17 Oct 2012

EUREKA : Solving the Eurozone Crisis using an FTT on Euro foreign exchanges

It's 5.30 am.  But I've got to get this idea onto my blog. Yes, yet another idea for fixing the Eurozone crisis. Back in july, I listed the 10 different propositions I had already made. Since then, I have added a couple of new ideas. First, the idea that the ECB could simply replace money creation by commercial banks within the Eurozone, and generate an equivalent amount of money that could be distributed among the 17 different Eurozone governments simply according to their population sizes (see the youtube video "How the Eurozone countries could fix the global economic crisis").   Then there was my suggestion of  creating an alternative national currency in each Eurozone currency (the N-Euro) which would be a debt-free currency that governments could use for paying public sector wages, pensions and benefits, and which in turn could be used for paying taxes (see the youtube video "The N-Euro Solution").

But if that's not already enough to provide some input for the public debate that is so desperately needed, here's another idea.

On the 9th of October, 11 of the 17 Eurozone countries agreed to implement a Financial Transaction Tax. That was certainly great news, but I have been unable to find much detail about precisely what will be taxed. I get the impression that the objective is mainly to tax share trading.

But how about the European Central Bank imposing a Financial Transaction Tax on all Foreign Exchange trading involving Euros?

The level of foreign exchange trading is quite mind-blowing. It's difficult to get a complete picture, but every three years, the Bank for International Settlements spends a month collecting data. It's an amazing source of information, that I have discussed in detail in previous posts, such as one that I did in january 2011. The last report was based on trading during April 2010, and revealed that on average, the total level of foreign exchange transactions was virtually $4 trillion PER DAY. The number had doubled since 2004, as shown in the following table (from page 7 of the BIS report).

With around 250 trading days per year, we can safely assume that this add up to about $1 quadrillion in a year.  39.1% of that trading involved Euros (see graph from page 13), meaning that we can assume trading in Euros would be about $400 trillion in a year, or a little over €300 trillion if we assume an exchange rate of about $1.30 per euro.

So, it follows that if those transactions were subject to a financial transaction tax, the potential revenues could be hundreds of billions of euros a year. That money could be distributed directly to the 17 eurozone governments simply on the basis of their population size.

Who could object? Well, certainly not the banks. After all, as I have repeatedly complained, the 2-3% surcharge that we all get charged by the banks and the credit card companies everytime we make a credit card payment in another currency is a pure Financial Transaction Tax. If I make a purchase from Amazon.co.uk with my French credit card, they add 2% or even more to the bill, simply for multiplying the amount in pounds sterling by the current exchange rate. There is simply no way that such charges can be justified.

So, imagine what would happen if the ECB charged the people doing Euro foreign exchanges the same "handling charge" imposed by the banks. That would (in principle) generate 2% of €300 trillion every year - i.e. €6 trillion. At that rate, the entire eurozone government debt could be paid off ia couple of years (Eurozone government debt currently stands at €8.2 trillion).

OK. I agree that the banks would probably object to 2%. But, logically, there is no reason why the handling charge imposed by the ECB should not be the same as the one charged by the banks on their customers.

So, let's make it 0.1%. That could still generate a very useful €300 billion a year.

Of course, people will say that the €300 trillion of trading in euros would collapse, and there would hardly any money coming in. That's fine too. We really don't need $1 quadrillion of foreign exchange a year. If trading in euros dropped fell to just 1% of the current levels, the only consequences would be that (a) traders would have to find something more useful to do with their money, and (b) the exchange rate instability that plagues international trading would decrease.

Intriguingly, the geographical distribution of foreign exchange trading is incredibly biased. According to the BIS report "Banks located in the United Kingdom accounted for 37% of global foreign exchange market turnover, followed by those in the United States (18%), Japan (6%), Singapore (5%), Switzerland (5%), Hong Kong SAR (5%) and Australia (4%)." The Eurozone countries don't even get a mention (see the graph below)! And yet 39.1% of the trading involves Euros!

Why should all those traders be allowed to play with our money for free? A financial transaction tax on Euro foreign exchanges seems only fair.

What I like about the idea of getting the ECB to impose the tax on Euro trading is that it would not prevent the traders trading other currencies. As you can see from the next table, the traders in the City would still be able to play with the other currency pairing to their hearts content. They would still be able to continue doing $568 billion a day in exchanges between US dollars and Yen, $360 billion a day in dollar/sterling, $249 billion a day in USD/AUD, $168 billion a day in USD/CHF and so on. They won't be out of a job. At least they won't be unless all the other central banks decide to impose a tax on trading in their currencies too.

Finally, in case you are worried that the figures that the BIS provided for April 2010 may no longer be valid, fear not. In fact, something like 68% of all Foreign Exchange trading is handled by a single company - CLS. And, according to their latest news release "The average daily value submitted to CLS was US$5.19 trillion, up 16.9% from US$4.44 trillion in August. And you can download the latest monthly report for August 2012 as a pdf file. And that is just one company.

Taxing Foreign Exchange Transaction carried out in Euros should be a piece of cake when the activity is so highly concentrated.

So, in conclusion, this seems to me like a very fair and reasonable way to (a) limit speculation on the Euro, and (b) provide a substantial source of revenue to the European Central Bank that could be directly used to help Eurozone governments get out of debt.

What are we waiting for?

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