The economic rationale behind the Tobin tax
Since the end of the dollar/gold parity in 1971 and the liberalisation of the currency market, the volume of monetary transactions has increased 83 fold. According to the Bank for International Settlements (BIS), from 1986 to 1999 the transaction volume on the currency market has gone from an average of 200 billion dollars/day to 1800-2000 billion dollars/day. As a means of comparison, the total yearly exchange of goods and services is valued at 4,300 billion dollars. More than 40% of these selling and buying transactions are concluded within a three-day cycle and 80% within a week or less (Desir/Ford 2000).
A growing chorus of critics have drawn a connection between the recent string of currency crises and the frenetic activity taking place in the foreign exchange market. These crises have disproportionately affected the most vulnerable in those societies and the impact of financial crises on the real economy is far larger in developing and transition economies than in developed market economies. Profitability for profitabilitys sake has become the golden rule in the system where the gap between the wealthiest 5% and the poorest 5% in the world, which was 30 to 1 in 1960, is now 74 to 1, and the gap continues to grow (UNDP World Development Report 1998).
The current global financial practices allow those who benefit the most from taking risks on the speculative markets to bear very little responsibility when their gambles go wrong. Conversely, it would appear that those who suffer the most from sudden movements of capital are those who had the least involvement in producing the crisis. Doesnt this principle of individualised profits, socialised risks render our current financial practices unjust? With reference to Rawls classic article Justice as Fairness (1958), we can define justice as both fairness and as a commitment to reduce powerlessness and vulnerability. With this defintion in mind, there would seem to be two straightforward implications in our globalised world. Firstly, that increased regulation of the market is necessary in order to reduce the disparity in power and vulnerability. Secondly, that effort must be made to lessen economic and political inequality.
The installation of a global currency transaction tax, or Tobin tax, would serve these purposes.
What is the Tobin tax?
Following the abolition in 1971 of the system of fixed exchange rates, it became clear that the fluctuation in exchange rates could be explained not only by the interaction of economic fundamentals, but also by transactions of a purely speculative nature. In 1972, Nobel Laureate James Tobin proposed a tax on international currency transactions in order to stabilise exchange rates and reduce the impact of short term speculation. Tobin was directly inspired by Keynes. Just as Keynes recommended that a price should be paid for access to the stock exchange, Tobin proposed that currency speculation should also carry a charge, analogous to a casino entrance fee. The basic idea is very simple. A small tax (anywhere between 0.1% and 1%) would be levied on each leg of a speculative round trip, that is, both on buying and selling a foreign currency.
The tax would have a filter and a stabilising effect on the currency markets. Exchange rates are subject to the double influence of both the productive and the financial economies and it is difficult to measure the effects of each of these on each other or on fluctuations in the exchange rate. The whole point of the Tobin tax is that it would nevertheless have very different effects on the profitability of these two spheres. The longer the investment horizon, the smaller the effect of the tax would be. This is called the degressive structure of the tax (Wahl/Waldow 2001), which permits currency transactions taking place in the real economy not to be hindered. However, the Tobin tax would have an immediate impact on short term speculation, for example, on day traders who have a decision making horizon of only a few hours (see Table 1). This is the filter effect of the tax whereby undesired hot money is held back, but liquidity needed for the real economy can pass through (Wahl/Waldow 2001:8).
Once the excess liquidity produced by short term transactions has been reduced, exchange rate volatility will inevitably reduce. This is called the stabilising effect of the tax. It is important to stress though, that the Tobin tax is not designed to prevent all speculation or crises, but to make them less likely. In a crisis it is necessary to resort to drastic measures and for that reason the proponents of the tax argue that it must be one of a combination of regulatory instruments.
Table 1: Simple annualised effective Tobin tax rates for differing turn-around periods, assuming constant exchange rates
Nominal Tax rate (%) Effective Tax rate (annual %)
1 day/ trading day* 1 week 1 month 3 months 1 year 10 years
0.01 7.3/4.8 1.04 0.24 0.08 0.02 0.002
0.05 36.5/24.0 5.2 1.2 0.4 0.1 0.01
0.1 73/48.0 10.4 2.4 0.8 0.2 0.02
0.15 109.5/72.0 15.6 3.6 1.2 0.3 0.03
0.2 148/96.0 20.8 4.8 1.6 0.4 0.04
0.25 182.5/120.0 26.0 6.0 2.0 0.5 0.05
0.5 365/240 52.0 12.0 4.0 1.0 0.1
1.0 730/480 104.0 24.0 8.0 2.0 0.2
* As formulated by Tobin, the annualised rate was calculated on the basis of what a round-trip would cost if carried out every day, on the basis of 240 trading days in the year (source: Patterson/Galliano 1998).
TheTax as a Revenue Raiser
The tax would inevitably lead to a revenue and thus two goals are achieved with one instrument: regulation and providing new funds. How much revenue would be generated can only be estimated, as one of the expected effects of the tax is a decrease in the volume of transactions, which cannot be calculated accurately. Nevertheless, Felix (1995) has made some back of the envelope calculations (Table 2).
