Transaction Tax - an indepth view

"2012 needs to be a year of focusing on growth for the UK and Europe. Yet the European Parliament opened for 2012 yesterday with a debate on proposals to tax financial transactions across the EU, which even the European Commission´s own impact assessment analysis says could reduce growth by 1.7% every year.

I can understand why many want to see increased taxes on financial institutions and I am not against taxing financial services. I support the UK's bank levy approach, for example. However, I am very concerned that the way the transaction tax is structured will allow financial players simply to relocate overseas - taking tens of thousands of jobs with them, but without reducing risks in financial markets.

Rather than hitting banks or hedge funds, the tax burden will then fall on investors such as pension funds, real businesses and insurance companies. We need investment in the UK and Europe. Indeed, we should be thinking about giving long term investors tax incentives, not additional tax penalties.

Pensioners could be hit especially hard by this tax. Some people say that the proposed charge of 0.1% is "tiny". Consider however the impact if an investor was to sell 10 year UK government bonds and buy German ones. The 0.1% tax is paid twice - once on the sell, once on the buy, totalling 0.2%. The annual yield on the government bonds is currently only 2%. Therefore the tax on the trade is one tenth of the annual income from the bond investment. This is a huge amount of money for pensioners, and especially when investments in other asset classes like equities have been negative recently.

Another concern is the impact on liquidity. In the UK, "market makers", which help to keep financial markets running efficiently, are explicitly excluded from stamp duty on shares. There is no such exemption in the proposals for an EU financial transactions tax. Those who support the tax want it to reduce "speculative" trades. However, it would be very difficult in practice to decide which trades were "market making" and which were "speculative". This is a key issue: on the one hand we are telling banks that they need to hold more liquid assets to promote financial stability; at the same time the EU is proposing a tax that will almost certainly reduce liquidity in asset markets.

During the debate yesterday, the Commission announced that they are now re-running their impact assessment of the proposals for a financial transactions tax, and are predicting a new conclusion. This demonstrates just how much uncertainty there is about the effects of the proposed tax.

The UK is right to veto this tax. MEPs from many other countries also raise concerns during yesterday's debate. This is not just an issue for those in the City of London, or indeed those who commute into London for work. It will affect all of our insurance premiums, pension savings and the investment in real companies which create jobs."

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