tag:theconversation.com,2011:/id/topics/bank-levy-38728/articlesbank levy – The Conversation2017-06-29T03:38:08Ztag:theconversation.com,2011:article/800732017-06-29T03:38:08Z2017-06-29T03:38:08ZSouth Australia’s bank levy might be legal, but it may also be politically unviable<p>South Australia’s new bank levy, projected to earn <a href="http://www.abc.net.au/news/2017-06-22/sa-budget-focuses-on-jobs-banks-foreign-investors-targeted/8637738">A$370 million over four years</a>, seems to be constitutionally valid but it remains hostage to political machinations. </p>
<p>While precise details are sparse, the <a href="https://www.revenuesa.sa.gov.au/taxes-and-duties/major-bank-levy">Major Banks Levy</a> will target those institutions liable for the <a href="http://www.aph.gov.au/About_Parliament/Parliamentary_Departments/Parliamentary_Library/FlagPost/2017/June/The_Major_Bank_Levy_explained">Commonwealth bank levy</a> (Commonwealth Bank, ANZ Bank, Westpac, National Australia Bank and Macquarie Bank). It will impose a state levy of 0.015% per quarter of South Australia’s share (about 6%) of the total value of bank liabilities subject to the federal government levy. </p>
<p>By making Commonwealth grant payments conditional on the removal of a levy, the federal government could force South Australia to abandon its bank levy. </p>
<p>It’s here that South Australia can benefit from the cover provided by the federal government’s bank levy. The federal government would be forced to tread a very tight line if they try to argue that it is fine for them to tap the banks’ honeypot but not for the states to do it too.</p>
<p>With new sources of state funding rare, South Australian treasurer Tom Koutsantonis has exploited this political opportunity, potentially signalling a <a href="http://www.abc.net.au/news/2017-06-26/sa-bank-levy-could-alter-the-federation-after-wa-trouble/8650710">shift of power back to the states</a>. Unsurprisingly, the banks have reacted with fury, mounting their own attack campaign and threatening reprisals. </p>
<h2>Taxation powers in Australia</h2>
<p>The constitutional validity of South Australia’s bank levy rests on the distribution of taxation powers in the Australian federation. The power of the states has been eroded over time as the Commonwealth gradually came to dominate the federation. </p>
<p>The Constitution assigns almost equal power over taxation to the states and the federal government. Under <a href="http://www.austlii.edu.au/au/legis/cth/consol_act/coaca430/s51.html">Section 51(ii)</a> the federal government is granted a power to enact laws with respect to taxation, but “not so as to discriminate between states or parts of states”.</p>
<p>However, <a href="http://www.austlii.edu.au/au/legis/cth/consol_act/coaca430/s90.html">Section 90</a> grants the federal government the exclusive power to impose “duties of customs and of excise”. So a state tax will generally only be constitutionally invalid if it’s characterised as a duty of custom or excise, or if it is <a href="http://www.austlii.edu.au/au/legis/cth/consol_act/coaca430/s109.html">incompatible</a> with a Commonwealth Act. </p>
<p>Back in 1942, the federal government used its power under <a href="http://www.austlii.edu.au/au/legis/cth/consol_act/coaca430/s96.html">Section 96</a> to gain an effective monopoly on income tax. Under the scheme, the federal government levied a uniform tax on income, then gave a grant to the states equal to the income tax they had collected on the condition they cease collecting income tax. </p>
<p>In <a href="http://www.austlii.edu.au/au/cases/cth/HCA/1942/14.html">South Australia v Commonwealth</a> (1942), the High Court upheld this effective takeover of income tax. While states retain the right to levy income tax, the risk of losing Commonwealth grants (together with administrative cost and competitive pressures) has made the <a href="http://www.smh.com.au/federal-politics/political-news/coag-premiers-reject-malcolm-turnbulls-push-to-allow-states-to-levy-income-tax-20160401-gnw4pc.html">proposition unattractive</a>. </p>
<p>The federal government has consolidated more power through the expansive definition given by the High Court to the meaning of “duties of excise” in Section 90. For example, in the court case <a href="http://www.austlii.edu.au/au/cases/cth/HCA/1997/34.html">Ha v New South Wales</a> (1997) a majority of the court held that duties of excise are taxes on the production, manufacture, sale or distribution of goods. As this is an exclusive federal government power, the states are effectively prohibited from taxing goods – such as sales tax. </p>
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<p>The states have instead been forced to rely on a range of relatively inefficient transaction taxes (that is, stamp duties on certain written documents), on land taxes, and on payroll tax (levied on the wages paid by employers). The narrow base of these taxes has seen the federal government come to dominate taxation revenue – collecting more than <a href="http://www.abs.gov.au/ausstats/abs@.nsf/mf/5506.0">80% of tax revenue</a> in 2015-16. </p>
