Martin Wolf: Hopes in Tobin Tax 'misplaced.'

The Financial Times: Wednesday 20th March 2002

According to Martin Wolf, the proposed levy on currency trading, the so-called 'Tobin Tax' may be feasible but represents an erroneous attempt to help the world's poor. James Tobin's plan to slow foreign currency speculation, first announced thirty years ago, came to life in the 1990s. The plan has two elements: a modest turnover tax on foreign currency transactions, and the use of the proceeds by some international body for worthy global goods. 

Three questions

Martin Wolf asks three questions. Is it feasible? Is it desirable economically? Is it desirable fiscally, as a means of increasing development income? For him, the merits of the tax and the use of the proceeds must be treated as distinct issues. He concludes that the tax may well be feasible, and would certainly raise some money. But whether it would stabilise exchange rates among advanced countries is uncertain. It would not prevent currency and financial crises; it would not guarantee fixed exchange rates; and it would not obviate the need to make an effective case for development assistance, nor create a global fiscal regime. 

He concludes that it is a misguided campaign; the two goals, of reducing big financial crises and increasing development finance are worthy goals, but that these two birds should be killed with two better-targeted stones.

Feasibility: It would seem possible for a tax to be imposed even if all significant jurisdictions did not concur. Any such transaction, by definition, involves two different currencies. One could, if one wished, tax dollar/euro transactions only at the European end. It is feasible and it would be possible to tax foreign currency transactions of many kinds, including this one, through the payment system. The technology and institutions now in place make it possible. Payment systems always involve a limited number of money-centre banks with close relations to their central banks. These institutions cannot take themselves offshore, wherever they may attempt to locate their deals. In essence, central banks could become tax collectors.

Economic Desirability: For Martin Wolf, the that 'the nature of speculation is destabilising' is pure nonsense. For him, speculation is essential to efficient markets. The argument, he says, is more complex. Because the tax is on turnover, it bears more heavily on short-term trades than longer-term ones. The results argue proponents eliminate the least worthwhile short-term element in the turnover market, estimated recently at £1,200 bn/day.

For him, therefore, it does not follow that the tax would make markets less vulnerable. He concedes that the tax might stabilise exchange rates amongst the advanced countries, though points out that it would reduce liquidity. More fundamentally, short-term trading exploits very small arbitrage opportunities. These do not drive the big misalignments that most worry critics. The defect, he points out, is the absence of long-term speculation against market trends. Such a tax would also fail to save fixed exchange rates from collapse - a tiny transactions cost is irrelevant when there is a significant chance of a 10% devaluation tomorrow. The most the tax would do is modestly increase the room for manoeuvre of monetary policy. Nor would a Tobin Tax have prevented the distress caused by financial crises in developing countries - more relevant would be measures to limit the accumulation of short-term foreign currency liabilities in the context of pegged currency regimes. Indeed, a German economist (Paul Bernd Spahn), aware of the ineffectiveness of the Tobin tax during a currency crisis, has suggested the imposition of prohibitive taxes when currencies reach the limits of agreed target zones. This is a different proposal - and only makes sense if currency stability is important at almost any cost.

Financing Development - Firstly, Wolf argues, this link is not natural - the money comes mainly from transactions in advanced countries. The idea that the link will work politically because the tax is in some way painless is absurd. This particular 'stealth tax' is unlikely to persuade rich countries to transfer vastly more revenue for development than they now choose to do. If they did agree a tax on transactions, it is overwhelmingly likely that they would use it for their own high priority purposes. Taxation demands a shared and legitimate political process. This does not exist at the global level and cannot be wished into being by inventing a particular tax. If advocates want a global tax, they must argue for that principle directly.

For the full text of Wolf's article, see 

http://globalarchive.ft.com/globalarchive/article.html?id=020320002356&query=Tobin+Tax