After this brief introduction it becomes clear that the realization of a financial transaction tax would predominantly serve the goal of preventing future financial crises by reducing instability in financial markets (high volatility).
In the following thesis, the author will first set up a model displaying a financial market with two heterogeneous agents to explain to what extent their trading behaviours have an impact on the stability of the relevant market.
In a second step, the model will be extended to two relevant markets the agents can choose to trade in and the effects of an application of a transaction tax will be depicted. Due to the fact that the reaction of financial markets to a tax introduction depends on various factors the main goal of this work will be to test to what extent the market liquidity in combination with an imposed transaction tax has an impact on the price adjustment process across several periods. For this reason, the set-up model will be programmed in ‘mathematica’ where after the output will be interpreted. Furthermore, a possible influence of upcoming political events will be elucidated briefly before the results of the main question are stated and discussed. To represent a succinct perspective there will be a brief analysis about the odds of a tax introduction and a mentioning of possible further research.
Table of Contents
1. DEFINITION AND EXPLANATION OF THE TOBIN-TAX AND ITS RELEVANCE FOR FINANCIAL MARKETS
2. MODELLING A SCENARIO INCLUDING THE TRANSACTION TAX IN FINANCIAL MARKETS
2.1. INTRODUCTION OF THE MODEL INCLUDING TWO HETEROGENEOUS AGENTS
2.2. EXTENSION OF THE BASIC MODEL TO TWO RELEVANT MARKETS
2.3. DYNAMICS OF THE MODEL WITHOUT A TRANSACTION TAX
2.3.1. Implication and resulting Dynamics of a Transaction Tax in Market 1
2.3.2. Implication and resulting Dynamics of a Transaction Tax in two relevant Markets
2.4. BRIEF OUTLINE OF MARKET LIQUIDITY AND COMPARISON OF BOTH MARKETS REGARDING THEIR LIQUIDITY
2.4.1. Market 1 showing a high Level of Market Liquidity before a Tax Imposition
2.4.2. Market 2 showing a low Level of Market Liquidity before a Tax Imposition
2.4.3. Comparison of both Markets after a Tax Imposition
2.4.4. The Enforcement of a Financial Transaction Tax in Reality
3. RESULTS
4. CRITIQUE AND FURTHER RESEARCH
Research Objectives and Key Topics
The primary objective of this work is to examine the impact of a financial transaction tax on market stability and price adjustments across different market liquidity conditions. By employing a simulated model with heterogeneous agents, the study investigates how trading behaviors, such as chartism and fundamentalism, react to taxation in both single and multi-market scenarios.
- Theoretical foundation of Tobin-tax and financial market regulation.
- Computational modeling of agent-based financial market dynamics.
- Analysis of market liquidity as a determinant for volatility and stability.
- Evaluation of transaction tax efficacy in markets with varying levels of liquidity.
Excerpt from the Book
2.1. Introduction of the Model including two heterogeneous Agents
For reasons of simplicity, the following model will first deal with a hypothetical financial market in which agents (also named traders) are able to freely perform speculative actions regarding their price development expectations (Westerhoff, 2003a). According to a study by Menkhoff (1997), there are two types of professional traders following two different set of rules regarding their trading strategies. Both kind of traders are considered to be bounded rational. Following Simon (1955), the available information is incomplete and agents in general are not capable of processing it perfectly. This can be further applied to financial agents as well. On the one hand, there are Chartists who give their orders following a technical analysis [named positive feedback trading (Westerhoff, 2003a)], meaning that they form their orders by relying on price trends from the past. More precisely, [Chartists] expect prices to reflect all information needed to predict future price trends (Murphy, 1999). In general, technical traders expect the price of an asset to follow a certain trend and try to extrapolate future price developments from past trends. In other words, agents following technical trading rules buy the asset if the price has been increasing in the past because they expect a further rise. Vice versa they [Chartists] sell the asset if the price has been decreasing because they expect the price to drop further (Murphy, 1999).
On the other hand, there are traders - they will be referred to as Fundamentalists in the following - expecting the asset price to drift off in the short-run, but to converge to its fundamental value in the long-run (Westerhoff, 2008). More precisely, Fundamentalists buy the asset if the current value is below its fundamental value because they assume the price will approach the fundamental value i.e. it will increase in this context. The asset will be sold by Fundamentalists if the asset price exceeds its fundamental value because the agents expect the price to drop and converge to its fundamental value (Moosa, 2000).
Chapter Summaries
1. DEFINITION AND EXPLANATION OF THE TOBIN-TAX AND ITS RELEVANCE FOR FINANCIAL MARKETS: This chapter introduces the theoretical concept of the Tobin-tax and its intended purpose of mitigating speculative volatility in financial markets.
2. MODELLING A SCENARIO INCLUDING THE TRANSACTION TAX IN FINANCIAL MARKETS: This chapter establishes the mathematical agent-based model, detailing the strategies of Chartists and Fundamentalists and how these interact within one or two markets.
3. RESULTS: This section interprets the simulation outcomes, demonstrating how market liquidity levels fundamentally alter the effectiveness and stability consequences of an imposed financial transaction tax.
4. CRITIQUE AND FURTHER RESEARCH: The final chapter discusses implementation challenges for transaction taxes and identifies the need for further empirical studies regarding market liquidity and volatility.
Keywords
Tobin-tax, Financial Markets, Market Liquidity, Agent-Based Modeling, Volatility, Chartists, Fundamentalists, Speculation, Price Adjustment, Financial Regulation, Market Stability, Transaction Costs, Heterogeneous Agents, Economic Modeling, Simulation
Frequently Asked Questions
What is the core focus of this research?
The research focuses on the economic dynamics of financial markets when subjected to a transaction tax, specifically examining the impact of heterogeneous trading behaviors and market liquidity.
Which agents are modeled in this simulation?
The model incorporates two main types of traders: Chartists, who use technical analysis to follow price trends, and Fundamentalists, who trade based on an asset's perceived fundamental value.
What is the primary goal of the study?
The primary goal is to determine the extent to which market liquidity influences price stability when a transaction tax is implemented across different market scenarios.
What methodology is employed to analyze these dynamics?
The author uses computational simulation, specifically programming a model in 'Mathematica' to generate and interpret output based on predefined trading rules and market variables.
What is covered in the main body of the work?
The main body covers the theoretical definition of the tax, the construction of the agent-based model, simulations of single and dual-market scenarios, and the critical role of market liquidity in absorbing or amplifying the effects of taxation.
Which keywords define this work?
Key terms include Tobin-tax, market liquidity, agent-based modeling, volatility, price adjustment, and financial market regulation.
How does market liquidity affect the success of the tax?
High market liquidity can help absorb transaction shocks and maintain stability; conversely, in low-liquidity environments, the tax may lead to higher price distortion and extreme market swings.
Why are Fundamentalists significant to the model?
Fundamentalists are significant because their behavior tends to drive asset prices back toward fundamental values, thereby acting as a stabilizing force in the market, as opposed to the destabilizing nature of trend-following Chartists.
- Quote paper
- David Kunze (Author), 2017, Tobin-Tax and its Relevance for Financial Markets. Modelling a Scenario including the Transaction Tax in Financial Markets, Munich, GRIN Verlag, https://www.grin.com/document/388831