<p>This “vertical fiscal imbalance” leaves the states dependent on federal government grants, together with any conditions attached to such grants. As Professor Alan Fenna has <a href="https://theconversation.com/taxation-the-states-and-redrawing-our-fiscal-constitution-31361">observed</a>, the states are left:</p>
<blockquote>
<p>…scrounging for revenue in economically inefficient or socially undesirable ways and going cap in hand to the Commonwealth.</p>
</blockquote>
<p>With opportunities for the states to introduce new forms of taxation being so limited, the proposed South Australian bank levy is something of a <a href="http://www.abc.net.au/news/2017-06-26/sa-bank-levy-could-alter-the-federation-after-wa-trouble/8650710">game-changer</a>. </p>
<h2>The legality of South Australia’s bank levy</h2>
<p>The levy’s structure doesn’t appear to involve the taxation of goods in a way that would go against Section 90 of the Constitution. The banks are being taxed on the basis of the value of an asset class they hold – in a way that is comparable to land tax. </p>
<p>Given the small percentages involved, this levy does not seem to interfere with the federal government’s levy, and would arguably not be incompatible with it. While relatively novel, the tax appears on its face to be constitutionally valid. </p>
<p>However, the politics of the issue is far more vexed, as the dark shadows of the federal government tied-grants scheme loom over all matters involving state tax. As Western Australia has learned, raising state taxes <a href="http://insidestory.org.au/the-true-story-of-western-australia-and-the-gst">can have catastrophic unintended consequences</a>. After that State raised mining royalties during the mining boom, the Commonwealth Grants Commission drastically reduced its share of GST payments - down to <a href="http://www.abc.net.au/news/2017-03-24/wa-gst-share-falls-to-lower-than-forecast-budget-in-trouble/8384344">34 cents in the dollar</a>.</p>
<p>The fate of the state levy remains uncertain, with the politics very much <a href="http://www.abc.net.au/news/2017-06-27/sa-libs-rethink-bank-tax-support-amid-lobbying-blitz/8657210">in flux</a>. What is clear is that the other states are <a href="http://www.abc.net.au/news/2017-06-23/sa-style-bank-tax-attractive-says-wa-treasurer-ben-wyatt/8646420">taking notice</a>.</p>
<p>With growing frustration over fiscal dependence on the federal government, it seems we may be entering a new phase of innovation in state taxation. Perhaps the federation is not yet dead.</p><img src="https://counter.theconversation.com/content/80073/count.gif" alt="The Conversation" width="1" height="1" />
<p class="fine-print"><em><span>Joe McIntyre does not work for, consult, own shares in or receive funding from any company or organisation that would benefit from this article, and has disclosed no relevant affiliations beyond their academic appointment.</span></em></p>Given the small percentages involved, South Australia’s bank levy won’t interfere with the federal government’s levy, and would arguably be compatible with it.Joe McIntyre, Senior Lecturer in Law, University of South AustraliaLicensed as Creative Commons – attribution, no derivatives.tag:theconversation.com,2011:article/793342017-06-13T02:49:10Z2017-06-13T02:49:10ZA better alternative to levying the bank tax<p>In all the noise and fury surrounding the bank tax, a more effective alternative proposal to implementing it has apparently been forgotten. In 2015 South Australian Premier Jay Weatherill proposed that banking should be subject to the GST.</p>
<p>This idea had much sounder economic underpinnings than the current levy, would have raised much more revenue (maybe three to four times), and would have applied to all banks rather than just the big banks. Of course, that last feature would have united the banks in opposition, in contrast to the current divide and (hopefully) conquer approach of Treasurer Morrison. </p>
<p>Unlike other industries, the traditional business of bank deposit taking and lending is exempt from GST. This creates economic distortions and omits a large part of the economy from being taxed.</p>
<p>The omission of banking from the GST is a product of history, because applying it to the banks was seen as too complicated. The reason lies in the nature of the GST as a “value added” tax. </p>
<p>Essentially the 10% tax is added to the sales price of an output good or service, but the seller obtains a GST credit for the tax component of the price of input goods they have bought. The historical view was that it is difficult to identify what are banking sector inputs and outputs, and thus value added.</p>
<p>Is providing a deposit account an input (in making loans) or an output in its own right? And there is generally no explicit fee charged for the service of intermediation between depositors and borrowers, with bank costs and profits covered by the interest rate spread.</p>
