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Has anyone in the quantitative finance or financial engineering community studied the effects of a bid or ask tax with actual or simulated data?

If so, what were the quantitative results or predictions for the market?

The kind of data I am curious about could arise as part of a before/after study of a market adopting such a tax, or it could arise as part of a financial engineering simulation comparing various form of possible but as yet unimplemented market taxes.

Definitions: A bid or ask tax is different from a transactions tax or stamp duty in that it is payable even on unexecuted limit orders. In other words, submitting a buy order or sell order will create a tax cost even if the order is not accepted by a counterparty for execution. For example, if the market is trading at $20-$20.01, and you send in a limit order to buy at a lower price (e.g., $19, $20) and because the market moved up the limit order expires untraded at the end of the day -- you still owe the tax. The tax might be small per limit order but would add up across participants, especially because it is owed even if someone doesn't successfully transact.

One research issue has been how it would affect behavior.

I am aware of two quantitative studies from the experimental economics literature:

Jamison and Plott, “Costly offers & the equilibration properties of the multiple unit double auction under conditions of unpredictable shifts of demand & supply” Journal of Economic Behavior and Organization, V. 32, (1997)

and

Noussair, Robin, and Ruffieux, "The effect of transaction costs on double auction markets" Journal of Economic Behavior and Organization, V.36, (1998)

The studies are similar. In a human subject laboratory, supply and demand curves are established by secret limit orders from the experimenter to the subjects and the subjects are allowed to trade with each other on a computerized system. Bids, asks, and trades on the laboratory exchange are recorded. The studies differ in that Jamison and Plott moved around the supply and demand parameters between repetitions of the experiment whereas Noussair, et.al. held the parameters constant for a while.

In both studies, the addition of the bid and ask tax lowered transaction volume and reduced a common measure of market efficiency that is measurable in laboratory markets [but perhaps not in the field].

Noussair also reports that even with the lower volumes and efficiency, prices still converge to the competitive equilibrium. The competitive equilibrium in the lab is determined by the intersection of the supply and demand curves set by the experimenter.

While these laboratory results are interesting, I am curious whether there are any quantitative results from financial markets or financial engineering studies seeking to advise governments or exchanges about policy.

Has anyone in the quantitative finance or financial engineering community studied the effects of a bid or ask tax with actual or simulated data?

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  • $\begingroup$ This is a much better way to phrase the question. $\endgroup$
    – chrisaycock
    Commented Apr 13, 2012 at 2:46
  • $\begingroup$ Just to make sure I understand: say, market is 20.00 - 20.01, you submit a buy order at 20.00, market moves up (and away from your order), and you not only get no execution, but also pay a fee? $\endgroup$
    – LazyCat
    Commented Apr 13, 2012 at 2:53
  • $\begingroup$ @LazyCat Yes, it is that pathological. I would expect such a tax to be vehemently opposed by traders, although there are some notorious auction sites that successfully sell tangible goods that way. $\endgroup$
    – Paul
    Commented Apr 13, 2012 at 3:00
  • $\begingroup$ @LazyCat I edited the question a bit to make this clear. Also I think the correct terminology would be "limit order tax" although I've generally heard it called a bid or ask tax. $\endgroup$
    – Paul
    Commented Apr 13, 2012 at 3:06
  • $\begingroup$ OK, so the market is 20.00 - 20.01 and you post a bid at 20.00. If you're not super-fast, then you're likely to end up far in the back of the stack, and you're likely to get executed only when the market is going against you from 20.00-20.01 to 19.99 - 20.00 and loose money because of that. So you loose either way. Not much incentives for trading, right? $\endgroup$
    – LazyCat
    Commented Apr 13, 2012 at 3:14

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It seems that you speak about a "quote tax". In Europe some markets now ask for fees for orders even if they are not executed if you exceed an order to trade ratio to prevent them from cpu-harrassing flows. Let s wait and see what will append.

The effect should be similar to the One of a tax.

The real question is: how can you make the difference between an order inserted, not executed, but cancelled after 3 hours and a sequence of 60 orders inserted and cancelled after 3 seconds, 60 times more fees/taxes?

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