Given the scale of Europe’s economic crisis, you’d think Europe’s political leaders would be laser-focused on resolving the deeper causes of the debt challenges facing Greece, Spain, and Italy. But, alas, no. For amidst the drama threatening the single currency’s viability, prominent German politicians from the Right and Left last week joined the chorus of European leaders calling for the immediate implementation of something that has long been a hobby-horse of globalization skeptics: an EU-wide financial-transactions tax.
The basic idea (formally presented by the European Commission back in 2011) is to levy a tax on any transaction on financial instruments (securities, loans, deposits, derivatives, and various asset classes) between banks, hedge funds, insurance businesses, investment companies, and other financial organizations whenever one contracting party is located in the EU. Exchanges of shares and bonds would be taxed at a rate of 0.1 percent. Derivative contracts would incur a 0.01 percent rate.
Such levels don’t sound like much — until one realizes these taxes would apply to every such exchange; there are literally millions every day. Over time, the costs would add up. And, like all business taxes, the costs would be passed on to investors and consumers.
The tax’s ostensive goals are twofold: first, to make Europe’s financial sector contribute to paying the costs of a financial crisis which it allegedly helped precipitate; and, second, to introduce a European-wide “minimum tax rate” on financial transactions. That plays into realizing a long-cherished dream of EU apparatchiks: the elimination of tax competition within the EU.
This particular suggestion has put Britain at odds with most other EU nations — so much so that Prime Minister David Cameron has even threatened to veto the proposal. Quite understandably, Perfidious Albion isn’t keen to abandon its competitive edge over most continental European countries in the global financial industry. Because as everyone knows, whenever EU politicians talk about harmonizing tax rates on anything, they always mean harmonizing taxes upward rather than lowering them.
Then there are the admitted negative effects of financial-transaction taxes on wealth creation, an indispensable part of the solution to Europe’s debt problems. Even the European Commission concedes such a tax would likely have a negative impact on long-term growth, not least because it would increase the price of capital. But no matter, they say. It’s more important to reduce the potential for sudden, volatile capital movements that can turn market corrections into financial meltdowns.
In short, the EU’s transactions-tax scheme reflects a long-standing desire to “throw sand” in the wheels of financial globalization. Its origins lie in what’s called the “Tobin tax,” named after the American economist James Tobin, who argued in 1972 for the levying of a 0.5 percent tax on all spot-currency conversions. The point, for Tobin, was to discourage “speculators” who “invest their money in foreign exchange on a very short-term basis.”
Unfortunately for its advocates, there’s considerable evidence that Tobin-like taxes on financial transactions don’t reduce volatility. In the midst of financial crises, long-term and short-term investors behave in very much the same way — they get out, and transaction taxes don’t prevent them from abandoning ship. Greece, for example, currently applies a transaction tax to the sale of Greek-listed shares. That, however, isn’t doing much to prevent the present exodus of capital from Greece.
Taking the broader view, it’s hard to avoid concluding this latest EU harmonization boondoggle is about two things. First, it’s a way for EU officials and governments to appear to be punishing European financial institutions for their contributions to Europe’s economic crisis.
Second, it reflects the general European failure to come to grips with some of the deeper problems contributing to Europe’s debt crisis. Greece’s problems, for instance, have little to do with Greek banks per se. Among other things, Greece’s debt predicament flows from endemic political corruption, a bloated public sector, rampant tax evasion, and the falsification of statistics back in the early 2000s in order to accelerate Greece’s entry into the euro zone.
If Europe’s political masters were serious about reducing the risk of future financial crises, they would pay less attention to transaction taxes and instead focus upon how to minimize the systematic problems associated with moral hazard: i.e., the implicit guarantee that if banks and many other financial institutions take on excessive risk and fail, governments will bail them out.
No one denies that many European and American financial houses did silly things in the 2000s. But equally, if not more, destructive was the working assumption that financial stability would require the state to save them if they got into trouble. As a result, much of Europe’s financial landscape is presently littered with zombie banks. These essentially function as mechanisms for infusions of public money into the economy, rather than as private institutions focused upon efficiently allocating risk and private capital and whose long-term viability depends upon their ability to make a profit in the process.
All this, however, is besides the point in a continent in which the political class apparently believes that you simply can’t have enough taxes, no matter how high or counterproductive they may be. But as one European once remarked, “For a nation to tax itself into prosperity is like a man standing in a bucket and trying to lift himself up by the handle.” It’s a pity that contemporary European politicians don’t read more Churchill. They might learn something.
This column first appeared on National Review Online.