Being Right: Costs Too High

The Bernie Sanders-proposed “Robin Hood” tax is a mistake. The tax, called the Wall Street Speculation Tax or Financial Transaction Tax (FTT), would impose a fee of 0.5 percent on stock trades, a 0.1 percent fee on bonds and a 0.005 percent fee on derivatives. According to Sanders, this would raise $1.5 trillion over ten years. If implemented, though, FTT will fall short of its expected earnings because of unintended market consequences.

The French government adopted their version of FTT in 2012, the Securities Transaction Tax (STT), which yielded a significant reduction in financial transactions following its implementation. 

Despite only collecting revenue amounting to 0.1 percent on the total value of trades, market participants were burdened by the implementation of STT. Trades in France decreased 27 percent ten days after the introduction of STT; after 40 days, trades experienced a 26 percent decrease. Higher explicit fees impeded and dispersed liquidity provision, which further increased overall transaction costs. 

The $1.5 trillion ten-year revenue estimate under Sanders’ proposal, though, was based on a relatively static projection, where the number of financial transactions is largely unaffected by the tax. However, as France shows us, the number of financial transactions is likely to decrease. 

The Tax Policy Center assumes that increases in the FTT rate will lead to diminishing marginal returns, as they assume the market for trades is highly elastic. 

From 2016 to 2025, the Tax Policy Center expects a 0.01 percent base tax would raise $185 billion and a 0.1 percent base tax would raise $541 billion. Over the same time period, Sanders’ proposed 0.5 percent base tax would raise only $514 billion–well short of the $838 billion needed to fund Sanders’ college tuition plan. 

An increase in the base tax from 10 to 50 basis points would cause the reduction in transactions to outpace the tax increase, causing the revenue to decrease from a 0.1 percent proposal to Sanders’ proposal.

Sanders claims that FTT will also help address income inequality in the United States. In general, wealth distribution in America is skewed, as the top one percent of households holds approximately two-thirds of all financial securities. Because of this, FTT should have the effect of a progressive tax in the short run, since the transactions taxed would be predominantly made by the one percent.  

However, FTT increases the cost of capital investment. Rising costs of capital burdens owners of capital, who receive lower after-tax rates of return, and workers, since wages would decrease as the supply of productivity-enhancing capital decreases. For this reason, long-term distributional effects can be more varied than the short run, as a reduction in capital would cause long run supply to decrease. 

This can be measured by the impact the FTT would have on GDP growth. The European Commission concluded that a uniform FFT of ten basis points would lead to a 1.67 percent reduction in GDP for the Eurozone. The FTT in the Bernie Sanders tax plan is five times the size of the FTT studied by the European Commission, which could lead to a five to nine percent reduction in domestic GDP. This has the possibility to result in a devastating recession. 

Since unintended consequences have the potential to cause the deficit to rise and aggregate output to fall, Sanders’ FTT is a mistake Congress cannot afford to make.