Balancing the Regulation and Taxation of Banking

Balancing the Regulation and Taxation of Banking

Sajid M. Chaudhry, Andrew W. Mullineux and Natasha Agarwal

This concise book gives a unique overview of bank taxation as an alternative or a compliment to prudential regulation or non-revenue taxation. Existing bank taxation is reviewed with a view to eliminating distortions in the tax system, which have incentivized banks to engage in risky activities in the past. The authors analyse the taxation of financial instruments trading, as well as the taxation of banking products and services to gauge whether this could finance resolution mechanisms and also help to ensure the stability of banks.

Chapter 2: Regulations and taxation

Sajid M. Chaudhry, Andrew W. Mullineux and Natasha Agarwal

Subjects: economics and finance, financial economics and regulation, international economics, money and banking

Extract

The International Monetary Fund (IMF, 2010) proposes the use of taxes and regulations to counteract micro- and macro-prudential risk in the financial system. Although regulations have traditionally been used to try to ensure banking stability, their focus has primarily been on micro-prudential regulation and supervision. The GFC emphasized the need for a macro-prudential framework that can address systemic risks and hence focus on the stability of the financial system as a whole. We portray the taxation of banks as a macro-prudential regulation. This idea of using regulatory ‘taxes’ and other micro- and macro-prudential policy measures, including the implementation of fiscal taxes and surcharges and credit controls, has been pursued by policy makers around the world for some time. For instance, a number of Asian countries, including Hong Kong, have long used restrictions on loan-to-value ratios, capital inflows and other ad hoc measures to limit internal or external vulnerabilities. Over a decade ago, the General Manager of the Bank for International Settlements (BIS), Andrew Crockett (2000), proposed marrying the bank-specific micro-prudential and the systemic macro-prudential dimensions of financial stability in a speech that proved prescient. Keen (2011) considers the choice between taxation and regulation measures to bring about the stability of a financial system. He lists the following factors that can help balance tax and regulatory measures: 1) income effects; 2) uncertainty; 3) asymmetric information; and 4) institutional issues. First, taxation strengthens public buffers to address bank failure and crisis, whereas regulation focuses on private buffers.

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