<p>The argument that its too complicated is no longer a sufficient justification. At one level the aggregate “value added” by a bank is easy to estimate. It’s the sum of profits and wages. The size of the profits and wage bills of the banks by itself indicates the potential tax revenue foregone and potential economic distortions caused by favourable tax treatment of banking services.</p>
<p>At the product level, while banks receive input tax credits on purchased inputs they do not add a GST cost to the price of deposit or loan products and services. Introducing GST would mean that banks would need to add the tax on their value added to prices charged (directly or implicitly via changes to interest rates) but would be able to utilise the GST credits they currently get on purchased inputs.</p>
<p>The historical complication was determining how much of aggregate value added and various input costs to allocate to each product. How should the cost of bank premises or teller time be allocated between individual deposit and loan customers?<br>
That is a difficult problem. But banking systems of activity based costing, product and divisional profitability have evolved to enable an application of the GST. It might be an imperfect application, but that is arguably a lot better than none at all.</p>
<p>Exempting traditional banking services from GST is a significant cost to tax revenue. But it also creates economic distortions. </p>
<p>One, at an aggregate level, is that banking services get a tax advantage over other forms of economic activity – perhaps helping to partially explain why the financial sector has grown as a share of total GDP.</p>
<p>Another distortion lies in effects on different types of customers. Yes, application of GST to banks would raise the cost of banking services to all customers – since it is unrealistic to expect that this tax, even though effectively levied on bank profits plus wages and salaries, would not be passed on.</p>
<p>But it would mean that business customers would get GST input tax credits on their purchases of banking services to offset against the GST bill on their sales. Households, as consumers would not get that benefit, reducing tax induced distortions to their use of banking services relative to alternative expenditures.</p>
<p>The detail of the GST (including federal – state revenue sharing implications) is a mystery to most people, so it’s easy for counter-arguments to be produced to obfuscate and obstruct the proposal to apply it to banking. But it has merit and warrants serious consideration.</p>
<p>It’s highly unlikely that Treasurer Morrison will want to deal with the fall-out from adding a bank GST impost on top of the “big bank tax”. But perhaps, placing a sunset clause on that and using the lead time to develop a coherent plan for applying GST to banks is worth considering.</p><img src="https://counter.theconversation.com/content/79334/count.gif" alt="The Conversation" width="1" height="1" />
<p class="fine-print"><em><span>Kevin Davis does not work for, consult, own shares in or receive funding from any company or organisation that would benefit from this article, and has disclosed no relevant affiliations beyond their academic appointment.</span></em></p>Applying the GST to banking has much sounder economic underpinnings than the current levy, would have raised much more revenue, and would have applied to all banks rather than just the big banks.Kevin Davis, Research Director of Australian Centre for FInancial Studies and Professor of Finance at Melbourne and Monash Universities, Australian Centre for Financial Studies Licensed as Creative Commons – attribution, no derivatives.tag:theconversation.com,2011:article/784522017-05-29T20:12:17Z2017-05-29T20:12:17ZThe government will likely get more from the bank levy than Labor or the big four think<p><a href="http://www.budget.gov.au/2017-18/content/bp2/html/">In this year’s budget papers</a>, Treasury estimated that the bank levy will collect about A$1.5 billion in each of the next four years for the government. But this is actually a conservative estimate.</p>
<p>Labor has argued there will be a <a href="https://www.chrisbowen.net/transcriptsspeeches/doorstop-parliament-house-canberra/">A$2 billion dollar hole</a> in the bank tax revenue. This is based on the disclosure to the ASX of four of the five affected banks, on what they will likely pay government. </p>
<p>But the banks’ numbers assume there won’t be change to any decisions in response to the bank levy. <a href="https://theconversation.com/research-shows-the-banks-will-pass-the-bank-levy-on-to-customers-77782">Research shows</a> this is highly unlikely, as bank customers have worn the cost for bank taxes like this, imposed after the global financial crisis in the UK.</p>
<p>In fact, if the economy keeps growing as many have predicted, and banks grow too, then the amount of revenue the government collects from the levy may even be bigger than Treasury estimates. </p>
<h2>What we know about the bank levy</h2>
<p>When it comes to what revenue the government can get from the bank levy, both the taxable sum, and the tax rate applied, determine what gets collected. </p>
