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Published on March 28th, 2012 | by Katharina Obermeier
Image © [caption id="" align="alignnone" width="565" caption="The European Commission is proposing an EU-wide financial transaction tax  © barbiez"][/caption]   For decades, the concept of an international financial transaction tax (FTT) was purely a subject for political economy textbooks and abstract academic discussion in university lecture halls. While some countries (including the UK) have a system in place to tax certain types of financial activities, they are limited to transactions taking place in the country in question, thereby failing to capture the high levels of trading in financial derivatives on an international level. Suggestions by economists and others that a global tax be imposed on financial transactions occurring anywhere in the world were readily dismissed as politically unfeasible. Until the crisis struck. Now, as politicians and citizens around the globe are feeling the medium-term effects of the sub-prime mortgage crisis in the US and the eurozone crisis in Europe, an international FTT is suddenly looking much more appealing. Outrage over the role private financial institutions like hedge funds and banks played in the escalation of the crisis is leading civil society groups to demand that the financial sector pay its fair share of the societal costs. Politicians keen to regulate – or in any case to be seen regulating – financial markets and prevent further crises are finding that the concept of an international FTT could help address many of the problems they are trying to solve. One of these problems is, of course, the excessive risk taken by many players in financial markets due to the low costs of transactions and comparatively insignificant repercussions, which has been identified as one of the key factors in the sub-prime mortgage crisis. If it covers a broad range of financial products and derivatives (and is carefully designed to anticipate future developments in financial innovation), an FTT could help reduce overly risky behaviour in the sector by making it more expensive for financial institutions to engage in these types of transactions, while still allowing capital to be shifted to better, more efficient uses. An FTT is also an easy way of taxing a sector which is exempt from more conventional forms of taxation such as the VAT. Through an FTT, governments could correct this favourable treatment and simultaneously raise substantial amounts of additional tax revenue to use for public goods. Of course, one would assume that the financial institutions themselves would not be happy with this kind of situation, and the main argument that has always been brought against the introduction of an FTT is that financial activities will simply be relocated to a more tax-friendly environment, driving business away from the country which imposes the tax. This is where the proposal put forward by the European Commission for an EU-wide FTT comes in. The Commission is suggesting imposing a tax on all financial transactions (excluding currency transactions, though not currency derivatives) between financial institutions, as long as one of the parties involved is considered resident of an EU member state. Having the tax apply to such a large group of countries with well-established financial sectors, and making it dependent on residency of the parties rather than where the transaction took place, would greatly reduce the likelihood of relocation, as it would be considerably more difficult for companies to move their place of residency than simply the location of their financial trading. Perhaps most interestingly, the Commission’s proposal would see part of the revenues from the FTT go directly to the EU, thereby displacing significant parts of member states’ contributions to the organisation. While polls from last year show that 65% of Europeans support a financial transactions tax, some member states, notably the UK and Sweden, remain unconvinced by this argument, fearing that an FTT at EU level would reduce economic growth by hampering opportunities for the financial sector. In the end, opposition at national level will likely kill, or at least postpone, an EU-wide FTT. However, no matter what happens, the fact remains that the financial crisis has brought the concept of an international financial transactions tax out of academic obscurity and into the realm of serious political discussion. And indirectly, it has also introduced European citizens and governments to the idea that one day, the EU may begin financing itself.

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Is Europe Ready for an International Financial Transaction Tax?

The European Commission is proposing an EU-wide financial transaction tax © barbiez

 

For decades, the concept of an international financial transaction tax (FTT) was purely a subject for political economy textbooks and abstract academic discussion in university lecture halls. While some countries (including the UK) have a system in place to tax certain types of financial activities, they are limited to transactions taking place in the country in question, thereby failing to capture the high levels of trading in financial derivatives on an international level. Suggestions by economists and others that a global tax be imposed on financial transactions occurring anywhere in the world were readily dismissed as politically unfeasible. Until the crisis struck.

Now, as politicians and citizens around the globe are feeling the medium-term effects of the sub-prime mortgage crisis in the US and the eurozone crisis in Europe, an international FTT is suddenly looking much more appealing. Outrage over the role private financial institutions like hedge funds and banks played in the escalation of the crisis is leading civil society groups to demand that the financial sector pay its fair share of the societal costs. Politicians keen to regulate – or in any case to be seen regulating – financial markets and prevent further crises are finding that the concept of an international FTT could help address many of the problems they are trying to solve.

One of these problems is, of course, the excessive risk taken by many players in financial markets due to the low costs of transactions and comparatively insignificant repercussions, which has been identified as one of the key factors in the sub-prime mortgage crisis. If it covers a broad range of financial products and derivatives (and is carefully designed to anticipate future developments in financial innovation), an FTT could help reduce overly risky behaviour in the sector by making it more expensive for financial institutions to engage in these types of transactions, while still allowing capital to be shifted to better, more efficient uses. An FTT is also an easy way of taxing a sector which is exempt from more conventional forms of taxation such as the VAT. Through an FTT, governments could correct this favourable treatment and simultaneously raise substantial amounts of additional tax revenue to use for public goods.

Of course, one would assume that the financial institutions themselves would not be happy with this kind of situation, and the main argument that has always been brought against the introduction of an FTT is that financial activities will simply be relocated to a more tax-friendly environment, driving business away from the country which imposes the tax. This is where the proposal put forward by the European Commission for an EU-wide FTT comes in.

The Commission is suggesting imposing a tax on all financial transactions (excluding currency transactions, though not currency derivatives) between financial institutions, as long as one of the parties involved is considered resident of an EU member state. Having the tax apply to such a large group of countries with well-established financial sectors, and making it dependent on residency of the parties rather than where the transaction took place, would greatly reduce the likelihood of relocation, as it would be considerably more difficult for companies to move their place of residency than simply the location of their financial trading. Perhaps most interestingly, the Commission’s proposal would see part of the revenues from the FTT go directly to the EU, thereby displacing significant parts of member states’ contributions to the organisation.

While polls from last year show that 65% of Europeans support a financial transactions tax, some member states, notably the UK and Sweden, remain unconvinced by this argument, fearing that an FTT at EU level would reduce economic growth by hampering opportunities for the financial sector. In the end, opposition at national level will likely kill, or at least postpone, an EU-wide FTT. However, no matter what happens, the fact remains that the financial crisis has brought the concept of an international financial transactions tax out of academic obscurity and into the realm of serious political discussion. And indirectly, it has also introduced European citizens and governments to the idea that one day, the EU may begin financing itself.

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About the Author

Katharina Obermeier

Katharina considers herself a German-Canadian hybrid. She grew up in Germany and completed her BA in International Relations at the University of British Columbia in Vancouver, Canada. Politics, especially in relation to concepts of nationality, have always fascinated her, and she is particularly interested in international political economy. During her studies, she was an avid participant at Model United Nations conferences, and helped welcome international exchange students to her university. She is currently completing an internship at a Brussels-based trade association and hopes to work in European affairs in the future. In her political writing, Katharina marries social democratic principles with a keen interest in the European Union and its implications for European politics and identity. She writes to counteract simplistic ideas about politics and economics, continuously attempting to expose the nuances and complexities involved in these subjects.



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