Why should finance be taxed? There are several good arguments. First, there is the issue of justice: the financial sector was the driver of the 2008 financial panic and subsequent Great Recession. They should pay. Second, there is the Willie Sutton argument –we face significant revenue shortfall and the financial sector is “where the money is.” These are both sound. I want to pose another often overlooked one: the financial sector, as it currently exists in the US, is bad for the overall political economy. It is too big, too inefficient, and wields too much political power.
Let’s consider these points in turn.
First, the size of the US financial sector is out of proportion to the larger political economy. There are a many ways of making this point but the simplest one is that finance, a sector that employs only a little more than 5% of the total labor force captures almost 30% of total profits (45% in the run up to the 2008 financial panic). There is no evidence that financial sector employees are six times as productive as the rest of us. Rather, through a variety of political and market mechanisms – I’ll return to the latter below – from 1980 to 2013 the financial sector managed to transfer from the rest of us $750 billion, or about $1500/person in the US, into its coffers.
How did this happen? This takes us to the inefficiency of finance. The financial sector’s primary function is to raise and allocate capital to borrowers: businesses, households, governments. Doing this efficiently means a low cost dollar of capital raised. Consider two periods in US history: in the late 19th/early 20th century period of rapid US industrial growth, the cost/dollar of capital raised was about $0.0015 – 0.0017, very low indeed. This ratio grew in the 1920s then declined….Until the late 1970s – after which it grew again, regaining 1920s levels. Today the cost per dollar of capital raised is about double that of the early 1900s.
Why has the sector become less efficient?
After all, finance is certainly more efficient in some activities: payment collecting has been automated, resulting in more rapid transfer of funds from the purchaser of a good or service to the seller: think credit and debit cards vs checks. Finance efficiently stores the assets of depositors. Finance efficiently moves money in and out of bank accounts much more rapidly and at less cost than five decades ago. Both the payments and the storage of assets function of the sector have benefited from finance IT investment.
However, the biggest growth in finance IT spending is for trading – and it is high levels of trading that have driven the increased cost of financial intermediation and decreased economic stability. Trading is also the source of much of the profit growth in finance. Taking only the stock market, today the annual total traded value is almost twice the GDP; in 1975 it was less than 5% of GDP in size.
The claim that finance has a huge amount of political power is probably less controversial. Finance is among the top three industrial groups by contributions to political campaigns, by lobbying expenditures, and by the sheer numbers of lobbyists. In Dec 2014 the political power of finance was again demonstrated when Congress repealed provisions in the Dodd-Frank Act that prohibited most derivatives trading in FDIC insured bank operations. Wall Street banks can return to freely trade the securities that brought Lehman Bros down in 2008 — and obtain access to the benefit of insurance and loans from the federal government.
What is to be done?
A policy that would reduce trading would (i) reduce the profits share of finance; (ii) reduce the ability of finance to extract rents from the real economy; and (iii) thus reduce the political power of the sector.
That is the beauty of the financial transaction tax (FTT), aka the Robin Hood Tax.
There has been a long and, for many, frustrating struggle to establish such a tax but, in the past few weeks, two very promising breakthroughs have occurred. The first is in Europe and second is in the US.
Although 11 European nations – representing about 75% of total European GDP – have agreed in principal on an FTT, the negotiations that would define the scope and level of the tax were stalled over most of the past year by….the French? Doesn’t that seem strange in light of Francois Hollande’s campaign pledge to support such a tax?
Well, as we have all learned, campaign promises are not always honored. The French had urged only a small and asset limited tax vs the German (and others) desire for a broader tax with higher rates. However, in late 2014 more than 120 deputies from Hollande’s Socialist Party demanded that he support the tax. In response, Hollande gave instructions to his finance ministry to move forward on the tax, publicly pledged his support, and promised a significant portion of FTT revenues toward combating climate change.
Perhaps the development in the US is even more encouraging. On January 12th, Rep. Chris Van Hollen, a leader of the Democratic house caucus, proposed an FTT as one of the key taxes that would be used to “raise wages, increase personal savings, and grow the economy.” Details are scarce – what products, what rates, etc. – but it appears that Van Hollen is seeking to track the tax as it is being crafted in Europe. Although the “progressive caucus” has been supportive of the FTT in the past, this is the first time support has emerged among elements of the party that are close to the Clintons and Obama. The significance of Van Hollen’s act was recognized immediately by finance: within hours he Securities Industry and Financial Markets Association (SIFMA) attacked the proposal.
Contact your congressional representative and urge her/him to support this tax. You can use the FAQ from the DSA website to provide talking points.