Financial Regulatory Forum

BREAKINGVIEWS-Bank liability levy may not be foolish

By Reuters Staff
January 12, 2010

– The author is a Reuters Breakingviews columnist. The opinions expressed are his own –

By Hugo Dixon

LONDON, Jan 12 (Reuters Breakingviews) – A levy on bank liabilities would get the industry squealing — certainly if it approached $120 billion. But the Obama administration is not barmy to float the idea. Crafted in the right way, this could be a useful way of recouping bailout costs while also giving banks an incentive to behave more sensibly in future. It doesn’t have to apply just to the United States either.

Populism aside, the main rationale for a liability levy is that the size of a bank’s liabilities is a goodish proxy for the risk it poses to the financial system — as well as the benefit it received from the cheap money that central banks have used to flood the market as a result of the credit crunch. It is only reasonable that banks should pay the authorities for access to their lender of last resort facilities.

There is one big proviso. Deposits should be taken out of the liability bucket. In the United States, along with several other countries, banks already have to pay deposit insurance fees — so including them would amount to double taxation. Any new liability tax should therefore focus just on wholesale money, which is a riskier “easy come, easy go” form of funding. With such a levy in place, banks would have an incentive to build up their deposit bases — something that regulators across the world are urging them to do anyway.

There is, though, a big question. Should such a “hot money” tax be an ongoing part of the fiscal framework or a one-off windfall? The argument in favour of permanence derives from the fact that it is best viewed as an insurance premium in return for an ongoing benefit.

But there is a case for a special one-off levy in addition to an ongoing tax — to take account of the fact that banks have had a huge gift in the past two years. Walter Bagehot, the 19th Century British economist, said that, in a crisis, central banks should lend freely but at penal rates. But during the recent crisis, the authorities thought the industry was too fragile to pay through the nose. Now that it is making bumper profits, this could be an opportunity to claw back some of that benefit.

CONTEXT NEWS

– The Obama administration is thinking of taxing banks according to the size of their liabilities, according to media reports. The new tax would aim to recoup the cost of the bailout and, according to some reports, might reach $120 billion.

– A liability levy is one of several options being floated. Another is a windfall tax on bank profits. The administration appears not to be keen on either a tax on financial transactions — a so-called Tobin tax — or a tax on bankers’ bonuses.

(Editing by Chris Hughes and David Evans)

((hugo.dixon@thomsonreuters.com))

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