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'Polluter pays' principle for banks - 26/05/2010

Euro notes in piggy bank ©EU

Commission proposes a bank tax to cover the costs of winding down banks that go bust

The proposal represents the commission’s first concrete effort to forge a common approach to bank taxes, which have become more popular with EU governments since the financial crisis. The lack of EU-wide rules could also lead to competitive imbalances between national banking markets. It also threatens to hamper cross-border cooperation in the event of another crisis.

Under the plan, governments would use the revenues from bank taxes to set up funds that would operate under a common set of rules. The funds could be tapped to resolve bank failures in an orderly fashion.

The money would help cover costs like legal fees, temporary operations, and the purchase and management of bad assets. By providing a ready source of cash, these ‘bank resolution’ funds would help contain the crisis and prevent fire sales of assets.

A number of countries, including Germany and Sweden, have introduced or are considering introducing bank taxes. But there is no consensus on how much to tax or how to use the money. Some countries want to use the funds to ward off future bank crises or to recoup their losses from the current one. Others are eyeing bank taxes as a way to reduce their deficits.

Single market commissioner Michel Barnier said the funds would not be an insurance policy, used to prop up banks in distress. Rather, it is hoped they will help avoid taxpayer-sponsored bailouts by lessening the knock-on effects one bank’s demise on the rest of the industry.

“I believe in the ‘polluter pays’ principle. We need to build a system which ensures that the financial sector will pay the cost of banking crises in the future,” Barnier said.

During the financial crisis, governments throughout Europe and around the world spent huge amounts of public money to rescue banks and shore up their economies.

For now the tax would be limited to banks. It would not, for example, apply to investment funds or insurance institutions. Bank contributions could be based on their liabilities, assets or profits – the exact method remains to be determined. The amount, too, is still an open question, with IMF suggesting between 2% and 4% of GDP.

The proposal complements the EU’s plan for managing future financial crises, which calls for more supervision, better corporate governance and tighter regulations.

The EU may present the idea to the Group of 20 as a way of dealing with doomed banks globally. EU leaders are expected to discuss the proposal in June ahead of the G20 summit in Toronto later that month.

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