Sand in the Wheels or Wheels in the Sand? Tobin Taxes and Market Crashes

CERGE-EI Working Paper Series No. 511

44 Pages Posted: 30 Mar 2014  

Hynek Lavicka

Czech Technical University

Tomas Lichard

Charles University in Prague - CERGE-EI (Center for Economic Research and Graduate Education - Economics Institute)

Jan Novotny

City University London - Faculty of Finance; Charles University in Prague - CERGE-EI (Center for Economic Research and Graduate Education - Economics Institute)

Date Written: March 1, 2014

Abstract

The recent crisis revived interest in financial transaction taxes (FTTs) as a means to offset negative risk externalities. However, up-to-date academic research does not provide sufficient insights into the effects of transaction taxes on financial markets as the literature has here-to-fore been focused too narrowly on Gaussian variance as a measure of volatility. In this paper, we argue that it is imperative to understand the relationship between price jumps, Gaussian variance, and FTTs. While Gaussian variance is not necessarily a problem in itself, the non-normality of return distribution caused by price jumps affects not only the performance of many risk-hedging algorithms but directly influences the frequency of catastrophic market events. To study the aforementioned relationship, we use an agent-based model of financial markets. Its results show that FTTs may increase the variance while decreasing the impact of price jumps. This result implies that regulators may face a trade-off between overall variance and price jumps when designing optimal tax. However, the results are not robust to the size of the artificial market as non-linearities emerge when the size of the market is increased.

Keywords: price jumps, financial transaction taxes, agent-based modeling, Monte Carlo, volatility

JEL Classification: C15, C16, C61, G17, G18, H23

Suggested Citation

Lavicka, Hynek and Lichard, Tomas and Novotny, Jan, Sand in the Wheels or Wheels in the Sand? Tobin Taxes and Market Crashes (March 1, 2014). CERGE-EI Working Paper Series No. 511. Available at SSRN: https://ssrn.com/abstract=2417616 or http://dx.doi.org/10.2139/ssrn.2417616

Hynek Lavicka (Contact Author)

Czech Technical University ( email )

Zikova 1903/4 166 36 Praha 6
Prague
Czech Republic

Tomas Lichard

Charles University in Prague - CERGE-EI (Center for Economic Research and Graduate Education - Economics Institute) ( email )

P.O. Box 882
7 Politickych veznu
Prague 1, 111 21
Czech Republic

HOME PAGE: http://www.cerge-ei.cz

Jan Novotny

City University London - Faculty of Finance ( email )

London, EC2Y 8HB
Great Britain

Charles University in Prague - CERGE-EI (Center for Economic Research and Graduate Education - Economics Institute) ( email )

P.O. Box 882
7 Politickych veznu
Prague 1, 111 21
Czech Republic

HOME PAGE: http://www.cerge-ei.cz

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