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Economist: The IMF and Taxing The Banks

Stick 'em up

April 22, 2010

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The IMF's proposals to tax the banks will be popular, but are incomplete.

The IMF used to be accused of clobbering little people in order to protect Big Finance. Now it is devising ways to squeeze the banks in order to defend society. Its proposals for taxing the world's financial firms will be debated by the G20 in June. Any banker who assumes they are another bit of theoretical wonkery should think again. Many hard-up Western governments now have a recipe for raising levies that are lucrative, wildly popular and come with the imprimatur of capitalism's policeman. Surely it can't get better than that?

Actually, it could. As a central part of the world's response to the problem of too-big-to-fail finance, the proposals get only a B-plus. They include one good idea (arrived at for fuzzy reasons), one bad idea and one missed opportunity.

The good idea is to tax part of financial firms' liabilities-crudely put, their debt. When banks are deemed too big to fail, they can borrow abnormally cheaply. This funding subsidy is at the root of many evils. It is why bankers' fat bonuses, paid from profits boosted by cheap funding, are unfair. It gives banks a potentially dangerous incentive to get bigger and riskier. And it is why badly run firms can still command market confidence. Where such a subsidy exists, taxing it back to tackle these perverse incentives is both just and essential.

The IMF proposes just such a tax, but it is rather vague about why. It wants banks to pre-pay for the next crisis, which it reckons might cost 2-4% of each country's GDP, with the levy probably going into a bail-out kitty. A tax specifically designed to recapture the subsidy might actually be higher than this. And there is some quirky fine print. By casting the net widely, the IMF seems to include insurance companies, even though their main liabilities are reserves for payments to customers, something no one should have a problem with. And though its desire to tweak the tax to reflect firms' risk to the system is understandable, it risks duplicating new rules on bank capital.

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