A Financial Transactions Tax: Inefficient or Needed Systemic Reform?

Abstract

The European Commission has included a Eurozone financial transaction tax in its longterm budget, as a first step towards a global tax. This move was taken despite negative European Commission and International Monetary Fund staff reports, which concluded that a tax would reduce the efficiency of capital markets, and raise the cost of capital. The efficiency frameworks used in the staff reviews were unduly narrow. Markets work best when there are strong links between market trading and real economic activity. Of late, these links have become increasingly tenuous and latent market and financial system risks are mounting. Carefully calibrated legal and tax responses are required to change market behaviour. Such a tax as part of an integrated policy framework would reduce short-term momentum trading and promote longer-term investment that would better reflect underlying economic fundamentals. So we argue the European Commission is correct in proposing to adopt such a tax.