Yes there is a strong case for taxing banks to compensate for the implicit subsidy they receive from the state, and because there’s good reason to suspect there’s an large element of rent seeking as opposed to productive economic activity in what they do. And that tax could be applied both to the earnings of shareholders (i.e. profits, dividends) and to the earnings of bankers (salaries, bonuses) who benefit from it. However the scope for doing so unilaterally is limited.

It is not at all obvious that the Robin Hood transaction tax is the right way to do this. There are better ways to aim taxes at curbing systemic risk (penalizing leverage and ‘too big to fail’ size), and there’s no particular reason to think a transaction tax would reduce the after-tax size of bonuses etc.

There are even ways to reform banking that would mean it no longer receives an implicit subsidy from the state, and which would also limit the scope for rent seeking, big bonuses etc. That should be our first goal – using taxes to improve the existing system is second best.

http://www.kotlikoff.net/content/modest-proposal-limited-purpose-banking

He says that banks are now being subsidised to the tune (according to the Bank of England) to the tune of £100 bn a year – mostly through the taxpayer funded safety net to prevent banks failing.

Yet their annual tax bill is just £20 bn. Without that subsidy to the finance sector, the public finances would look a whole lot healthier, and the cuts would not need to be so fast or so deep.

I don’t see how this follows – the £100bn figure isn’t real money, and it isn’t paid out to the banks. It’s the estimated value of the effective guarantee to the financial sector (according to the FT, incidentally, this subsidy is entirely made up of the guarantee, not mostly). As such it doesn’t appear in public spending figures and doesn’t impact on the deficit.

Stephens doesn’t go into any detail here about this guarantee – if he’s talking about the Credit Guarantee scheme, then he’s being disingenuous: it’s offered at a commercial rate and thus isn’t really a subsidy at all. If he’s talking about a more intangible ‘guarantee’ that the state won’t allow the financial sector as a whole to crash, then estimates as to its value will vary day by day.

The IFS had an interesting summary of the various Government support schemes for the financial sector:

http://www.ifs.org.uk/budgets/gb2009/09chap8.pdf

Quick summary:

The government has taken a huge stake in bank assets – through provision of guarantees; through extension of liquidity support, as well as outright purchases of assets, by the Bank of England; through buying equity stakes; and through nationalisation.

None of this represents a handout provided to banks without, in exchange, claims on cash flows. The support measures may not generate a net cost to the government – indeed, if the economy evolves along the lines of the Treasury forecast, that is quite likely.

But the claims the government has acquired do not create symmetric risks where there is as much chance of very profitable returns as of large losses. Much of the support is in the form of guarantees which, as a form of insurance, create risks of big losses but not of large gains. Taking on these big risks is something the government should not shy away from in the middle of a banking crisis. But this makes it essential to take steps to reduce the chances of such crises happening again.

That’s more likely to be through raising capital ratios and requiring a more stringent risk analysis than it is by levying an annual levy of £100bn on the financial sector.

“bankers will have to accept that they must contribute substantially more to the public purse before the public accept that justice has been done.”

By “public” I presume you mean “left wing activists”, in which case this presumably will be never?

the £100bn figure isn’t real money, and it isn’t paid out to the banks

I don’t think that’s the point. If the government said to any industry “we will make sure you never go bust and your creditors will always be repaid” then that industry’s cost of capital will be low and its earnings will be higher as a result – although I accept this doesn’t necessarily follow in theory, I’d argue it does in practice [1]. Anyway, the idea is that the banks wouldn’t be able to make money hand over first if they faced a ‘true’ cost of capital. This state guarantee has a real cost to the tax payer (risk, demands on the public purse at a time when the public purse is likely to be strained anyways – when banks are collapsing), even if money isn’t “paid out” to the banks, and it makes straightforward sense to charge the banks for this guarantee. Anyway, isn’t it a basic principle of economics that if agents do not face the right prices, they do not allocate resources efficiently – so taxing the banks can be seen as correcting prices.

[1] I don’t have a ready answer for why competition does not erase excess earnings so that the subsidy is passed on the the consumer, as opposed to being captured by bank shareholders and bankers. However, if you look at data on financial sector revenues, returns on capital, banker earnings etc. it’s pretty hard to deny that’s what’s happening.

