The Relationship Between Financial Transactions Costs and Economic Growth

The opponents of financial transactions taxes (FTTs) have argued that the imposition of such taxes will slow economic growth by raising the cost of capital. The argument is that if the cost of buying and selling stock and other financial assets is higher, then it makes it more expensive for firms to raise capital. This is true even if the initial sale is exempted from the tax, since the fact that future sales will be subject to the tax will lower the price of stocks sold in the secondary market, which would mean that even initial offerings will command a lower price. However, there are reasons for believing that offsetting factors could mean that higher transactions costs do not have a negative impact on growth and could even have a positive impact. This paper reviews some of the arguments as to why higher transactions costs may actually lead to better working financial markets. It then examines the relationship between growth and transactions costs for a limited set of countries for which transactions cost data are available. It finds that for this group of countries that is a strong positive relationship, with higher transactions costs actually being associated with higher growth.