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One Guy Pulls the Handle Too Hard, All the Slot Machines Come Up Lemons

Speculation and the Market Meltdown

by Scott Klinger

Yesterday a single trader errantly programmed a computer to sell billions of Proctor & Gamble stock rather than the millions he intended. The mistake sent other traders scurrying and the Dow plummeted almost 1,000 points in a half hour. 

It was as though one man yanked the handle on a slot machine with a force so great that it not only broke the handle, but also sent thousands of other slot machines in motion. When they finally rested, every machine came up three lemons. 

In the aftermath, policy makers are focusing on the ways computers are being used to control the market and questioning the reliability of the technology. But it’s clear that computers are merely the tool that executed the problem. The root cause, however, was speculation.  

Fortunately, there is a reasonable means by which Congress could discourage speculation — the adoption of a financial speculation tax. The tax would raise the cost of trading modestly, but enough to make it unprofitable for the most egregious speculators. 

It has gotten too easy to borrow money and sell securities that you don’t own. Bettors are allowed to sell shares they do not have and could never afford. When they do so, they turn legitimate markets into casinos. It’s gotten so absurd that yesterday’s attempt to sell billions of shares of P&G set off no bells, even though Proctor and Gamble only has 2.9 billion shares outstanding.

Another important reason behind the explosion in speculation is the precipitous fall in trading costs. You know the come-on: $7.95 per trade no matter how many shares. If you can trade millions or even billions of shares and incur trading costs similar to buying a Value Meal at McDonald’s, the blessing for you can quickly turn into a curse for everyone else.  

Yesterday wasn’t the first time the world has seen the ugly face of speculation. Two years ago the dramatic run-up in world food prices was hardly noticed by Americans, but meant hunger and death for millions of our global neighbors. The media reported this as a “food price crisis” — one caused not by failed crops or droughts, but by speculators seeking their gain at others’ expense. Likewise, last year’s upward spiral in oil prices that sent gasoline in some parts of the country to $5 a gallon, we know now was fueled by oil speculators.  

If Congress enacted a speculation tax, most investors would pay a small amount, but for those with the intention of holding stocks for the long-term, this fee would be more like an insurance policy against the market fires lit by speculators. For instance, one recently proposed financial speculation tax would impose about a $14 annual fee on someone with a $10,000 mutual fund investment. That’s far less than fees paid to fund managers and investment advisors. Retirement savings would be exempt.

There is considerable global interest in adopting such a tax, with the political leaders in France, the United Kingdom and Germany all voicing their support. Thus, if we succeed in running speculators out of our market, they’ll not be welcome in the markets of our trading partners either. There is also support from leading investors in the United States, including Warren Buffett and John Bogle, the founder of Vanguard Investments who popularized low-cost index fund investing. Sadly, the White House and Treasury Department continue to oppose this proposal.  

In addition to dampening speculation in our markets, the financial speculation tax could raise $100 billion, money that could be used for job creation at home or to fulfill U.S. commitments to support international public health, poverty alleviation and adaption to climate change, faced by those in developing nations. 

We can’t allow the greediest among us to walk into the public market place and unilaterally turn it into a private casino. We need many greed-controlling tools; a tax on financial speculation is certainly one. 

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