This state guarantee has a real cost to the tax payer (risk, demands on the public purse at a time when the public purse is likely to be strained anyways – when banks are collapsing), even if money isn’t “paid out” to the banks, and it makes straightforward sense to charge the banks for this guarantee

But it’s not a cost that impacts directly on spending figures. The idea that the Govt is ‘giving’ banks £100bn a year is misleading. The actual guarantees (for wholesale funding and deposits) are paid for at commercial rates, and are subject to State Aid laws that means they can’t be provided as a subsidy.

“But it’s not a cost that impacts directly on spending figures.”

No, or at least, not until it maybe does.

If I offer you free insurance against hurricanes, that isn’t going to “impact directly on my spending” figures until there is a hurricane.

As it happens, the actual ‘direct impact’ on the government’s finances from the bailout (the hurricane insurance payout) turned out to be modest [1], but that doesn’t change the fact that by offering insurance the government is providing the banks with something of commercial value that is not currently fully covered by what the banks pay for deposit insurance etc. It makes perfect sense to charge them for it, and to make sure banks face the right prices.

Moreover, there are ways of charging them for it that might change bank behaviour with the beneficial effect of reducing the probability of hurricanes and the damage done when they hit.

[1] there are arguments that this modest direct cost is illusory, and that monetary policy and other government tools were used to ensure the direct cost was modest – by re inflating bank profits – imposing costs elsewhere in the process. So “taxpayers” really were hurt by the bailout by much more than the notional small direct cost suggests. I am not on top of these arguments. Some of them are wrong or at least much exaggerated, like for instance the common idea that the government is providing the banks with funds at low rates then borrowing it off them again at high rates:

http://krugman.blogs.nytimes.com/2011/01/25/are-low-rates-a-subsidy-to-banks/

@5 and 6

As Tim J says, gaurantees are paid by banks at commercial rates, but what is not included is the cost to the banking system of government demands outside those levied by taxes.

Being a primary dealer means you are obliged to hold a lot of gilts, which costs money and is a benefit to the government, not least because the banks act as agents for a government’s bond sales. Primary dea;ers also are obliged to bid for a certain amount of each auction regardless of if they ave a end buyer behind them – they can get left holding the baby.

Holding tier 1 capital is also a major cost for a bank, especially if by locating in a country you are forced to hold that countries bonds rather than other countries paper which would be cheaper to hold.

It’s too long a topic to go into, but the point I’m trying to make (before even going into how much tax banks and their employees have *already* contributed to the UK economy) is that the relationship is not one way – governments need large investment banks to help manage their finances as well – not least as a backstop and salesman in their bond auctions.

Also where did you get the figure that banks pay £20 billion of tax?

Estimates for tax take from the financial sector vary between £40-50 billion.

This is all very laudable but I think such ideas really miss the big picture. Big finance is too big and too powerful and those who run it wield far too much influence over the general policy orientation of the state. You will never get an appropriate, just and effective economic policy orientation which does not pander to the banks until that fundamental issue is addressed. The issue is not the public finances, taxes or bonuses. The real issue is democracy and the corrosive effects of concentrated private power.

@9

You won’t get your wish until the state stops borrowing so much money and being so reliant on the finance industry and its employees as a source of taxation.

@ Luis

I don’t have a ready answer for why competition does not erase excess earnings so that the subsidy is passed on the the consumer, as opposed to being captured by bank shareholders and bankers.

I do.

Because there is no genuine competition in the financial services industry. It is a bloated oligopoly and that is due to government failure to regulate the market. Some will say they connived in creating it.

@11 pagar

It does appear that way, doesn’t it? I thought cartels and the like were frowned upon.

” Yet their annual tax bill is just £20 bn. Without that subsidy to the finance sector, the public finances would look a whole lot healthier, and the cuts would not need to be so fast or so deep. ”

As Tim J suggested this is a complete nonsense argument. An implicit subsidy is not the same as handing over $100 billion, so an implicit subsidy has nothing to do with the public finances. The public finances before the financial crisis were too dependent on financial services for tax revenue. For example, before the FC five ‘ under-taxed ‘ banks alone accounted for one quarter of corporation tax received by the Treasury. Apparently the solution to this problem is to increase our dependency? Call me cynical but that might not be such a great idea.

