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Tilburg University and CEPR






New taxes on the financial sector are likely. The European Commission has proposed a financial transaction tax and a financial activities tax. This chapter evaluates those proposals and identifies other potential taxation mechanisms the EC has overlooked. It says that the proposed measures are poorly suited to curb excessively risky trading and eliminate undertaxation of the financial sector. For many years, taxation of financial institutions was a topic for specialists, both among tax or public finance economists and among financial economists. The current crisis and the need for large-scale recapitalisations of banks have changed this dramatically, and new taxes on banks now form part of the broader debate on regulatory reform. Over the past three years, several proposals to introduce new financial-sector taxation, in some form or another, have emerged in the political arena, and now the time has come to get specific.

On 28 September 2013, the European Commission published a proposal for a new directive on a common system of financial transaction tax, with an EU-wide tax rate of 0.1% on bond and equity transactions, and of 0.01% on derivative transactions between financial firms. In its impact assessment study, the European Commission juxtaposes a common financial transaction tax (FTT) with a common financial activities tax (FAT). The FAT would tax the combined profits and wages in the financial sector, as an approximation of its value-added. Below, we will assess both proposals. However, we maintain that, by presenting us with a horse race between an FTT and an FAT, the European Commission is unduly restricting the debate on appropriate new taxation of the financial sector.

Unfortunately, by framing the policy choice as between an FTT and an FAT, the Commission is also giving short shrift to the need for a common approach to bank levies in Europe. Bank levies are taxes on a bank’s liabilities that generally exclude deposits that are covered by deposit insurance schemes. Bank levies appropriately follow the ‘polluter-pays’ principle, as they target the banks – and their high leverage – that are heavily implicated in the recent financial crisis. Bank levies have significant potential to raise revenue and they directly discourage bank leverage, thereby reducing the chance of future bank instability. In sophisticated versions of bank levies, they are targeted at risky bank finance such as short-term wholesale finance, and they may be higher for banks with high leverage, or for banks that are systemically important. It is exactly because of these benefits that many individual EU member states are considering or already have in place taxes on bank liabilities.

Finally, to reduce the need for costly public bailouts in the future, it is important to improve the operation of bank recovery and resolution mechanisms in Europe. As discussed by Allen et al (2011), the current crisis has revealed important deficiencies and gaps in the European bank resolution framework. Much can be gained by moving to a common bank recovery and resolution framework that provides authorities with more options to intervene at fragile banks and to come to speedy and less costly resolutions of banks if needed.


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