Why Brown is wrong about a Tobin tax
IT is hard to know what Gordon Brown was thinking when he called for a Tobin tax on financial transactions at the weekend. More so than any other large nation, Britain is dependent on finance for its prosperity; Brown’s task should be to try and fix the system to make sure there is no repeat of last year’s catastrophe.
Instead, he wants to impose a new tax that would decimate London’s financial services industry while doing absolutely nothing to avoid another bubble.
His main claim – that such a tax would enable us to recoup taxpayers’ money spent on the current crisis – simply doesn’t stack up.
There is a perfectly sensible argument to be made that banks should be forced to pay a fee to purchase bail-out insurance from the government to fund the cost of any future crisis. One way of doing this would be to calculate the premium as a share of a bank’s balance sheet. I don’t think that would be an especially good idea – the insurance would allow the banks to relax again, injecting further moral hazard into the system and thus continuing to promote excessive risk-taking. We shouldn’t institutionalise bailouts; rather, we should change incentives to try and make sure that banks never need a handout again.
It would be better to force the banks to stand entirely on their own two feet and to introduce new bankruptcy procedures to ensure failed institutions can be wound down in a gentle, controlled manner. At the same time, banks should be forced to hold more capital to make sure that they would be able to survive another recession; that would be the best insurance policy of all, for taxpayers and investors alike. Perhaps most important of all, monetary policy should be changed to make sure that the authorities monitor the money supply and asset prices – and do their very best to nip fresh bubbles in the bud.
But even if you support the idea of an insurance fee, Brown’s Tobin tax would be a stupid and unfair way to go about it. I recommend our excellent analysis on p17 of why the Tobin tax is based on profound intellectual errors; but here are a few extra thoughts. For a start, assuming it were possible to devise a tax that was actually workable, everybody involved in buying, selling or trading securities and other financial assets would be affected, not just the banks. Yet none of the thousands of smaller players – fund managers, investment houses and the like – who would be hit by the tax have been bailed out. They would be paying for something they were not responsible for, which would be deeply unjust.
A Tobin tax would also make hedging more expensive and thus increase, rather than reduce, risk throughout the economy. It would also reduce liquidity in the markets and make the price discovery mechanism less efficient. Financial markets aren’t always right, especially when they are corrupted by cheap money injected by central bankers. In fact, they are very often wrong – but on average less so than central planners or anybody else trying to direct the allocation of resources in an economy. Market prices reflect all of the available information, as well as the combined beliefs of thousands.
It is silly, therefore, for governments to try and impose the “right” amount of trading, which is what proponents of Tobin taxes really want. Believe it or not, but speculation is not only good for London, it is good for the global economy too. Shame Brown doesn’t see that.