an additional rate levied for 'speculative' large capital outflows. Its report notes that such a tax could be introduced unilaterally but would be more effective if internationally coordinated.
Taxes on bank profits
Policymakers can also introduce less targeted financial taxes such as bank levies, which can help to curb systemic risk and ensure that the taxpayer benefits from the rewards of financial risk-taking rather than simply bearing the costs.
The UK introduced both a corporation tax surcharge for banks and a bank levy in the wake of the financial crisis of 2008. This was levied on the global balance sheets of large banks operating in the UK, but the revenue generated by the tax has fallen since the financial crisis in part due to changes to its structure introduced in 2016.
Sheffield Political Economy Research Institute assesses the effectiveness of the bank levy and the corporation tax surcharge, and the impact of subsequent changes to these taxes. It warns that the tax now appears to hit smaller and challenger banks more than global banks, and that those that contributed the most to the 2008 crash are not bearing the highest cost.
Michael Devereux, Niels Johannesen and John Vella of the Saïd Business School assess the effectiveness of bank levies across Europe, arguing that while they did reduce risk, they had less of an impact on systemically important financial institutions.