One of the major explicit subsidies is depositors have their deposits guaranteed by the state up to the value of £50,000. This is a subsidy for depositors not banks. Although, one could argue that it is also an implicit subsidy for the banks as it prevents bank runs. However, there never was any guarantee on deposits in British banks until the EU forced the British government in 1979 to guarantee deposits. If you want to reduce the subsidy on the banking sector remove the guarantee on deposits.

Pagar

100% agree:

> Because there is no genuine competition in the financial services industry. It is a bloated oligopoly and that is due to government failure to regulate the market.

Small things… like when they allow ‘the interest rate on so-called Savings Accounts to gradually fall until they pay less than new Current accounts ! Surely, that would be simple and clear to outlaw.

Or how Pension Funds get away with charging as ‘management fee’ 1, 2 or 3% _each year_, against your whole fund. Yes, against your whole fund, not just the new money that went in.
Labour tried to encourage lower cost pensions (Stakeholders), where the fee was capped at 1% if I recall…but not sure the industry really promoted it..wonder why?

> Because there is no genuine competition in the financial services industry. It is a bloated oligopoly and that is due to government failure to regulate the market.

Why not the exact opposite?

How easy is it to start a bank? Much paperwork, at all?

15. Alix

> Because there is no genuine competition in the financial services industry. It is a bloated oligopoly and that is due to government failure to regulate the market.

” Why not the exact opposite? ”

Because contrary to what some people believe there is not much money to be made in high street utility /narrow banking unless the institution has scale. The high street commercial banks lose money on most accounts because unlike most other countries they offer free banking. They make money by selling you other financial products but if you do not buy the other products from them then your bank account is almost certainly losing them money. The authorities would love to have some new banks on the high street. There has been no rush of new banks setting up because the barriers to entry for new banks is you need to be large to make money.

Standard Life set up an online bank. Even with nearly two centuries of experience and a large data base they could not make money from it and sold it to Barclays. There will be no rush of new institutions on the high street because the profit margins do not justify the investment. Nobody is going to open up 500-1000 branches without any existing customers.

@ 16 Richard

“but if you do not buy the other products from them then your bank account is almost certainly losing them money”

Yep. I believe that the banks are in the wrong over the whole overdraft charges issue, but a lot of people have a bizarre sense of entitlement in this regard. They call a bank “grasping” because it charges people for going overdrawn, but apparently never stop to consider that their bank gives them chequebooks, debit cards, access to branches, call centers and online banking, not to mention a safe place to keep their money, all pretty much for free. Because, y’know, it’s a bank account and you’re just entitled to one, right?

“Yet their annual tax bill is just £20 bn. Without that subsidy to the finance sector, the public finances would look a whole lot healthier, and the cuts would not need to be so fast or so deep.

The Robin Hood Tax campaign has advocated a doubling of that current tax take, yielding a further £20 bn a year, which would still leave the finance sector over-subsidised and under-taxed.”

Owen, you’re still continuing with your insane insistence that a transactions tax would be paid by the banks. It wouldn’t be, we know that.It will be paid by hte consumers of financial services.

Further, it’s highly likely that the burden of the tax upon consumers will be higher than the revenues raised.

We’ve been over this again and again and I cannot see why you refuse to take such obvious truths onboard.

An implicit subsidy is not the same as handing over $100 billion, so an implicit subsidy has nothing to do with the public finances.

Richard W you are wrong about that – “public finances” is the guarantor behind the implicit subsidy – you might as well say that offering hurricane insurance has nothing to do with insurance company finances.

Richard W you are wrong about that – “public finances” is the guarantor behind the implicit subsidy – you might as well say that offering hurricane insurance has nothing to do with insurance company finances.

The potential cost of this implicit guarantee is not accounted for in the formal National Debt statistics (even as a part of the cost of financial interventions), and certainly not in the annual deficit figures. It may be that you could account state liabilities in such a way that all inchoate possible liabilities are covered – but that’s not how it’s done currently.

