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High-Frequency Trading and the "Transaction Tax"


Michael Tasselmyer
April 11, 2014

When most of us think of trading on the floor of the New York Stock Exchange, images of traders frantically running across the room as they take orders over the phone come to mind. Many Americans also trade at home, relying on internet services or financial advisors to relay the latest information on the stocks and funds that they're interested in.

However, there is growing concern that automated "high-frequency trading", which utilizes computer algorithms and software to make split-second decisions as trading conditions change in real-time, might give some traders an unfair advantage over others. The problem stems from the idea of marginal profit -- that is, even very small profits on minor trades can accumulate into larger ones so long as the trader conducts enough transactions. Software and computer algorithms are already capable of trading at exponentially higher speeds than the every-day financier, yet some firms spend hundreds of millions of dollars to cut down on communication time even further in order to get their hands on a stock first, then immediately resell it at a marginally higher price.

Author Michael Lewis has chronicled the debate in a recent book and several media appearances. The issue has gotten the attention of some lawmakers on Capitol Hill, too, who are pushing a national transaction tax in response. That tax would be levied on every financial transaction that investors make, which, according to Congressman Keith Ellison (D-MN), could serve as a deterrent for firms who are supposedly gaming the system by conducting thousands of small transactions at a time and rely on the very small marginal profits made on each one.

Ellison's idea -- which he has dubbed the "Inclusive Prosperity Act" -- attempts to counteract the effect of "Wall Street speculation" that "is currently subject to zero sales tax on its trillions of dollars of annual transactions- while consumers regularly pay sales taxes even on daily necessities." It has been proposed before in previous sessions of Congress.

NTUF featured an even broader transaction tax proposal in a 2012 edition of The Taxpayer’s Tab. Congressman Chaka Fattah's (D-PA) Debt Free America Act proposed to eliminate the personal income tax, virtually all tax credits, and the Alternative Minimum Tax and replace them with a one-percent fee on each and every cash, credit, debit, and stock or bond transaction. While it's unknown whether the bill would have any administrative costs associated with tracking every financial transaction Americans make, Rep. Fattah claims that his legislation will generate enough revenue to pay down the national debt in just ten years. Variations on that proposal include a 0.35 percent tax on all transactions, which proponents argue would simplify the current tax system and expand the revenue base.

Since our feature on Rep. Fattah's legislation, NTUF has offered a preview of other tax reform proposals -- including the Fair Tax and a flat tax -- that have been proposed in Congress. You can read our analysis here.


 

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