America should bring back a financial transaction tax

The late Jack Bogle, founder of Vanguard Group and advocate for low-fee retirement investing, was once asked what he thought about a financial transaction tax. The man named by Fortune as one of the four investment giants of the 20th century responded: “I love it.” 

A financial transaction tax (FTT) would levy a small fee (say, 0.10 percent) on the sale or purchase of securities such as stocks, bonds and derivatives. The most important reason for adopting such a tax, Bogle understood, is that it separates the wheat of vital, long-term value creation from the chaff of unproductive speculation and market churn. High-frequency trading, for example, now accounts for the majority of trading volume yet accomplishes little beyond transferring capital and talent from more productive pursuits. An FTT would help reverse those trends.

A second benefit of an FTT is that it raises considerable revenue without discouraging the investment that our economy needs. Policymakers could use the revenue to reduce taxes on long-term capital gains or give more favorable treatment to research and development expenses and capital spending. By shifting the burden of taxation away from productive activity and onto unproductive speculation, policymakers could simultaneously promote better-functioning financial markets and boost job-creating investment, all without increasing total tax revenue.

As with many discussions of commonsense financial reform, Wall Street has done a good job portraying an FTT as a profound threat to our prosperity. Supposedly, such a tax would irreparably damage financial markets by increasing bid-ask spreads and reducing liquidity.  Certainly, investors are right to value liquidity in financial markets. But liquidity, like most things, has declining marginal utility. The average bid-ask spread has been driven down by orders of magnitude from the 1990s to the 2010s. Would investors suffer greatly if bid-ask spreads returned to their 1990s level? 

What’s more, according to J.P. Morgan, the cost of capital for major corporations didn’t decline during that period. To the contrary, this period coincides with a trend of disinvestment in the real economy. If anything, average investors may be suffering because high-frequency traders are often takers rather than providers of liquidity, who, in their hunt to technologically exploit the advantage of obtaining information faster than everyone else, introduce what the United Kingdom’s Financial Conduct Authority calls a “latency arbitrage tax.” Eliminating the ability of those traders to profit at slower investors’ expense would reduce the latter’s costs.  

FTT critics also claim the tax would prove a substantial burden on retirement savings. Their estimates tend to rely on unrealistic assumptions about how much trading long-term investors do and to forget that an FTT would reduce turnover. (Vanguard tried to advance one such estimate after Bogle’s departure but, when confronted about its analysis, quietly revised its estimated impact down by a factor of 15.) To the contrary, an FTT could lower costs to long-term investors by reducing excessive churn and encouraging a return to low-turnover, lower-cost strategies.

But, Sweden! Examples do exist of FTTs gone wrong, such as Sweden’s abject failure in 1984, but well-designed FTTs tend to, well, work well. After New York, the world’s three largest financial centers (London, Shanghai and Hong Kong) all impose an FTT.  Other major economies do the same. And some nations, such as Italy, Spain, and France, that previously repealed FTTs have since re-established new ones. Spain’s new FTT went into effect in 2021.

America should join that club. The U.S. had an FTT — a “Documentary Stamp Tax” on the issuance and transfer of securities — until 1965. Its repeal was not a focused legislative rejection of an FTT in particular. The Excise Tax Reduction Bill of 1965 eliminated a wide collection of accumulated excise taxes. The securities transfer tax was swept into the Miscellaneous title, right next to the repeal of taxes on playing cards and coin-operated amusement devices. Prior to its repeal, the FTT seems not to have prevented the economic boom for which President Johnson was so eager to take credit when he signed the law — a boom due in large part to tax policy that had increased capital investment.

Perhaps repealing an FTT made more sense in an environment that still prioritized actual investment in the real economy. In today’s economy, with investment in steady decline and speculation overtaking the productive allocation of capital as our financial sector’s chief activity, bringing one back would do a great deal of good.

Chris Griswold is the policy director of American Compass and a Stephen M. Kellen Term Member at the Council on Foreign Relations. He previously was a senior policy adviser in the U.S. Senate.