Foreign exchanges part 4
Some economists, many of them European, are against the foreign exchange market. They see it as an ongoing illustration of the untold evils of capitalism. Price fluctuation, globalization of trade and more precisely the pronounced imbalance between the volume of transactions on the foreign exchange market and the much lower volume on the international goods market are thought to show that the exchange market is an evil nuisance that needs to be mastered. At the turn of the millennium, these economists impelled some governments, especially those in Europe, to implement the Tobin tax as a means of regulating foreign exchange markets. Conceived at the outset of the 1970s, the taxation proposed by James Tobin (who won the 1981 Nobel Prize in economics) was meant to equip the mechanisms of currency exchange markets with a grain or two of sand. It was a matter of levying small-scale customs duties any time that capital was converted from one currency into another. Capital would be submitted to customs charges, just as drivers pay a toll when using a motorway or turnpike. It was assumed that even minimal tax rates would paralyze speculation in so far as the latter feeds on infinitesimal fluctuations. The benefits derived from this operation would contribute favorably to the World Bank.
Our economists viewed this as a question of stemming the flow of the speculative capital that was supposedly causing financial and monetary crises. If speculators’ dealings were brought to an end, it was thought that currency fluctuations would diminish and monetary crises be avoided. In fact, even a small degree of taxation does have a significant impact on a speculative market; speculators do often bet on perhaps minimal price fluctuations. And yet those economists have forgotten that a transaction on the foreign exchange market involving two currencies is often the result of transactions between many other currencies. To use the same example as before, when a Turkish firm purchases Polish goods, it must sell the Turkish pounds in its possession for zlotys. But there is quite probably nobody who, at precisely the same time, needs to sell exactly the same quantity of zlotys for Turkish pounds. In order to perform this transaction, banks are compelled to purchase Turkish pounds from the firm and go on to sell them for a given quantity of euros; these will be sold for dollars; the dollars may perhaps be sold for yen; then the yen could be sold for roubles, which would be sold for the aforementioned zlotys. By levying even a token tax on each transaction, our economists render exchanges between the zloty and the Turkish pound unaffordable.
They have perhaps conveniently forgotten that the proposition formulated by James Tobin stems from a time (before 1971) when foreign exchange was fixed under the Bretton Woods agreement. His idea consisted in preserving some national monetary autonomy. Arbitrage tends to keep interest rates on the monetary market at the same level in all the currencies of the world once risk factors are taken into account. This prevents central banks from carrying out independent monetary policies. If a slight taxation of speculative movements has a negligible effect on an isolated transaction, it amputates an annual yield by 2.5 percent if there is only one movement per week. This taxation would leave a ‘‘margin’’ for central bankers to intervene on their interest rates. In a fixed-rate system within the framework of the Bretton Woods agreements, each member of the IMF pegged the value of its currency to that of gold, which meant in practice that it was pegged to the dollar at a time when the latter still respected the gold standard. In this system arbitrage transactions were numerous, but the present-day floating exchange rate system renders them exponentially greater. Parities result from transactions between two currencies, amid hundreds of others; in a ‘‘floating’’ rate system, adjustments are multiple and manifold. That is why intercurrency transactions are of much higher volume than that of the underlying, related transactions in goods. That is also why, according to the figures issued by the IMF, 80 percent of FX transactions are reversed in a week or less.