Larry Summers backs a Tobin tax (or at least he did in 1989)by Bob Kuttner / September 2, 2009 / Leave a comment
Read our other exclusive online responses to Adair Turner from Tim Congdon, George Magnus and Oliver Kamm
Now that Britain’s top regulator Adair Turner has opened the door to a forbidden subject—Tobin taxes on financial transactions—could the Obama administration embrace such an idea?
Professor Tobin first proposed his tax to address currency speculation. This was in 1972, when the fixed-rate regime of Bretton Woods had collapsed. His concern was that speculative trades were fundamentally distorting currency values and damaging the real economy. The tax that he proposed was intended to damp down the volatility in currency movements, and take much of the profit out of purely speculative, short-term moves.
The early 1970s was a period just after currencies were freed from fixed rates, but before the general financial deregulation that followed. Since that time, speculative trading has distorted not just currency markets, but the broad financial market itself. The volume of short-term trades has grown far faster than the value of the stock market or the real economy. The most recent case in point is ultra high-speed computerised trading, in which very sophisticated traders make trades ahead of ordinary investors. In principle, this is illegal “front running,” and the SEC has begun an investigation. But there are larger policy issues here about how to discourage trading when it engenders risk rather than general efficiency of capital allocation.
From time to time, variations on the Tobin tax have been put forward as responses to crises caused by excess financial speculation. Now is surely such a time. A small tax on very short-term financial transactions would have two immense benefits. It would discourage purely speculative trades, while having no significant effects on long-term investments, and it would thus help restore the legitimate function of financial markets: connecting investors to entrepreneurs. Secondly, it could raise a substantial amount of revenue in a highly progressive fashion—at a time when large deficits loom.
The Obama administration might take a serious look at a Tobin tax for both of these reasons. Early in his career, Larry Summers, Obama’s economic policy chief, was a supporter of the Tobin tax. In a 1989 paper, co-authored with his former wife, Victoria Summers, he wrote that there might be times when it was salutary to throw a little sand in the gears of trading markets. The paper was titled: “When Financial Markets Work too Well: a Cautious Case for a…