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Monday, June 23, 2008

Is a Financial Transactions Tax the Answer?

Dean Baker says a financial transactions tax has attractive properties:

Bloodletting on Wall Street, by Dean Baker: There were two noteworthy episodes last week in the ... the housing market meltdown. First, the New York Times ... found that the Wall Street banks had already written down ... almost half of their profits in their boom years from 2004 through the first half of 2007.

The other big item was that two Bear Stearns hedge fund managers were marched off to jail, charged with fraud and other related offences. ...

This raises many questions...

First, since so much of bank profits were illusory, the story about profits in the economy is somewhat different than we had thought. There really was no profit boom in this decade. ... This means that the upward redistribution that prevented most workers from getting much benefit from productivity growth over the last decade went exclusively to high-end workers, not corporate profits. ...

Wall Street's vanishing profit syndrome tells us much about the current ... relationship between stockholders and top executives.

Remember, the business ideology of the last quarter century... Everything must be done to maximise shareholder value. If this means massive layoffs or shutting factories that had supported a local economy for decades, so be it.

However, we have just seen the top managers of many major Wall Street banks take their shareholders for a huge ride. ...

[T]op executives have managed to wrest control of companies away from shareholders so that they can earn huge compensation packages regardless of their performance. This is an economy-wide problem. ...

However, the problem is worst on Wall Street. The compensation is higher and the performance is poorer. Furthermore, ... the failings of the Wall Street crew are likely to have greater economy-wide ramifications than ineptitude in most other sectors.

There are no easy remedies... Clearly we need a new regulatory structure... But with the Wall Street crew completely dominating the debate over regulation, we have little reason to hope for serious reform.

In the absence of a major regulator overhaul, there is one simple measure that would at least ensure that the public gets a cut of the action. A modest financial transactions tax could easily raise an amount equal to 1% of GDP, or $150bn a year at present. This is ... enough to finance a 10% across-the-board reduction in the income tax.

A tax of 0.25% on a stock trade or 0.02% on the purchase of credit default swap will have no measurable impact on productive financial transactions, but will likely put a serious dent in speculative activity. For this reason, it is a win-win-win proposition. It reduces speculation, it takes a big bite out of Wall Street revenue and profits and it raises a bucket of money. ...

I don't know. Not all speculation is bad, far from it - bubbles aren't that common - so I'm not sure stifling all speculation as opposed to a more targeted approach is best, or perhaps even better using an approach that reestablishes the authority of shareholders over management (see Dew-Becker and Gordon on this point, "we believe that better disclosure and better laws regarding corporate governance can help deal with high CEO pay").

    Posted by on Monday, June 23, 2008 at 04:23 PM in Economics, Financial System, Market Failure, Regulation | Permalink  TrackBack (1)  Comments (26)


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