Transaction Tax Threatens Two-Speed Europe

Terry Flanagan

With 10 European Union countries now supporting the introduction of a financial transaction tax—and several of these even starting to introduce the levy unilaterally—a confused picture is beginning to emerge across the region regarding the controversial charge.

The European Commission wants to see the new FTT proposals, which will only affect nations who have signed up to the commitment, discussed at the next meeting of Europe’s finance ministers on November 13, with the scheme then possibly to be in place by early next year. This, though, is likely to mean more costs involved for firms to comply with the new regulations.

“Apart from the direct tax charge itself, the proposed FTT would require that companies have the systems in place that are needed to comply with it,” said a recent note from accountant Ernst & Young.

“This will involve separating financial transaction counterparties by location and status within the FTT rules and having systems to report to and account to the tax authorities of the participating countries, who may not necessarily set the same rates or procedures for their operation of the tax.”

Using a loophole to push through laws without the backing of all 27 member states, in a process called ‘enhanced co-operation’, a French and German backed initiative earlier this month found enough support—a minimum of nine nations were needed—to push ahead with the controversial levy. An earlier EU-wide proposal in June failed to get off the ground with many nations—spearheaded by the U.K., Sweden and the Netherlands—vetoing it.

A two-speed Europe is thus likely to be created in which many of Europe’s biggest stock markets— including Frankfurt, Paris, Milan and Madrid—will be affected by the tax, while others, such as London, Amsterdam and Warsaw, will not.

“The financial transaction tax is just a public opinion message,” Diego Valiante, ECMI head of research for the Centre for European Policy Studies, a Brussels-based think tank, told Markets Media’s European Trading Investing Summit in London on October 11.

“There is no economic justification for a tax on transactions. You are not going to have less volatile markets. It will affect volumes and make markets become more volatile.”

Some of the nations who backed the initiative are also introducing, or are about to introduce, their own FTT laws. Italy and Portugal are the latest two to forge ahead with separate national legislation in the interim while the EU enhanced co-operation FTT proposals are finalized, with the view of enforceability by January 2013 for Italy and sometime in 2013 or 2014 for Portugal. Spain has also recently released a bill for the introduction of a Spanish FTT, while the Hungarian parliament has voted on a FTT, which will be introduced from January 1, 2013. France introduced its own version of the FTT, which has been effective since August.

The U.K., too, has also had its own share levy in place for years, in the form of the stamp duty reserve tax of 0.5% on share transfers, which raises in the region of £3 billion each year for the Chancellor of the Exchequer

However, it is still not certain that the enhanced co-operation procedure will make it into the EU statute books. Enhanced cooperation is subject to very specific requirements, and is usually only undertaken as a last resort. The European Commission still needs to make an internal assessment on its impact to European markets, while it needs to pass a qualified majority vote at the EU council of ministers. This means getting a majority of member states that represent at least 70% of the total population of the EU. It also needs the backing of the European parliament.

“Although there is now, in principle, sufficient support for an FTT to be introduced in a limited number of EU member states, the actual adoption of such a tax is still dependent on a number of factors, in particular the EU Commission’s assessment of its impact on the internal market, and the required authorization from the Council,” said a recent note from accountant KPMG. “Although it has been suggested that the proposal will be based on the existing EU-wide FTT proposal, it is possible that the final version may differ, e.g. as regards its scope.”

According to sources in Brussels, the EU still has concerns in relation to the FTT over displacement—transactions moving out of the EU—and collection. Enhanced co-operation is not likely to quell these fears.

Proponents of the tax believe it will make the financial services sector ‘pay their way’ for causing the global financial crisis, while critics think that a financial transaction tax will merely reduce growth and see an exodus to jurisdictions where no such tax exists.

The introduction of a financial transaction tax could also have severe repercussions for certain sections of the market. High-frequency traders—who perform millions of rapid trades, each yielding a tiny profit— and proprietary trading firms would likely be hit hardest by any levy as their profits could diminish and liquidity could potentially vanish from markets due to an exodus by HFT firms. Market structure could also break down and many buy-side institutions are also against such a tax as they fear wider spreads, higher transaction fees and a dramatic drop-off in volumes.

“The financial transactions tax is most likely to impact end consumers the most,” said Rhodri Preece, director of capital markets policy for the CFA Institute, the global association for investment practitioners and academics, in his recent blog.

“The high-frequency traders have warned that such a tax will force them out of many markets (pensioners beware).”

France, Germany, Italy, Spain, Austria, Belgium, Greece, Portugal, Slovenia and Slovakia are the 10 nations that signed up to the enhanced co-operation proposals. Estonia is likely to follow once its parliament has been consulted.

“I am delighted to see that 10 member states have indicated their willingness to participate in a common FTT along the lines of the commission’s original proposal,” said José Manuel Barroso, president of the European Commission.

Attempts by the European Commission in June to introduce such a tax—aimed at curbing the market excesses that led to the 2007-08 global financial crisis—failed to win enough support across the full EU, in part due to U.K. concerns over the City of London’s future.

The original European Commission proposal was for a 0.1% tax on all share and bond transactions and a 0.01% levy on derivatives trades, although this could be subject to change as the 10 or 11 nations involved may only use this as a template and opt for an even stricter regime. It is estimated that the revised plans may bring in more than €10 billion a year, significantly less than the €57 billion predicted for a EU-wide levy.

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