1. Is the FTT a tax on stock exchange transactions?
The proposed FTT goes far beyond a simple stock exchange transaction tax of the kind that
used to exist or has recently been introduced in some EU Member States, in that it also applies to financial
transactions that take place on unregulated markets or that are carried out directly between
financial institutions without the medium of a trading platform (so-called ‘over-the-counter’
Moreover, it is also a tax on proprietary trading by banks and similar activities, as well as on
trading in bonds and derivatives. Thus, it neither disadvantages nor favors particular
marketplaces or particular financial instruments, because all markets are treated equally.
Therefore, it also has very high earning power, high revenue potential, even in the case of
very low tax rates.
Only the financial industry is subject to the tax and evasion is virtually impossible.
2. What is taxed?
On the one hand, the proposed FTT is a tax on securities transactions, i.e. it applies to trading
in (but not the issue of) shares, company bonds and government bonds. A transaction with a
value of EUR 10 000 would be subject to FTT of EUR 10 (0.1% of EUR 10 000) to be paid
by both the buyer and the seller.
On the other hand, and much more importantly from the point of view of revenue potential, it
is a tax on derivatives, i.e. hedging activities and ‘betting’ on financial markets. For example,
if someone bets on falling or rising share or bond prices, or wishes for commercial reasons to
hedge against future price fluctuations or against falling or rising raw material, energy or
agricultural prices, they would have to pay tax. The same would apply to bets on falling or
rising indexes (of whatever kind), or bets on interest rates or on countries or companies going
bankrupt, or even more complicated bets.
Under the Commission’s proposal, the amount of the tax on such financial market ‘bets’ would
be determined not by the amount staked, i.e. how much of his own or borrowed money the
investor wagers, but rather by how big the notional value is of the transaction underlying the
‘bet’. For example, if an investor pays EUR 1 000 for an option to purchase or sell shares
valued at EUR 1 000 000, tax of EUR 100 would be due (0.01% of 1 000 000), while an
option with a nominal value of EUR 10 000 000 would attract tax of EUR 1 000. This would
also apply in cases not involving an option to purchase or sell shares at a certain price, but
rather involving the purchase or sale of raw materials or foreign currencies, or a ‘bet’ on credit
default. Thus, the determining factor is not the amount of money staked, but the value of the
underlying transaction. The higher this value, the higher the tax.
3. Who has to pay the tax?
The tax applies to the financial institutions, funds and asset managers that carry out taxable
financial transactions or engage in proprietary trading. It does not apply to retail investors,
pensioners or small and medium-sized enterprises. Of course, it is highly likely that banks will pass the tax on to retail
investors or companies, if they carry out such transactions on these clients’ behalf. However,
this should not be problematic, as the tax rate is very low. The amount of FTT due on a
EUR 10 000 purchase of shares would be EUR 10, while EUR 100 would be due in the case
of hedging a foreign currency transaction valued at EUR 10 000 000. This means that the cost
of such financial transactions would rise by 0.1% or even merely 0.01%, and not by the figure
of 10, 15 or even 20% that some interest groups are bandying about.
4. Who is most irritated by these taxation plans?
The taxation plans are, of course, most irritating for high-frequency traders and for fund and
hedge fund managers whose business model is based on quick successions of financial
transactions and on frequent transactions with high profit (and loss) potential. The more
frequently that things are bought and then sold again, the more short-term ‘bets’ are made
with the same amount of capital, and the higher the ‘bets’ are in nominal terms, the higher
will be the gains and the more the fees that are raked in.
So the FTT is facing intense lobbying from precisely those fund managers and investment
bankers whose business model is not based primarily on generating high profits for their
investors (this is merely of secondary importance) – whether they be retail investors or
institutional investors such as pension insurance companies – but on generating high
transaction volumes and therefore high administration and brokerage commissions, which
they naturally pass on to their clients. The FTT would call this business model into question.
These are often the operators whose published yield figures do not include administration and
management fees and tax subsidies, figures that are often even described as ‘net yield’.
