PM, Finance Minister bemused by Euro Tobin Tax talk, not in favour of a New Zealand one, but will look at it if all others do

By Alex Tarrant

News German and French leaders have agreed to work on introducing a financial transactions tax has received a bemused response from the New Zealand government, with Finance Minister Bill English saying he will believe it when he sees it, and Prime Minister John Key not warming to one.

French President Nicolas Sarkozy yesterday appeared to get German Prime Minister Angela Merkel to agree to a tax on international investment flows – widely known as a Tobin Tax – in efforts to counter financial market speculation.

New Zealand's Prime Minister (and former currency trader) John Key was not in favour of such a tax.

“My understanding was it was last looked at about a decade ago, and rejected,” Key told interest.co.nz in Parliament on his way out of Question Time on Wednesday.

“I’m happy with the taxation system we have and I think it’s broadly in the right place.”

Finance Minister Bill English was rather bemused by the French and German ‘agreement’ to implement a Tobin Tax.

“In the first place I think people will believe progress on implementing a Tobin Tax in Europe when they see it,” English told interest.co.nz.

“They’ve had some pretty big challenges and haven’t yet been able to deal with them all. Implementing this sort of tax has to be comprehensive. If most financial markets were implementing it, then it starts looking feasible. Whether it’s a good thing is a different issue, but there’s no doubt that for a Tobin tax to be feasible, everyone has to do it,” English said.

“I think even in Europe they might struggle,” he said.

NZ debate

The idea of a Tobin Tax has done the rounds before in New Zealand. The 2001 McLeod tax review ruled out a Tobin Tax, although the government's 2009 Tax Working Group did not even mention one in its final report to the government

The Green Party supports such a tax if all countries were to implement one, while the Maori Party and Hone Harawira are also in favour. See article: Harawira calls for 1% financial transaction 'Hone Heke' tax to replace GST, make the rich pair their "fair share" of tax.

At a late 2009 Finance and Expenditure Select Committee hearing reviewing the IRD, the Maori Party's Rahui Katene asked Deputy Commissioner Robin Oliver whether the IRD was in favour of a Tobin Tax, to which Oliver replied:

Tobin tax is a tax on, you know—every time that you have a foreign currency transaction you take a small percentage of it. That would obviously be a Government decision. The arguments against the Tobin tax are basically that it would jam up foreign exchange markets, and you would basically have cascade effects. You’d have tax upon taxes of different transactions happening. You’d basically jam up the ability of businesses to cover their foreign exchange exposure, and so forth. The arguments against it are quite strong, but it’s not something we have done much work on and it’s not in the Government’s work programme. 

And although it is from 15 years ago, former Reserve Bank Governor and current ACT Party leader Don Brash made his views known in a speech he gave in 1996:

But my final point relates to the possibility that, despite having an eminently stable policy regime which does not in any way threaten to expropriate the savings of investors, we may still encounter shifts in international market sentiment which could be very damaging to our interests. Could we reduce our vulnerability in some way, perhaps by `throwing sand in the wheels' of the international market, or, expressed more formally, by seeking to directly reduce the volume of foreign exchange market transactions relating to New Zealand?

The most famous proposal along these lines was one put forward in 1978 by James Tobin, an American economist awarded the Nobel prize in economics in 1981. He suggested applying a small tax, perhaps 0.5 percent, on the value of all foreign exchange transactions. This would, he believed, have negligible impact on foreign exchange transactions relating to payment for exports or imports, or to long-term investment decisions, but would effectively prohibit all of the transactions relating to very short-term `speculative' transactions. Thus, for example, a 0.5 percent tax on an overnight `round trip' transaction would be equivalent to a tax of 365 percent at an annual rate, and the overnight transaction would not occur. (Note that Tobin did not see this tax as an effective way of raising much revenue, because he recognised that the vast majority of foreign exchange transactions, by value, would cease to occur if the tax were introduced. Indeed, that would be its purpose.)

But most observers believe that the Tobin tax would not have the desired effect for two quite different reasons. First, the tax would almost certainly fail to make a significant impact on the volume of financial transactions in, say, the New Zealand dollar unless the tax were to be applied by all countries where trading in New Zealand dollars could take place. There would be little point in applying the tax in New Zealand if trading in New Zealand dollars could simply continue in Sydney, Singapore, Hong Kong, Tokyo, London or New York. Trading in New Zealand dollars already occurs in all of those centres and more, and would no doubt accelerate considerably if New Zealand were to introduce a tax of that type.

Secondly, most observers now doubt the premise on which Tobin based his proposal, that reducing turnover in the foreign exchange market would have the effect of reducing volatility in the exchange market. Even in the unlikely event that all actual and potential centres of foreign exchange trading would agree to introduce a tax on foreign exchange transactions, and the volume of transactions shrank dramatically as a consequence, it is not at all clear that this would have the effect of reducing exchange rate volatility. On the contrary, it seems very likely that, with much less liquidity in the market, individual transactions relating to `real business opportunities' (large export transactions, large import purchases, large investments, and so on) would have a much larger effect on the exchange rate than is now the case. Far from reducing exchange rate volatility, a tax on foreign exchange transactions would very likely increase it.

At the end of the day, New Zealand is a part of the world economy and gains enormous benefits from that fact. Being part of the world economy involves some risk. Having a sound framework within which monetary and fiscal policy can deliver a stable environment for the benefit of all helps to minimise that risk, and helps us to deal with the occasional shocks which the world economy sends our way. Switzerland is subject to the same risks and the same shocks: I doubt if many Swiss ever seriously contemplate opting out.

This article was first published in our email for paid subscribers this morning. See here for more details and to subscribe.