Originally published on Forbes.com.
“A financial transaction tax would help ensure Wall Street works for Main Street” is the intriguing title of a paper released today by the Economic Policy Institute. A few years ago, I had designated myself as the left-wing of the elderly curmudgeon division of CCR LLP, a large regional accounting firm, the result of the merger of two venerable large local firms, that has since been swallowed by a not quite Big Four national (more nimble). The other old guys would look at me with wonder as I told them about Jill Stein and the Green Party platform.
There was one thing that they responded to positively, though. And that was the financial transaction tax. Being CPAs and all, they had at least an elementary grasp of economic theory and they figured that an FTT might mean less trading and that actually seemed like a good thing. As one of them put it, Wall Street had become a gambling casino.
How Much Does It Raise?
That of course is an emotional argument as is my own reflection on my days on Wall Street, when trading was much more expensive and the real economy seemed to be better for working stiffs and ordinary savers. The authors of the paper, Josh Bivens and Hunter Blair are economists so they have arguments that are somewhat more substantial. They take on a recent report by the Tax Policy Center (the main author was forbes.com contributor Len Burman) which found that a well-designed FTT would raise about $75 billion per year. Bivens and Blair’s estimate is from $110 billion to as much as $403 billion.
Bivens and Blair believe that the volume of financial transactions will not fall as much in response to a well-designed FTT. They also think that Burman was too pessimistic about revenue offsets. The idea is that if people are trading less the overall economy will be producing less resulting in less in other taxes. They note that this is based on the assumption that the transactions crowded out by the FTT are efficient and good for the economy.
Good Idea Anyway?
What is most intriguing about their discussion is the notion that even if the FTT does not raise much money because it crowds out a lot of transactions, it still could have positive effects.
Much evidence strongly suggests that the marginal value of financial transactions in the U.S. economy are near-zero, or even negative. If this is true, then U.S. households would strongly benefit from an FTT even if it raised very little revenue. In fact, in the case of zero marginal value of financial transactions, every dollar “crowded out” from financial transactions by an FTT would boost American households’ incomes one-for-one.
If the introduction of an FTT leads to a substantial reduction in financial-sector activity, how this would affect the living standards of typical American households hinges on whether or not the increase in financial-sector activity in recent decades boosted GDP growth, or was largely driven by a zero-sum redistribution toward the financial sector.
Much evidence seems to favor the latter interpretation. For example, Cecchetti and Kharroubi (2012) find suggestive cross-country evidence that “the level of financial development is good only up to a point, after which it becomes a drag on growth.” For advanced economies they find that a “fast-growing financial sector is detrimental to economic growth.” In a 2015 paper the same authors posit that the causal link between fast-growing financial sectors and slower overall growth is driven by financial expansions favoring high-collateral and low-productivity activity (like construction), and the]migration of high-skilled workers toward finance and away from other higher-productivity sectors.
The latter observation reminds me of a game I used to play. You were the ruler of a country and you decided how much seed to plant and how much to feed people. You could also buy and sell land and grain. After playing the game for a while I concluded that planting and harvesting were a waste of time. You could win by focusing on land and grain speculation. And I just let my peasants eat cake.
One of my high school classmates on Facebook has been appalled at the way the finance sector is being trashed by the likes of Bernie Sanders and Elizabeth Warren. Why should they demean a bright young lad or lass who works very hard and graduates with honors from Wharton and goes to Harvard Business School and then goes to work for Goldman Sachs? I think he has a good point there, but it is possible that we would be better off if all that brainpower and drive were directed elsewhere.