The government needs to rethink its policy and impose the levy, not on deposits, but far more broadly on bank balance sheets. Otherwise, it is simply making it easy for banks to pass on this new cost to customers, write Mary Dowell-Jones and Ross Buckley.
OPINION: Bank levies were introduced in Europe after the Global Financial Crisis, following an International Monetary Fund report recommending them as a way to recoup some of the enormous costs these countries incurred in bailing out their banks. Treasurer Joe Hockey has now said he intends to impose a levy on bank deposits in the upcoming budget.
Details of the proposal are so far sketchy, but it seems the Treasurer's proposal is for a tax of 0.05 per cent on bank deposits up to $250,000 to raise $500 million a year to endow a Financial Stability Fund. In his words, "it's meant to pay for a potential bank failure", but it is unclear whether the fund will be earmarked solely to compensate deposit holders covered by the Financial Claims Scheme (our form of deposit insurance), or whether it will be a more general fund to cover the costs of resolving failing financial institutions.
First, the Treasurer needs to explain why deposits are the right basis for this levy. Deposit insurance schemes can be funded in different ways, included on a risk-adjusted basis where an assessment of the institution risk is incorporated into the premiums charged. The Reserve Bank of Australia's submission to the Financial System Inquiry suggested 'a small fee on ADIs' to fund the FSC, which leaves it open to different funding models.
Details currently available suggest that the levy will apply at a flat rate to all insured deposits. This virtually ensures the cost will not be borne by the banks at all but will be passed on to deposit holders in the form of lower returns. This is dumb policy. The levy will depress returns on savings, discourage a savings culture and fall disproportionately on older workers and retirees living on accumulated savings.
The RBA suggestion was that "users would pay for the benefit provided". But the benefits of deposit insurance accrue in the first instance to the banks, not depositors. Banks can be less prudent in their risk- taking when their depositors' money is externally guaranteed.
Secondly, the aim is for the levy to raise $500 million a year, but deposits covered by the Financial Claims Scheme currently total some $647 billion. So endowing a Fund will take many decades and it would help to know whether the Government has set a target ratio of coverage of insured deposits by the fund.
Thirdly, this policy seems to assume that, should an Australian bank fail, all the Government will do is compensate insured depositors. Yet, as the GFC taught us, this is unrealistic. If one Australian bank fails, others will be in trouble because they are invested in similar assets, and because a bank failure will cause a run on other banks and an exodus of funds from Australia that, within, days will transmit the problems to the remaining banks.
Deposit insurance alone does not stop a run on a bank, as Britain learnt with Northern Rock. The way this proposal for a bank deposit tax is currently set out, it assumes in the event of a bank failure that the Australian Government will do no more than honour its commitments under the Financial Claims Scheme. This is unrealistic given how much the Australian economy now depends upon our financial markets.
Europe now has deposit insurance schemes and bank resolution funds, and each is funded separately by the banks. If our Government is aiming to use this levy to fund a financial stability/resolution fund, the base for the levy needs to be much broader. Bank levies in Europe are applied right across bank balance sheets: Britain applies them to the global consolidated balance sheets of British-headquartered banks, and subsidiaries of foreign banks in Britain; the French bank levy applies to risk weighted assets. Applying it only to deposits will neither raise enough money nor be fair because consumers will underwrite the risk-taking by banks.
The Government needs to rethink this policy, and impose the levy, not on deposits, but far more broadly on bank balance sheets. Otherwise, it is simply making it easy for banks to pass on this new cost to customers.
Mary Dowell-Jones is a Research Fellow and Ross Buckley is Scientia Professor and CIFR King & Wood Mallesons Chair in International Finance Law in the Faculty of Law, UNSW.
This opinion piece was first published in the Sydney Morning Herald.