Regulation could make bank FAT tax unnecessary
The global banking industry resembles an obese teenager. All the relatives agree that drastic weight loss is necessary, but each has a different diet plan. The International Monetary Fund’s splendidly named FAT tax would slim down the banking sector by targeting profits and pay.
The Financial Activities Tax comes in two varieties. The simple version is a straight tax on a bank’s gross profits — before deducting compensation. A low rate could raise significant sums: the IMF reckons a FAT tax of just 2 percent on UK banks would raise 1.4-2.8 billion pounds.
The simple FAT tax would resemble a value-added tax for financial transactions. Most countries do not levy VAT on banking because it is too hard to work out where the value is added to loans. This tax advantage may prompt financial sectors to bulk up unhealthily.
However, the simple FAT tax has drawbacks. Because it applies to the whole industry, banks would be able to pass on the additional cost to their customers. Also, in countries that do not have a general VAT, like the United States, this special banking tax would actually increase distortions.
The complex FAT tax aims directly at excess bank profit and pay. This would raise less money but would address the banking sector’s core problem: the implicit taxpayer guarantee that enables financial institutions to consistently earn super-profits in good times — and distribute a large chunk of the spoils to employees.
But this proposal is indeed complex, or perhaps arbitrary. It relies on an official calculation of the “normal” level of bank profits and the “normal” level of pay. That sounds close to impossible.
Besides, global bank regulators are already pushing through measures that should achieve the same outcome as the complex FAT tax. Higher capital requirements will depress returns and resolution schemes should allow failing banks to be shut down safely, helping to remove the “too big to fail” subsidy.
Such measures may not offer as much help to cash-strapped governments as a FAT tax. But regulation, not taxation, is the better way to cut these banking behemoths down to size.