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Taxing the Street

Perhaps you heard on the Marketplace Morning report this proposal to tax Wall Street transactions. The revenues would go toward deficit reduction and job creation on Main Street. I understand the motivation behind this, but there's a pretty good case against it.

The Hill reports on what Democratic sponsors are calling the "Let Wall Street Pay for the Restoration of Main Street Act of 2009." Catchy pop(ulist) title. Here's the gist:

Under a bill being drafted by Democratic Reps. Peter DeFazio (Ore.) and Ed Perlmutter (Colo.), the sale and purchase of financial instruments such as stocks, options, derivatives and futures would face a 0.25 percent tax...

Half of the $150 billion in tax revenue would go toward reducing the deficit, while the other half would be deposited in a "Job Creation Reserve" to support new jobs.

More from one of the bill's co-sponsors:

DeFazio notes that the United States had a similar tax from 1914 to 1966. The United Kingdom currently has one, he writes, and maintains "the highest volume exchange in Europe." He said the British experience is evidence that such a tax would not push trading overseas.

Opponents believe the bill would push trading overseas. But there are other potential pitfalls. Taxes on trades as opposed to gains hit losing transactions too. The bill "aims to exempt retirement accounts from the impact of the tax," but that sounds tricky. When a similar proposal was floated a few years ago, Matt Welch made this argument about Wall Street's activity:

Yes, it helps lucky or shrewd investors earn money (while making many of their brokers rich), but that's only one side of the equation. The other side is, companies get to raise money to finance their operations for such useful endeavors as ... hiring people...

Whether it's through a day-traded purchase of a brand new dot-com stock, or a 10-year corporate bond in GE, the capital markets allow companies to raise money that would otherwise not be available.

So, it's possible a transaction tax might result in a net loss of jobs. As much as people might like to see Wall Street "controlled" through taxation, it's difficult to pull off without damage elsewhere in the economy.

At Clusterstock, John Carney points out the reality that government stinks at creating reserve funds. The money winds up in the big pot and gets spent:

There is no way to actually have the US government accumulate a financial security surplus. In one way or another, the surplus results in the purchase of government bonds, the purchase of government bonds will generate revenue for the government, and that revenue must be spent.

In the words of humorist P.J. O'Rourke, "Having a government Trust Fund is exactly the same thing as not having a government Trust Fund."

Your thoughts? Do you support a tax on Wall Street transactions?

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I think if done right, this could be a good idea. I say that a typical investor who buys stocks. The largest single trade I've made in the last year or so was about $10,000, so this bill would have taxed that by $25. It's about the same fee I would have had to pay if I did the trade by phone.

I think that they need to do something to discourage short-term horse trading and encourage long-term investment that capitalizes economic growth.

So, I don't think this is such a bad idea. The people who will get hit the hardest are the quantitative trading funds, hedge funds and derivatives traders who do lots of frequent short-term trading. They're not doing very mcuh for the economy. They're basically diverting capital from being invested in new growth and skimming the markets like a casino.

In your example, you would be taxed $50, not $25. This tax is per transaction, not roundtrip, so $25 to buy and $25 to sell. The only way to make this tax sustainable and achieve the objective of reducing high frequency trading while bringing in tax revenues is to lower it to 0.05% or less (that's the figure used right now in the European form of this tax, i.e. Gordan Brown's Tobin Tax). Some of the proposed tax numbers go as low as 0.005% -- huge difference from 0.25%, but much more realistic, but not as realistic as an increase in cap gains tax.

Well, okay, almost. Hopefully I paid less than $10,000 when bought the stock and if I'm luckey I got some dividends in the meantime.

If you make the $50 deductible against the gains, and not applied to dividend reinvestment then where's the big harm?

Like I said, if it's implemented properly it could work.

Let's not forget the fact that once you tax the trader out of business, volume drops, and therefore spreads between the bid and ask widen. So for instance, let's assume you bought 500 shares of stock for $20, the $10,000 transaction you say you did. Chances are, today, if you looked at the bid-ask on this stock, it would be 19.99 bid-20ask. Driving the active traders out of business, and the spread widens, such that it could easily be 19.50bid- 20 ask, or worse. That $.50 change in the bid means that you lose $250 every time you buy or sell, PLUS the transaction tax, PLUS the commission. Oh, by the way, your commissions are going to go up as well when and if this tax is passed, as the brokers attempt to replace their lost revenues.

If you support this bill it will increase costs at every level of society in ways that you and these Socialist Congressmen never dreamed of.

The goal isn't to drive them out of business but it is to reduce the volume somewhat.

The positive effect will be reduce volatility by slowing down the cascade effect that results when lots of giant trading funds' algorithms fall all over each other.

So maybe 0.25% is too high. Make it 0.1% or 0.005% then.

So you want to tax what you feel is non-productive activity and free capital for economic growth?

You would have felt very much at home in the former Soviet Union! Hitler would have loved you like a brother. And Nixon, with his failed "wage and price controls" would have put you on his Christmas list.

First, there is absolutely no lack of capital on the planet for any company that can show promise of putting it to work for a good return. Active trading and investing has created a dynamic and productive capital marketplace. The sins of a few idiots on Wall Street - and mainly in Washington at the SEC - have absolutely nothing to do with private traders. We are very small fish in this pond.

Second, what you propose is social engineering of the worst kind. The admitted goal of this ill-formed plan is to take money from financial transactions to put it to work in a jobs program. In other words, to directly rob Paul to give Peter some lame temporary job that will evaporate when the funds run out, or when Congress decides to move the funds to some other rescue operation.

Third, the profits of private traders and investors are extremely thin. The general public has this ridiculous image of traders living on the beach and driving 911 Turbos to their waiting private jets. Nothing could be farther from reality. The average profits on short term trades are very, very slim. Any transaction tax will stop 80% of ALL trading immediately, resulting in very negative ripples throughout the economy. And for what purpose?

The same objectives as stated in the proposed bill can be accomplished in far more efficient ways that will not cause such a massive disruption of a marketplace that is very important to the nation's economic health.

This is a good place for the debate to start, oh, by the way, what happened to those wall street idiots?

The "wall street idiots" are the OTC derivative traders. It's been proposed that any new transaction tax should solely target OTC derivatives, leaving stock and exchange-traded derivatives out of the equation. Considering OTC is a 600 trillion dollar sector, tax revenues shouldn't be problem. This is certainly more fair to the average American than Defazio's version of the tax.

You say: "The same objectives as stated in the proposed bill can be accomplished in far more efficient ways that will not cause such a massive disruption of a marketplace that is very important to the nation’s economic health."
So tell me how this can be accomplished. And by the way, tell me how Wall Street is important to the nation's economic health - since you have nearly destroyed the economy during the Bush Administration.

I am not on Wall Street. I'm one of many thousands of independent (small time) investors and traders. I'm also a victim of three corporate layoffs in 10 years, each of which was a direct result of the Bush administration's lack of regulatory oversight. (Let us not forget here that ALL of this goes back to George Bush and his cronies at the SEC. Don't be blaming Wall Street for all ills.)

My point, which I thought I made clearly, is that the financial industry extends far beyond Manhattan to all corners of this country. You can't impose a general tax on financial transactions without impacting a very broad segment of the population in ways unimagined.

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