The issue of an EU-wide financial transactions (aka Robin Hood) tax and Ireland’s potential participation (or lack of) has been in the news again recently. A tax of 0.1% on shares and bonds and a tax of 0.01% on derivatives has been proposed by the Commission. The goal of the tax is to raise revenue for the EU thus reducing member states’ contributions and to reduce speculation. The idea is that a small tax will eliminate much short-term, speculative activity without harming long-term, real investment which tends to have higher profit margins.
Would this be so bad? The government and Minister Noonan have been arguing that participation by Ireland without the UK would jeopardise Irish jobs and the economy.
Given the highly mobile nature of financial capital, it is argued, imposition of the tax by Ireland, but not the UK, would lead to a migration of capital, en masse, from Dublin to London. However, given that Ireland already levies a 1% stamp duty tax on shares traded while the UK imposes a 0.5% tax, the notion that any differential tax rate on financial capital leads to a massive flow of funds is questionable to say the least. How about other transactions? The table below is based on Pollin (2005).
As is clear, not only are there taxes on a whole array of different types of transactions (including derivatives), large differences in levied taxes exist across countries seemingly without detrimental impact on their respective financial sectors. Further, it’s difficult to argue that the tax won’t work in Ireland because of its special status as an off-shore financial centre, as this applies to Switzerland too, which has a more comprehensive system of financial taxes. Of course, the tax will marginally widen the difference between Irish and UK rates, but even then it will be less than the difference between German and UK rates on bonds, for example.
How is this possible? Contrary to received wisdom financial markets are not perfectly integrated. Investors exhibit what is termed a ‘home bias’ in their financial dealings.
For instance, German insurance companies tend to invest more in German securities. Although home bias is being eroded by technology, EU treaties harmonising standards, and adoption of the single currency in particular, financial markets are still imperfectly integrated in Europe. (Freixas et al., 2011).
In the case of Ireland, Switzerland and other off-shore financial centres with large amounts of foreign financial activity, it would appear that familiarity with local regulations, accountancy standards, disclosure requirements (or lack of), and so on is sufficient to keep the business at home despite higher taxes. Further, given that the UK is not in the euro, the existence of exchange rate risk is another reason why investors may be reluctant to shift funds to London.
While the tax is unlikely to hurt the average citizen (quite the contrary), it will impinge somewhat on financial profits which I guess is why the government and elements of the media are so worried.
Freixas, X., Hartmann, P., and Mayer, C. (2011). ‘The Assessment: European Financial Integration‘. Oxford Review of Economic Policy. Vol. 20, No. 4.
Pollin, Robert (2005). ‘Applying a Securities Transactions Tax to the US: Design Issues, Market Impact and Revenue Estimates‘ in Gerry Epstein (ed.) Financialization and the World Economy. Edward Elgar Press.