December 11, 2013 1:49 pm

European financial transactions tax suffers backlash

The EU is to debate the first drafts to a reshaped European financial transactions tax that would potentially exclude trading of sovereign and public debt but further clamp down on high-frequency trading.

The compromise paper, seen by the Financial Times, indicates how far EU member states want to restrict the European Commission’s proposals to introduce a €35bn eurozone levy with global reach.

It has been put forward by Lithuania, the current holder of the European presidency, ahead of a meeting of the 27 EU countries in Brussels on Thursday.

The current plans have come under fire from the financial services industry, corporations and even some of the central banks of the countries it would cover, who have argued it would damage the market and investors rather than the financial industry it has targeted.

Eleven eurozone states – including France, Germany, Spain and Italy – want to agree a joint tax but negotiations stalled as key states objected to the original plan’s broad scope and the practical risks of implementing it.

As a compromise, Lithuania is proposing discussing exempting all collateral management and repo market transactions but expanding the tax to include all deals conducted before they are cleared.

The latter would hit many high-frequency traders and electronic market makers whose trades are netted off in a clearing house, lowering their exposure to a tax.

However, the Lithuanian paper did not address the key issue of extraterritoriality or the legality of the tax.

In September, the EU Council legal service concluded that the tax exceeded national jurisdiction, infringes EU treaties and was discriminatory to non-participating states.

Many high volume repo markets, such as government bonds, are key sources of short-term and overnight loans for banks.

In recent months, banks have also turned to cheap loans from the European Central Bank.

But banks are expected to return to the repo market amid a scramble to find higher quality assets for trading amid tightening regulation requiring investors to back their deals with more collateral.

Some large banks now offer “collateral transformation services”, promising to turn less-liquid assets, such as corporate bonds, into cash that can be used by their clients as security at clearing houses.

Among the 13 points Lithuania has also proposed to discuss are a “more equivocal” proposal for exempting issuance of money market instruments; and the exclusion of all transactions by central banks and the Bank for International Settlements.

It is also proposing exempting parts of the trade cycle that take place after a deal has been done, such as the compression of large OTC derivatives portfolios.

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