Warnings for Europe, US From Italy’s Trading Tax
Europe's much-vaunted trading tax hit an early hurdle on Friday, when the introduction of a small-scale version in Italy saw trading volumes plummet. What's more, analysts warn that Italy's new tax will drive investors elsewhere and will fail to raise any revenue.
On Friday, Italy moved ahead of other European Union member states to introduce a levy on both exchange-based and over-the-counter share trading, as well as high frequency trading. Exchange-based trades will be taxed at 22 basis points, while over-the-counter trades will be taxed at 12 basis points. High frequency trades will be taxed at 2 basis points.
"The net effect of all of this … is increasing the cost of the trade. And that is going to result in, I believe, people ceasing to trade Italian securities," Tanuja Randery, CEO of trading platform MarketPrizm in London, told CNBC.
The concept of financial transaction taxes or "Tobin" taxes originated with Nobel Laureate economist James Tobin in the 1970s. The idea has re-emerged since the financial crisis, with politicians in Europe seeing it as a way to make banks pay back the taxpayer money they received, and those in the U.S. hoping it could help plug the fiscal deficit.
Last week, Democratic Senator Tom Harkin and Representative Peter DeFazio proposed a bill to add a 3-cent tax on each $100 in financial transactions. The Congressional Joint Tax Committee has said the tax could raise $352 billion over a decade. However, the White House remains opposed.
The idea has gained more traction in Europe, where 11 EU countries, including France, Germany, Greece, and Spain, plan to introduce a pan-European financial transaction tax in January 2014, which will affect most equity, debt and derivative transactions. The U.K. will not participate.
It is unclear why Italy moved ahead of the pack with the tax, but the impact on Italian stocks was evident on Friday. Volumes on Milan's benchmark index, the FTSE MIB, were at 30 percent of their 90-day average, according to Reuters, lagging activity on Germany's DAX by around two-fifths and the U.K.'s FTSE 100 by two-thirds.
However, investors may also have been deterred from trading Italian stocks due to the country's uncertain political climate. Last week's national election failed to give any political party a sufficient majority and it remains unclear how and when a government will be formed. In addition, the upsurge in votes for anti-austerity parties means the reform moves introduced by technocrat leader Mario Monti are less likely to be continued.
(Read More: Why the Italian Vote Is a German Failure)
Nonetheless, Randery warned the dampening effect of the tax could be long-lasting, citing the example of France, which launched its own cash trade levy last August. She said that since the introduction of the tax, French market share of European trading has fallen to its lowest level since 2008, standing at 11.88 percent in January 2013, down from 17.3 percent in 2011.
"I think we are going to see dark pools shut their pools because off-exchange means 22 basis points — nobody is going to able to trade with that," she said.
"I think you are going to see liquidity split between markets."
Italy's levy is expected to be expanded in July to include all equity derivatives. However, Randery said the tax would fail to achieve its purpose of raising revenue.
"In my view, this does not raise any money at all because what is going to happen is the cost of issuing securities is going to go up, which means you are not going to raise as much capital this way, which means people are going to stop investing. If you take the business dynamics approach, it is just a negative cycle," she said.
Joe Rundle, head of trading at ETX Capital in London, said the tax was "poorly thought out," with no definitive list of which stocks are covered, no clear means of market-marking exemption and an unclear mechanism for collecting the tax and netting trades on the same day.
"In short it is a poorly thought-out tax which will probably result in lower volumes in Italy. If I was floating a company I would not do it in Italy for this reason and I imagine some companies are thinking about changing their primary listings away from it."
Randery said that if Italy's early introduction of the tax is a means of testing the scheme on a one-country basis, it is a mistaken ploy.
"If it is a test, it is a complex test, because our financial clients are going to have to redo a whole bunch of things when the European tax is introduced, because the European tax is going to look different from this tax," she said.
Tom Elliott, global strategist at JP Morgan Asset Management, said the Europe-wide financial transaction tax will drive trade away from continental Europe.
"The Tobin tax began ostensibly as a tax on currency foreign exchange trading and it was going to help the poor. It has been hijacked by your traditional anti-Anglo Saxon American capitalist politicians to be a general tax on moneymaking, because they do not like it."
"It does beg the question: 'Well you don't like it in Europe, will you like it if you see it go to the U.S., Singapore, or wherever?'" he said.
—By CNBC's Katy Barnato