As election pollsters increasingly forecast a Democratic sweep in November — of the White House along with both houses of Congress — the financial services industry is revisiting the idea of a potential financial transaction tax, aimed primarily at the wealthy.
Beyond the obvious populist support for such levies, a deeper dive shows how such transaction taxes could ripple across broader financial systems, hitting even retail class retirement savers, according to Shane Swanson, an equities and financial technology analyst at Greenwich Associates.
“A financial transaction tax wouldn’t just hit the markets; the impact would be widespread, and it would even hit individual investors’ 401(k) plans,” he said.
Swanson’s recent research report on the pros and cons of financial transaction taxes follows the impact on everything from the way it would hit farmers needing to hedge crop yields and consumers seeking mortgages to the increased cost of financing for public infrastructure projects and even the potential threat to free brokerage trading platforms.
“Those kinds of impacts aren’t intuitively obvious to someone who doesn’t spend their days living and breathing the impact on the mechanics of the marketplace,” Swanson said. “Politicians will decide what they want to do, but they should always do it with the full knowledge of the full impact downstream. And projections of what a tax of this nature will generate are almost always vastly overstated, because they use current trading volumes without factoring in the impact of friction.”
That friction is where the rubber meets the road and where divisions on the topic begin.
“The impact of a FTT on wealth management is not likely to be significant,” said Steve Skancke, chief economic adviser at Keel Point.
“Yes, it does increase the cost of investing for retirement and future family goals, but for longer-term investments, there is not a big impact on investment returns, at least for a FTT at the 0.1% to 0.5% tax rate currently discussed,” he added. “The danger of course is that it may be seen and used as a means to impose a wealth tax — also popular among some presidential candidates this past year — and be enacted at a higher rate. If so, then the cost to investors would be greater and disproportionately so on lower income, lower wealth investors.”
While presumptive Democratic nominee Joe Biden has not historically been as extreme on transaction taxes as some of his colleagues and Democratic challengers, the former vice president has already released a plan to double down on a progressive tax system.
An FTT “would impact everyone, every investor with a small account or a large one, every person with a 401(k) or 403(b), everyone saving for a house, a college education or retirement, everyone trying to better their lives,” said Robert Braglia, president of American Financial & Tax Strategies.
“Why they would want to punish those who save and invest is a mystery to me,” he added. “Saving and investing is exactly what this country needs more than ever. Wealth managers will just have to lower their model rate of return expectations because this will lower returns.”
The Greenwich report, which included results from a survey of 58 market professionals from the United States, Europe and Asia, lists the potential friction from a financial transaction tax as hurting liquidity, widening price spreads, increasing capital costs for debt issuers, and increasing borrowing cost for the public and private sectors.
The market participants also believe an FTT could mark the end of zero-cost trading commissions at some platforms.
“One way or another these trading fees will be passed along to the trading public,” Swanson said.
Dennis Kelleher, chief executive of Better Markets, is less worried about the negative impact of a transaction tax on markets and financial systems than he is on the rational for any such tax.
“The industry is often arguing that FTTs will be a disaster for our markets, but we know for a fact that is not the case, in fact, the SEC already imposes a small transaction tax,” he said. “A transaction tax is a perfectly reasonable thing to do; the more difficult thing is deciding your objective and how do you avoid unintended consequences.”
Regarding Kelleher’s reference to the Securities and Exchange Commission’s transaction tax, the so-called Section 31 is a 0.0021% levy on transactions to help fund its regulatory operations.
The fee, which amounts to $22.10 per $1 million worth of sales, is charged to the industry’s self-regulatory organizations, which are then passed along to the broker-dealer members.
From there the fees get passed on to the final seller in the transaction listed on statements as “regulatory fees,” which illustrates how the end investor ultimately pays.
But that 0.0021% tax is peanuts compared to a proposal from Senator Bernie Sanders during his presidential campaign, which would charge a tax of 0.5% on stocks, 0.1% on bonds, and 0.05% on derivatives.
Another proposal from March 2019 sought a tax of 0.1% on the fair market price of stock and bond transactions. For perspective, the current transaction tax proposals are between 47 and 238 times the SEC’s 2020 Section 31 fee.
From Kelleher’s perspective, the missing ingredient in any successful transaction tax proposal is a targeted objective.
Introducing taxes on trading just to raise revenue, as former Democratic presidential candidate Michael Bloomberg tried, are less likely to gain traction than something that seeks to improve market conditions, according to Kelleher.
For example, in this age of high-frequency and algorithmic trading strategies, Kelleher said 99% of all trades are now cancelled before they are executed.
“We’ve proposed a tax on cancellations because nearly all of those cazillion cancelations a day are algos and high-frequency traders trying to manipulate the markets,” he said. “If you had even a tiny fee on cancellations you could potentially dramatically impact the level of predatory behavior in our equity markets. And if I had a magic wand, I would have an exemption for the actual market participants like Fidelity, Vanguard, and Calpers.”
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