This Maple Leaf Doesn’t Crumple

Apart from a tax on debt, the I.M.F.’s proposal would also tax banks’ profits before salaries and bonuses. The Financial Activities Tax is not designed to correct any particular behavior in the market. Inasmuch as the I.M.F. proposes that receipts should be paid into governments’ general revenues and not into a resolution fund, its relevance for financial stability is unclear.

 

Consensus Will Prove Elusive

In seeking to address banks’ incentives to take on risks, levies are a poor substitute for effective regulation. It would be naïve to assume that the implementation of the I.M.F. plan will serve as a panacea. Moreover, bank levies may be altogether unnecessary if sound regulation is able to bring banks’ incentives into alignment by addressing market-structure issues directly. And so it should come as no surprise that Canada has been among the countries objecting to the proposal as it now stands. In both Canada and Australia, relatively healthy financial institutions have not required stabilizing capital injections.

At last week’s meeting of the G20 nations’ finance ministers and central bank governors, Canada’s objections held sway with many of the participants among emerging economies. Going into the meetings in Washington, Canada was largely on its own in opposing the bank tax. By the meeting’s close, a number of emerging economies had apparently offered support to Canada’s position. Canada’s dissent could scuttle the proposal, since anything short of universal implementation opens the door for regulatory and tax arbitrage.

In the United States, the creation of the specific fund may prove to be the I.M.F. proposal’s Achilles’ heel. The British government has expressed concerns about moral hazard that parallel the Republican Party’s opposition to the “bailout” fund. Britain’s chancellor of the Exchequer, Alistair Darling, has said that “a systemic risk levy should not be seen as an insurance policy to benefit individual institutions, shareholders or creditors. To minimise moral hazard, the proceeds of a levy should go into general taxation rather than a stand-alone fund.”

The Institute of International Finance (IIF) disagrees. “The IIF sees no merit in the idea that any levy on the financial sector should be paid into general revenue. Neither do we believe that an ex-ante levy on the banking system should be used to finance the bailing out or recapitalization of failing institutions,” it wrote in an a statement released over the weekend.

In sending the I.M.F. back to the proverbial drawing board, the G20 conceded substantive disagreements on the fund’s proposal: “We call on the IMF for further work on options to ensure domestic financial institutions bear the burden of any extraordinary government interventions where they occur, address their excessive risk taking and help promote a level playing field, taking into consideration individual countries’ circumstances.”

Not since February’s Olympic hockey final has Canada wielded so much power on the rink. The Canadians hold the advantage: The G20 heads of state will revisit the I.M.F. proposal when they reconvene for their summit meeting in Toronto in late June.

schandan@rcanalytics.com

 

Sam Chandan, Ph.D., is global chief economist and executive vice president of Real Capital Analytics and an adjunct professor of real estate at Wharton.