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Taxing the banks?

November 8th, 2009 · No Comments

An idea launched from a surprising corner (nominally) socialist British Prime Minister Gordon Brown. But is it any good?

We’ll discuss below, first the article

UK gives impetus to global banks tax
By Huw JonesPosted 2009/11/07 at 1:44 pm EST

ST ANDREWS, Scotland, Nov. 7, 2009 (Reuters) — Britain urged world governments on Saturday to consider a levy on banks to fund future bailouts, departing from long-held opposition, though there was little sign of the consensus needed to make it fly.
Britain’s Prime Minister Gordon Brown addresses the G20 Finance Ministers meeting at a hotel in St. Andrews, Scotland November 7, 2009. REUTERS/Andrew Winning

British Prime Minister Gordon Brown raised the idea at a weekend meeting of Group of 20 financial leaders in Scotland — ending London’s resistance to such moves on behalf of its huge financial sector.

The United States, key to the success of any global initiative, rejected a tax on day-to-day transactions, though it left the door open to other ways to protect taxpayers from losses. Canada was also lukewarm.

“A day-by-day financial transaction tax is not something we are prepared to support,” U.S. Treasury Secretary Timothy Geithner told reporters.

“This idea (of a bank transaction tax) has been around for a long time … I think frankly the experiences are mixed.”

In a briefing later, though, he also signaled the United States would engage in work to seek ways to recoup the costs of future bailouts and protect the economy and important institutions like pension funds from banks’ losses.

“I think it’s fair to say that this view is shared by many countries that we need to build a system in which tax payers are not exposed to such risks in future,” Geithner told reporters.

British Prime Minister Gordon Brown joined earlier calls from France and Germany in saying it was time for banks to give something back after governments have poured billions of dollars to shore up the sector.

Brown’s intervention took the G20 by surprise though he was careful to list several tough conditions before Britain would actually commit to a new levy, such as full support from all the world’s top financial centers, including the United States.

Canada said banks that get into trouble should bear the consequences but a tax may not be the best solution.

“It’s one of the ideas that’s on the table, but is not particularly attractive to me as finance minister of Canada. We have been a government that has been reducing taxes,” Jim Flaherty told reporters.

IMF REVIEW

Britain this week forked out another 30 billion pounds on bailing out two of its biggest banks for the second time, and opinion polls all show Brown heading for defeat at the hands of opposition conservatives in next year’s election.

“We should discuss whether we need a better economic and social contract to reflect the global responsibilities of financial institutions to society,” Brown told the G20 meeting.

“There have been proposals for an insurance fee to reflect systemic risk or a resolution fund or contingent capital arrangements or a global transaction levy,” he said.

Brown said the International Monetary Fund would review the possibility of a global transaction tax and report back in April next year.

“I do not in any way underestimate the enormous and difficult practical and technical issues that will need to be overcome that a globally cohesive system requires and raises.

“But I do not think these issues should prevent us from considering with urgency the legitimate issues I have discussed,” he said.

IMF Managing Director, Dominique Strauss-Kahn, said it was probably impossible to find a transaction tax that would not be avoidable by potential taxpayers.

“So it will be based not on transactions but on something else,” Strauss-Kahn said.

A bank sector tax, including a “possible windfall tax for 2009, a one shot thing” and a more long-term tax were two possibilities, Strauss-Kahn added.

Banks have already warned the G20 that if they have to meet new higher capital charges too soon, they will have less money left to lend and aid recovery.

Britain has repeatedly rejected a long-standing idea for a so-called Tobin Tax on cross border foreign exchange transactions to quell speculation.

G20 officials said the levy mentioned by Brown would be broader and could be on all financial transactions or bank earnings. The levy would be small, perhaps around 0.005 percent, much lower than a Tobin Tax.

———[End of article]———

We’ll give you some things to consider:

  1. The financial system has clearly been (at least in part) dysfunctional. This could be considered a market failure as the costs of that dysfunction are socialized (bail-outs, wider economic effects), the benefits (pay and other benefits) are to a considerable extent private (there are, of coarse social benefits from even a dysfunctional financial system as many companies do manage to get loans, society maintains an efficient payments system, etc.).
  2. As these figures on both the cost and benefit are rather staggering, one could argue that this market failure is rather large and significant. That would still be something of an understatement, in our view.
  3. Taxing is one instrument to correct market failures, regulation would be another (they are certainly not mutually exclusive, both are needed in our view)
  4. Political legitimacy is also an issue, as we are frankly surprised that there has been so little outright protest over bank behaviour. Taxing banks could at least seen to be
  5. Bailing out financial institutions not only is extremely expensive, it also reinforces the moral hazard problem (it stimulates risky behaviour as, indeed, the benefits are private and the costs are socialized).
  6. Because of their crucial position in the economy, banks have considerable ‘hold-up’ power. Not only does failure ensue systemic risks, bank lending, or the lack thereoff holds up the economic recovery at least in part.
  7. There is very little evidence banks have learned from their past mistakes.
  8. What form of taxing is most appropriate is not a straightforward issue. For instance, one thing to consider is that taxes that are supposed to be world-wide create the risk of loopholes to which banks might flock (rather like tax havens). However, if tax rates are small (which they will be, as the tax base is very large), this is unlikely to happen in a meaningful way. That is, we cannot see banks moving en-masse to say Lichtenstein if there is a few tenths of a percentage taxation on international financial transactions (that so called ‘Tobin’ tax).

Tags: Credit Crisis · Public Policy · Reform Capitalism