And the insurance company analogy doesn’t really work – an insurance company offers specific coverage and has defined maximum exposure. The whole point of the Govt ‘guarantee’ is that it’s unspecific and informal – and thus hard to account for. It’s certainly not as straightforward as ‘we give them £100bn a year, they should give it back’.

Tim J,

but that’s not where the $100bn figure comes from. That’s the estimated value to the banks of being able to borrow at lower interest rates, thanks to the reduced risk to lenders originating in the implicit subsidy. The $100bn is not based on an estimate of the public finance’s “exposure”, which as you say is very uncertain.

honestly, if you don’t believe me, ring up Mervyn King and have him explain it to you.

I’m glad Chaise @16 points out that whilst overdraft charges aren’t pleasant, it’s not unreasonable to expect the bank to want something in return for all of the services it provides people for free.

21 – yes I do understand that (thank you…) but the ‘cost’ to the Govt of this implicit guarantee is predicated on a theoretical exposure of everything going tits up and needing to be rescued (again). And it’s that figure that is the theoretical ‘liability’ to the Govt, and affects (or doesn’t) the debt/deficit statistics.

Incidentally, I know this is ploughing an ancient furrow but the headline is once again pretty misleading. It’s banks that should be paying more, not bankers. And to pre-empt Tim W, if you’re looking at where the actual incidence of this tax would fall, it’s customers you should be looking at, not bankers.

” He says that banks are now being subsidised to the tune (according to the Bank of England) to the tune of £100 bn a year – mostly through the taxpayer funded safety net to prevent banks failing.

Yet their annual tax bill is just £20 bn. Without that subsidy to the finance sector, the public finances would look a whole lot healthier, and the cuts would not need to be so fast or so deep. ”

@ Luis

Owen Tudor is clearly implying that there is a monetary cost that adds to the deficit when he says ‘ Without that subsidy to the finance sector, the public finances would look a whole lot healthier, and the cuts would not need to be so fast or so deep. ‘ The truth is without that implicit subsidy the public finances would be unchanged.

I do not know how Governor King arrived at the £100 billion figure. It seems a suspiciously round figure that he made up as it would not be an easy figure to calculate without a lot of assumptions and guesswork. However, I agree that there is an implicit subsidy. I agree that no other industry enjoys such an implicit subsidy. I disagree with the almost conspiracy theory idea that the politicians guarantee the system because the banks have them by the balls. They backstop the system because they rightly in my opinion believe the alternative would be worse. Now some people disagree that the alternative would be worse and I respect that.

The aftermath of the relatively small investment bank Lehman is an indication how interconnected the system is. Therefore, because they enjoy an implicit subsidy that no one else gets I agree that they should pay for that implicit subsidy. Absolutely no disagreement on that point. However, throwing crazy figures around and suggesting that the banks would always take the hit on their margins gets us nowhere. If removing the implicit subsidy raised their cost of capital well they would all be in the same boat and would pass it on to customers commercial and domestic. Some sort of insurance premium or levy is perfectly fair and equitable.

Tim J / Richard W

I do apologise – what I was writing about has nothing to do with how liabilities are recognised in the national accounts, nothing to do with the deficit etc. I hadn’t picked up on what you two had: Owen has clearly misunderstood things, the subsidy is not adding to the deficit.

@ 22 Ten Truths

“I’m glad Chaise @16 points out that whilst overdraft charges aren’t pleasant, it’s not unreasonable to expect the bank to want something in return for all of the services it provides people for free”

To clarify, my issue with overdraft charges is that they’re set up to get poorer and more vulnerable customers to subsidize middle-income clients (rich current-account customers tend to pay their way, for obvious reasons), because it’s a better business model than charging everyone £5 a month for their account and just not letting people withdraw funds they don’t have. The bank certainly needs to make a profit one way or the other.

And there are also those dodgy arrangements where you get charged, which takes you past your limit, which gets you charged again. But not all banks do that (Barclays, which has since changed its system anyway, didn’t do this, and it also had a limit on how many charges you could get a month).