One Fundamental and Two Taxes: When Does a Tobin Tax Reduce Financial Price Volatility?

Yongheng Deng, Xin Liu, Shang-Jin Wei

NBER Working Paper No. 19974
Issued in March 2014
NBER Program(s):Asset Pricing, Development Economics, International Finance and Macroeconomics

We aim to make two contributions to the literature on the effects of transaction costs on financial price volatility. First, by using a research design with three ingredients (a common set of companies simultaneously listed on two stock exchanges; binding capital controls; different timing of changes in transaction costs), we obtain a control group that has identical corporate fundamentals as the treatment group and is therefore far cleaner than any in the existing literature. We apply the research design to Chinese stocks that are cross-listed in Hong Kong and Mainland. Second, we entertain the possibility that a given transaction cost can have different effects in immature and mature markets. In an immature market where trading is dominated by retail investors with little knowledge of accounting and finance, a Tobin tax should have the best chance of generating its intended effect. In a more mature market, higher transaction costs may also discourage sophisticated investors, hence impeding timely incorporation of fundamental information into prices. We find a significantly negative relation in the Chinese market, on average, between stamp duty increase and price volatility. However, this average effect masks some important heterogeneity. In particular, when institutional investors have become a significant part of traders' pool, we find an opposite effect. This suggests that a Tobin tax may work in an immature market but can backfire in a more developed market.

download in pdf format
   (300 K)

email paper

Machine-readable bibliographic record - MARC, RIS, BibTeX

Document Object Identifier (DOI): 10.3386/w19974

Journal of Financial Economics forthcoming citation courtesy of

Users who downloaded this paper also downloaded* these:
Frankel w5422 How Well do Foreign Exchange Markets Function: Might a Tobin Tax Help?
Graham, Leary, and Roberts w19910 A Century of Capital Structure: The Leveraging of Corporate America
Patel, Wang, and Wei w20236 Global Value Chains and Effective Exchange Rates at the Country-Sector Level
Fu, Qian, and Yeung w19400 Speculative Investors and Tobin's Tax in the Housing Market
Bloom, Romer, Terry, and Van Reenen w19951 Trapped Factors and China's Impact on Global Growth
NBER Videos

National Bureau of Economic Research, 1050 Massachusetts Ave., Cambridge, MA 02138; 617-868-3900; email:

Contact Us