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Tobin tax and market depth

  • G. Ehrenstein
  • F. Westerhoff
  • D. Stauffer

This paper investigates - on the basis of the Cont-Bouchaud model - whether a Tobin tax can stabilize foreign exchange markets. Compared to earlier studies, this paper explicitly recognizes that a transaction tax-induced reduction in market depth may increase the price responsiveness of a given order. We find that the imposition of a transaction tax may still achieve a triple dividend: (1) exchange rate fluctuations decrease, (2) currencies are less mispriced, and (3) central authorities raise substantial tax revenues. However, if the price impact function is too sensitive with respect to market depth, stabilization may turn into destabilization.

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Paper provided by in its series Papers with number cond-mat/0311581.

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Date of creation: Nov 2003
Date of revision:
Handle: RePEc:arx:papers:cond-mat/0311581
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  1. Brock, William A. & Hommes, Cars H., 1998. "Heterogeneous beliefs and routes to chaos in a simple asset pricing model," Journal of Economic Dynamics and Control, Elsevier, vol. 22(8-9), pages 1235-1274, August.
  2. Lux, T. & M. Marchesi, . "Volatility Clustering in Financial Markets: A Micro-Simulation of Interacting Agents," Discussion Paper Serie B 437, University of Bonn, Germany, revised Jul 1998.
  3. Kempf, Alexander & Korn, Olaf, 1999. "Market depth and order size1," Journal of Financial Markets, Elsevier, vol. 2(1), pages 29-48, February.
  4. Cont, Rama & Bouchaud, Jean-Philipe, 2000. "Herd Behavior And Aggregate Fluctuations In Financial Markets," Macroeconomic Dynamics, Cambridge University Press, vol. 4(02), pages 170-196, June.
  5. James Tobin, 1978. "A Proposal for International Monetary Reform," Eastern Economic Journal, Eastern Economic Association, vol. 4(3-4), pages 153-159, Jul/Oct.
  6. Mende, Alexander & Menkhoff, Lukas, 2003. "Tobin Tax Effects Seen from the Foreign Exchange Market's Microstructure," International Finance, Wiley Blackwell, vol. 6(2), pages 227-47, Summer.
  7. Vasiliki Plerou & Parameswaran Gopikrishnan & Xavier Gabaix & H. Eugene Stanley, 2001. "Quantifying Stock Price Response to Demand Fluctuations," Papers cond-mat/0106657,
  8. Rama Cont & Jean-Philippe Bouchaud, 1997. "Herd behavior and aggregate fluctuations in financial markets," Science & Finance (CFM) working paper archive 500028, Science & Finance, Capital Fund Management.
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