Treasury Note on Tobin Tax for the International
Development Select Committee
The Government agrees that there is a continuing
need to promote more stable international capital flows to avoid
a repeat of recent financial crises. Over the past three years
the UK and our G7 partners have consulted widely in an effort
to forge consensus on the necessary reforms. The Government, in
common with other G7 countries is not persuaded that a Tobin tax
would be a workable tool for promoting financial stability.
On a practical level, it would be almost impossible
to achieve global coverage for the tax, meaning that there would
be huge scope for avoidance. Without universal application, foreign
exchange transactions would gravitate to those jurisdictions,
including poorly regulated offshore centres, which did not levy
the tax, adding to the instability of the financial system.
The Committee raised a specific question about whether
the Tobin tax could be levied at the point of settlement of a
foreign exchange transaction (i.e. the exchange of value between
the contracting parties on the agreed date). This is unfeasible
at present because there is no single route for settlement. Even
where a payment system is used to settle a transaction, its purpose
is not usually identifiable to the payment system's operator.
A new centralised private sector settlement service for foreign
exchange, the Continuous Linked Settlement Bank (CLSB) is expected
to come into operation in October this year. CLSB plans to provide
foreign exchange settlement services for its members and their
customers in a range of currencies (initially 7). The CLSB is
welcomed by regulatory authorities as a means of reducing the
considerable credit risk involved in traditional methods of settling
It is unlikely that the inauguration of the CLSB
will resolve the fundamental problems associated with the enforcement
of the Tobin tax. As with existing payments systems, the CLSB's
coverage would still only be partial. Using the CLSB to enforce
the Tobin tax would discourage potential customers from using
this new, more secure settlements system and undermine international
efforts to reduce settlement risk, an important source of risk
in international capital markets.
Even if these enforcement problems could be overcome,
it is by no means clear that the Tobin tax is the best means of
reducing volatility in international capital markets. A modest
tax is unlikely to achieve its primary goal of preventing speculation
against fixed exchange rates since successful speculative attacks
yield enormous gains which are many times the cost of the tax.
Indeed, by reducing market liquidity, and so diminishing price
transparency and market efficiency, the tax might actually increase
volatility. Furthermore, a Tobin tax could not distinguish between
those currency transactions which allow economies to adjust to
price shocks, and those which are purely speculative. By slowing
the adjustment of financial markets, it might increase and prolong
the economic damage in crisis-hit countries, with disastrous effects
for the most vulnerable groups.
The Government therefore believes that the objective
of greater international financial stability is better served
by the programme of reforms to the international financial architecture
being developed by the IMF, and other international fora such
as the G7.
The UK Government has played a leading role in taking
forward this ambitious reform agenda, building on the structural
changes introduced domestically. In the past three years, there
has been substantial progress in a number of important areas,
including the elaboration of a new framework of codes and standards;
the creation of the Financial Stability Forum in 1999 to tackle
key areas of vulnerability in the international financial system;
the development of a new framework of partnership for crisis prevention
and resolution between the private and public sectors; and the
establishment of the G20 in 1999 to broaden discussion and co-operation
between systemically important economies on key economic and financial
issues. Taken together, these changes have laid the foundation
of a new international financial system for the 21st century which
will enable all countries to participate in the new global economy
and share in rising prosperity.
Despite these reservations , the Government supported
the proposal made by the Canadians at the UN Social Summit in
Geneva in June 2000 for a report on innovative sources of development
finance which could include an investigation of the Tobin tax.
Since then, the Secretary General has announced the creation of
the Zedillo Commission whose terms of reference include sources
of development financing. The Commission will be producing a report
to the UN Financing for Development Conference in 2002. However,
it is unclear at present whether this report will address the
issue of the Tobin tax.