The market's reaction yesterday to German Prime Minister Angela Merkel's decision to bow to public opinion and curb what she called "destructive" trading brings the issue of financial transaction taxes and the like front and center.
But the fact that investors hate the idea of taxes and similar limits on transactions may belie the main argument against such measures, which is that the cost will simply be passed along to the public. If that were true, then traders' profits shouldn't suffer, and neither will markets' ability to help finance the real economy.
Yet in his column yesterday in the German edition of the Financial Times, Wolfgang Munchau repeated the view that limits on trading will backfire against the economy.
And the column was cited approvingly by the website, Eurointelligence, which went on to say: "A transaction tax - or a profit tax - does not address the specific asymmetry - which is that the financial sector attracts excessive capital because its liabilities are guaranteed by the state." Added the commentator: "If you really want to get at the bankers without shooting yourself in the head, you should tax the capital by forcibly converting bank bondholders into equity holders."
That makes certain theoretical sense. But did the sell-off by investors yesterday in response to Merkel's move reflect fears over its effect on the economy or simply on trading?
Dean Baker of the Center for Economic Policy Research pointed out in a research note earlier this year, there's a considerable amount of evidence that suggests the answer is the latter, and that the effect will be limited.
Baker's conclusion: "While lower trading volume could in fact lead to less efficiency (it can also lead to more efficient markets if it reduces noise trading), it is important to realize the limited impact of this effect. Again, since trading costs would just be pushed up to their 1980s level, markets will be no less efficient than they were in the 80s."
As a practical matter, the economist continued, "the issue is likely to be a question of whether prices adjust in a single day or over a couple of days. It is difficult to imagine that this sort of delay in price adjustment would have any major repercussions for investment and real economic activity."