But they also include the proprietary traders, i.e. those banks and brokers that no longer only
broker transactions such as the purchase and sale of shares, bonds or traded derivatives in
exchange for a fee, but themselves take the opportunity to buy the product to be brokered first
before selling it. This provides them with two sources of income: the brokerage fee and the
difference between the purchase price and the selling price. The European Commission’s
proposal would exempt simple brokerage transactions from the FTT but not proprietary
trading, as this entails purchasing and selling.
5. Would retail investors, pensioners or small and medium-sized enterprises not end up having to pay the tax?
No. Generally speaking, there is no danger of this happening. On the contrary, retail investors,
pensioners and SMEs could actually benefit from the FTT.
Firstly we must bear in mind that 80 to 90% of the financial transactions we are discussing
here and almost all the ‘financial market bets’ that aim to make a large profit from a small
initial investment take place between investment bankers and traders. Only a fraction of all
so-called ‘hedging transactions’ taking place in the financial markets have a ‘real’
background, i.e. are the result of goods, services or shares actually provided, or the result of
loans granted and the need to hedge against the associated price, exchange rate, interest or
default risks. Instead, most ‘hedging transactions’ are ‘bets’ between two or several
investment bankers with the aim of making a profit from the ‘bet’ itself. Retail investors and
SMEs are not involved directly or indirectly.
If these bets work out well, most of the profits go to the investment bankers and traders
involved, in the form of high bonuses, and only a very small part is paid out to the
shareholders and investors. If, however, the bets backfire, then the bank’s shareholders or the
investors in a fund (including the small savers and pensioners indirectly involved), or – in the
worst case scenario – the taxpayers suffer the consequences.
The FTT will enable the chaff (bets) to be separated from the wheat (hedging against real
risks). There will be significantly fewer of these bets (the Commission estimates that their
volume will be reduced by around 75%), and the size of the bets will shrink, i.e. the leverage
effect of the capital invested, will be reduced. The size of the bonuses paid to the investment
bankers involved is likely to shrink substantially, while retail investors’ earnings will not. At
the same time, the risks to shareholders and investors, including retail investors and
pensioners, will be reduced.
Secondly, it will have a strong dampening effect on a deplorable practice, something that is a
great irritation to the actual buyers and sellers of securities, namely the fact that a host of
high-frequency traders and proprietary traders muscle in between the actual buyers and sellers
and even charge extra for doing so. Thus, the FTT should ultimately result in better prices not
only for retail investors, but also for large institutional investors, such as pension funds,
insurance companies or also funds of funds.
So scenarios claiming that up to 20% of small investors’ savings will be eaten up by the FTT
should be assigned to the world of horror stories and fairy tales made up by those with vested
interests. Their only aim is to maintain and avert scrutiny from their and the fund managers’
extremely lucrative business model of high-frequency trading and asset churning. These
business models, for example actively-managed private pension funds, have long been
criticized for their high, and frequently hidden, administration costs and brokerage fees of up
to 15% or more of savers’ capital, and they would be most severely affected by the FTT. In
contrast, products, such as private pension savings plans, which are already very attractive to
retail investors, would be unaffected by the FTT.
If the FTT were to be implemented in its proposed form, the providers of such products would
be forced to adapt their business model to the new reality in order to save administration costs
and taxes. After all, if a traffic light were placed at a crossing, a driver would not drive
through a red light simply because the road he is driving on used to be a highway.
6. Won’t the FTT be bad for the financial markets’ efficiency? After all, even some
economists are against the FTT!
It is quite understandable that the ‘modern’ investment bankers – i.e. investment banks and
hedge funds that have specialized in developing and trading in highly complex ‘financial
market bets’ or high-frequency trading and proprietary trading – should put forward these
arguments, as their current business model is under threat. They will have to adapt to it, and the
FTT could result in their losing a part of their field of operations. This might be bad for their
bonuses, but it shouldn’t harm the efficiency of the financial markets.
