Transaction Taxes and Financial Market Equilibrium

Posted: 30 Nov 1995

See all articles by Avanidhar Subrahmanyam

Avanidhar Subrahmanyam

University of California, Los Angeles (UCLA) - Finance Area; Institute of Global Finance, UNSW Business School; Financial Research Network (FIRN)

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Date Written: Undated

Abstract

We explore the effects of transaction taxes in financial markets with asymmetric information. We show that transaction taxes cause competing informed traders to scale back their aggregate trading towards the quantity traded by a monopolist informed trader. Surprisingly, this causes both market liquidity and informed investor profits to decline in the level of the transaction tax. We also analyze the effect of a transaction tax on the welfare of risk averse, informed hedgers. In the context of a dynamic, competitive model in which agents expend scarce resources to influence early receipt of an information signal, we find that transaction taxes generally cause the proportion of informed agents who choose to acquire information early to decline. Thus, our analysis suggests that transaction taxes can have the beneficial effect of reducing wasteful rent seeking in the "race" to obtain information early. We also show that transaction taxes can reduce (increase) the equilibrium proportion of agents who are short-term (long-term) oriented in their information acquisition decisions, and thus can enhance long-term informational efficiency and resource allocation.

JEL Classification: G1, G2, D8, K2

Suggested Citation

Subrahmanyam, Avanidhar, Transaction Taxes and Financial Market Equilibrium (Undated). Available at SSRN: https://ssrn.com/abstract=6979

Avanidhar Subrahmanyam (Contact Author)

University of California, Los Angeles (UCLA) - Finance Area ( email )

Los Angeles, CA 90095-1481
United States
310-825-5355 (Phone)
310-206-5455 (Fax)

Institute of Global Finance, UNSW Business School

Sydney, NSW 2052
Australia

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

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