Table 2: Estimated revenues from a Tobin Tax
Taxable foreign exchange Annual Tax receipts ($10 9)
1% tax rate 0.5% tax rate
$1 trillion x 240 trading days = $240 trillion 720 360
Less 20% tax exemptions = $192 trillion
Less 20% evasion = $144 trillion
Less 50% reduction of trading volume
= $72 trillion effective tax base
Source: "The Tobin Tax Proposal", David Felix, 1995 in Patterson/Galliano 1998.
There are many suggestions regarding distribution. Some suggest that 50% of the revenue should remain with the collecting government and the rest is distributed to multilateral organisations. Indian Prime Minister Vajpayee suggests that the money should be accredited to a Global Poverty Alleviation Fund (Wahl/Waldow 2001). Patomaki (2001) proposes that the OECD countries retain 30% of the revenues they collect and other countries retain 60%. He asserts that this is substantial enough to compensate for administrative costs and to create incentives to join, as well as addressing the conventional notion of justice.
The question of whether it would be necessary to establish a Tobin Tax Organisation or to use an existing body to implement the tax is also quite contentious. Some commentators, eg. Tobin, indicate the advantages of using an existing international body, such as the IMF, where decision-making procedures and rules are already in place. However,the challenge in persuading the G8, particularly the USA, to accept the loss of influence consequent on these organisations gaining greater independent income would be huge. Another danger is that of granting extra funds to the financial institutions, notably the IMF, without any progress towards democratic governance.
Popularity of the Tobin tax: The international campaign
Support for the tax is growing rapidly. This is not surprising given the perceived impact of the financial markets on national economic conditions. Even in the relatively rich countries of the OECD, 37 million people are unemployed and the global poor are now as or more poor than they were in 1820 (UNDP World Development Report1999). The campaign for a Tobin tax is, for many, a challenge to the prevailing economic paradigm that allows the financial markets to aggravate global disparities.
A large number of NGOs, associations, local groups and charitable organisations are involved in the international campaign, spear-headed by the ATTAC network, and the Tobin Tax Initiative in the United States. Other important campaigning groups include the Halifax Initiative (Canada), War on Want and Oxfam (UK), and CIDSE, a coalition of Catholic development agencies. The ATTAC network now has bases in many countries from Argentina to Ireland, Norway to Senegal. The international nature of this campaign is very important as it shows that even in countries such as the US and the UK, where government and the financial sector fiercely oppose the tax, there are forces pressing for change. Despite the yet unbroken phalanx of opponents, political support for the tax is rising steadily.
Political support for the Tobin tax
Although support for the tax is increasing on a global scale, it is within the EU that the most consistent and united progress has been made.
The German Green Party called for the Tobin tax in a 1997 legislative initiative. The Finnish government has officially taken a position in favour of the Tobin tax. Under the initiative of ATTAC. Parliamentary working groups for the promotion of the tax have been created in France, Belgium and Italy. In the UK over 110 MPs support the tax, which has been subject to debate in the Commons. The tax also has the broader support of the Liberal Democrats, the Greens, Plaid Cymru (Wales) and the SDLP (Scotland).
An intergroup of over 90 MEPs initiated a debate requesting that the European Commission produce, within 6 months, a study on the feasibility and interest of such a tax. The resolution won the support of 220 members of the EP but was defeated by 6 votes (Desir/Ford 2000).
The Possibility of a European Tobin Tax Zone (TTZ)
This year, twelve countries, including Germany, France, Italy and Spain, with a combined $ 6 US trillion economy, are participating in the single currency. The new euro is likely to be among the strongest currencies in the world and possibly the second most important reserve currency after the US dollar. These European Monetary Union (EMU) countries could form the core of the Tobin tax regime. Politically, as Patomaki (2001: 185) states, EMU seems to institutionalise the principles of neo-liberalism and the Washington consensus in Europe. Yet, most European countries have not initiated the liberalisation of capital movements; rather, their governments have often felt compelled to liberalise, even against their original intentions and will. In many cases, alternatives have been actively searched for. Furthermore, Europe as a whole represents a critical mass in market terms that should allow Europe to be a Tobin zone. The implementation of a Euro-TTZ could also be a real opportunity to address the deeply lodged democratic deficit of the EU. The European arena continues to be largely the domain of self-selecting commercial and political elites with civil society given a very small voice. The implementation of the Tobin tax would put civil society in the driving seat and as such would be a primary source of democratic innovation.
The major share of all foreign exchange (forex) turnovers consists in dollar-euro tradings. The BIS assumes in its annual report that at the start of EMU, the euro was being used in about 50% of all forex transactions. In the long run, the share of the euro will probably rise. If half of all forex tradings is subject to the Tobin tax, because the euro is involved, then its effectiveness would not be negligible.
The Tobin tax is a concrete suggestion to begin acting against the domination of financial markets over the real economy and to redistribute wealth on a worldwide scale before the financial pirates have appropriated all the worlds wealth (Canadian Greens). The Tobin tax runs counter to present political trends by taxing those wealth brackets currently being given tax reductions by all the OECD governments. The apparent paucity of convincing counter-arguments to the tax is proof that the real and only hindrance is the lack of political will to democratise globalisation. However, as Patomaki (2000a: 89) states: The time is ripe for an open-ended, contingent global political history to begin.