Some of the economists who criticize the FTT, be it at global or regional level, generally also
still assume, despite all experience to the contrary, that the financial markets are inherently
efficient. To them, certain terms, such as ‘returns’, ‘liquidity’, ‘market-making’ and ‘rapidity’,
are ends in themselves and not just the means to an end. The advocates of this approach to the
financial markets adhere to the creed of ‘the more and the faster, so much the better!’ To them
every financial transaction and product is inherently good and boosts productivity, and so
their growth should not be stunted by government regulation or taxes.
However, those economists who have thought carefully about developments in the financial
markets over the past two decades or who have analyzed the financial crisis critically have
revised their ideas and now take a different view of the financial markets. Their new guiding
principles are ‘the dose makes the medicine/poison’ and ‘market excesses must be corrected!’
Liquidity, for example, is no longer an objective in its own right, but rather a means to an end.
A given level of liquidity will be enough to ensure that individual large sales or purchase
transactions can be executed and do not affect market activity.
So it should come as no surprise that the Commission concluded in its analyses that the FTT
will not negatively affect the financial markets’ efficiency. Nor will it result in the markets
drying up and there being fewer possibilities for hedging risks, even if the number of
transactions on the financial markets – and especially derivative bets – does shrink. Instead,
the FTT will help to bring about a ‘normalization’ of transactions on the financial markets.
This should also benefit retail investors and SMEs, as a large proportion of the expensive
transactions will no longer be carried out.
7. Won’t security operations shift to London or New York?
This risk is relatively small because, under the Commission’s proposals, is does not depend so
much on where a financial transaction is carried out, but rather with whom and what the
traded product is.
If a German bank were to transfer its operations to London, it would still have to pay the tax
unless (1) it also moved its headquarters to London and (2) no longer offered financial
products to clients from the eleven participating countries of the FTT zone, and (3) no longer
offered products from these countries, such as shares, bonds or derivatives. If it were not
prepared to do this, it would still have to pay the tax, even if its operations were carried out in
London or New york. And if it were prepared to meet all the above-mentioned conditions,
other banks would surely be only too happy to step in and take over these lines of business.
Because it will still be financially worthwhile to provide financial services in the participating
In addition, the Commission’s proposal also contains relatively detailed provisions to prevent
abuse, so that certain possible configurations can be ignored if they entail a transfer of
business activities only in formal terms but not in substance. All in all, the risk of such a
transfer for the purpose of avoiding taxation is therefore very slight, particularly in the case of
8. How is the tax to be levied in practice, and how could this be enforced in financial
centers that may possibly not cooperate, such as London or New York?
The Member States have a relatively large amount of leeway on this, as the Commission’s
proposed framework for harmonizing the FTT is a proposal for a directive rather than for a
regulation. It would, of course, be preferable for the Member States to reach an agreement on
this, as it would be much simpler and cheaper than if the eleven states introduced eleven
different systems for collecting the tax.
The ideal scenario would, of course, be for them to agree to make it a tax, where the trading
platforms and clearing houses, for example, would charge the tax at the same time as the
administration fee or the purchase price. This would be very easy in technical terms. With
some small financial incentives, cooperation between trading platforms and clearing houses in
the participating countries on the one hand, and the financial authorities on the other could be
organized in such a way that the trading platforms and clearing houses would implement the
process without much complaint and at little extra cost.
Quite apart from this, there is also the question of how to implement a similar process on
markets outside the participating Member States. But here too, there are certain vested
interests on the part of all the parties concerned. Thanks to the new regulatory systems, in
future the financial markets will be more transparent than ever. This transparency will be
universal, so that the supervisory and tax authorities will have access at any time to the books
of the banks, traders, trading platforms and clearing houses.
Ultimately the electronic collection and payment of the FTT could even become a new line of
business for cooperating trading platforms and clearing houses, as such a process would also
allow the banks to reduce their costs considerably.
In turn, the tax authorities and tax investigators could then concentrate on keeping a closer
eye on the books of those banks and funds that have strong business relations with
non-cooperating trading platforms and clearing houses.
FAQs on the FTT courtesy of Americans For Financial Reform and their work on the Wall Street Speculation tax.