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The European Union’s Ill-Proposed Global Financial Trading Tax

After four years of toying with the idea, the European Union finally resolved to implement a tax to assist in generating revenue.  As propagating international news has made clear for the past couple years (ever since the first Greek bailouts), the 27-nation EU is in a financial crisis: debt levels have hardly ever dipped below 60 percent of national income.  Desperately in need of funding, a financial trading tax has been proposed by the European Commission, which will ideally affect all people and institutions trading with the Union globally starting January of 2014.  The tax will be a tiny percentage of the value of transactions of stocks and bonds, though the total revenue is expected to be about $77 billion (USD) a year, which will keep the declining euro afloat.

Not surprisingly, countries who share those EU markets are more or less opposed to paying taxes on investments.  The tax cuts into the value of the holding, causing market participants to profit less.  However, notwithstanding the argument of profit-loss in the market, there may be other objective reasons to advocate discarding the idea of a global financial trading tax immediately.  Looking at the involved parties as nodes in a market network and the scopes of the financial markets as edges, the European Union is not in a position of power to name the terms of negotiation.  In addition, buyer and seller matching dictates that demand for a seller’s item decreases as the seller increases his price; the EU, being the seller of shares on its financial market, should expect demand to decrease.  Thus, it will not be surprising if the financial trading tax does not actually play the “extra income” role as obviously intended, and instead creates unexpected outcomes and impairs its own market economy as a payoff.

As mentioned, one objective reason the European Union should reconsider the proposed financial trading tax is its weak position of negotiating power in the global market network.  EU markets with investors in international countries have edges between them—the EU is at the center with many radiating edges that end in invested countries.  Each edge has a certain market value, perhaps the total value of the stocks and bonds the international country shares with the EU.  Because the market is able to “make deals” with more than one party, this model differs from the one-deal-per-node network exchange model from class.  However, as the deals are all independent from one another, and as the total value that the EU shares with other countries expands or detracts dependent on the willingness of the investor, it is possible to duplicate the EU node so that they are all stacked but each is subsequently only connected to one outside party.  This will enable the discussion to simplify to the familiar network exchange considerations.  Therefore, before the imposed tax, the EU shares certain values with many other countries, and the market is stable, and, since everyone is satisfied, is at equilibrium.  Suddenly, the EU perturbs the system by demanding more of the shared value, so that the countries turn to outside options to evaluate whether the total value of their outside options is greater than the shared value with the EU.  Almost all countries that traded with the EU can be assumed to have outside options because markets such as NYMEX and NASDAQ are not EU-based.  As the EU has no outside options, it is not in a position of bargaining power according to the network exchange model; it either has to give up the tax or be resigned to the fact that some countries will no longer be willing to invest.

If fewer countries invest, the total value of the EU market will decrease, lowering the tax revenue from the projected $77 billion to an amount that could potentially not help the euro at all.  Another reinforcement of the argument that the EU will sell much less stocks and bonds is the concept of buyer-seller matching.  An increase in the price of a seller’s item will decrease demand for the item; thus, if all the buyers (investors) were matched to a certain number of discrete stocks and bonds in the seller (EU) market, increasing the price of all the items will no longer result in the perfect matching prior to the tax.

Whether the outcome of the European Union’s proposed global financial trading tax is considered by network exchange or by matching buyers to sellers in a market, the conclusion about the effect of the tax is suboptimal.  The European Union is effectively encouraging their investors to transfer investments to outside options and discouraging investors from affording the stocks and bonds in their markets at the same time.  These could be unexpected side-effects from implementing the new tax policy, and could impair the economy of European Union countries more in the long run.  The tax is not likely to generate the marginal income so desperately needed, but is very likely to create negative, unwanted payoffs that take the Union a step backward from financial and economic recovery.  Perhaps it is time to discard the idea of a global financial trading tax and consider an alternate source of income.


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