<p>The <a href="http://www.budget.gov.au/2017-18/content/bp2/html/">budget papers specify</a> the taxable sum as including “items such as corporate bonds, commercial paper, certificates of deposit, and Tier 2 capital instruments” but not “Tier 1 capital and deposits of individuals, businesses and other entities protected by the Financial Claims Scheme”. The bank levy will be an annualised rate of 0.06%, applicable for all licensed entity liabilities of at least A$100 billion from July 1, 2017. Small banks and foreign banks are exempt. </p>
<p>Although it is possible the bank levy would not be a deductible expense in calculating corporate income, precedent and <a href="https://thewest.com.au/business/banking/prime-minister-malcolm-turnbull-admits-bank-levy-is-tax-deductible-ng-b88483674z">statements by government indicate</a> the levy will be deductible. Special taxes on the mining industry (including royalties and the petroleum resource rent tax), state payroll, land taxes, stamp duties and indirect taxes such as petroleum excise are all deductions in the calculation of taxable corporate income.</p>
<h2>Errors in the assumptions about banks</h2>
<p>Labor and banks also assume that the bank levy is a deduction in assessing corporate income. The preliminary data made public by four of the five affected banks indicates the gross revenue gain of the bank levy, less the reduction in corporate tax, will be less than the budget numbers. </p>
<p>That is, the net revenue reflects a 0.042% levy rather than the 0.06% rate. This also assumes shareholders will bear all of the net additional taxation.</p>
<p>But it also assumes the banks will not change any decisions. This is both a simplistic and an unlikely scenario. </p>
<p>In essence, the bank levy is a selective indirect tax on one of the inputs used by the large banks to provide financial services to their customers.</p>
<p>A more likely scenario is that the banks will seek to, and succeed in, passing forward most of the new indirect tax to their customers as a combination of higher interest rates and fees. From past experience, banks pass forward higher Reserve Bank of Australia (RBA) interest rates, just as they pass forward lower rates.</p>
<p>Given that the affected five banks account for over 80% of the market, together with the reluctance of most Australian business and household customers to switch banks, there is a high probability that most of the levy will be passed forward as higher bank interest rates and fees.</p>
<p>Should the banks pass forward most of the levy to their customers, the increase in bank revenue will match the increase of bank costs caused by the levy. That is, taxable corporate income will remain about the same. Then, the overall government revenue gain is given by the gross 0.06% bank levy.</p>
<h2>The bank levy could even collect more</h2>
<p>If the output and incomes of the five banks to pay the levy expand over the next four years, then we would expect additional revenue to be collected by government to increase over time. The budget papers, the RBA, international agencies and private sector economists all forecast economic growth. It’s unlikely that the big five banks would not also experience economic growth.</p>
<p>So the budget paper forecast that the bank levy revenue collection of about A$1.5 billion a year for each of the next four years, has to be on the conservative side. </p>
<p>The revenue estimates for the levy are forecasts or projections compiled in a world of uncertainty. So a lot is still up for debate, including not only the design of the levy but the future path of the economy in general and for the large banks in particular.</p>
<p>Details and assumptions underlying government estimates of the revenue from the bank levy are unclear. It would be an unusual precedent not to allow the levy to be a deduction in calculating corporate income tax, and so reducing the net revenue gain. But the implicit assumption of the bank released numbers of no decision changes by the banks is unrealistic.</p>
<p>If banks, as businesses in general, pass forward to customers much of an input tax, a large part of the first-round fall in corporate income, is offset by higher revenue. Government forward estimates of additional government tax revenue collected by the levy likely are on the conservative side.</p><img src="https://counter.theconversation.com/content/78452/count.gif" alt="The Conversation" width="1" height="1" />
<p class="fine-print"><em><span>John Freebairn owns shares in two of the large banks directly affected by the levy. </span></em></p>Contrary to what Labor and the banks have predicted, revenue from the bank levy will likely be higher, even with deductions.John Freebairn, Professor, Department of Economics, The University of MelbourneLicensed as Creative Commons – attribution, no derivatives.tag:theconversation.com,2011:article/778702017-05-18T20:27:55Z2017-05-18T20:27:55ZVital Signs: dismal wages growth makes a joke of budget forecasts<figure><img src="https://images.theconversation.com/files/169912/original/file-20170518-12226-1d3qe01.png?ixlib=rb-1.1.0&q=45&auto=format&w=496&fit=clip" /><figcaption><span class="caption">Pay packets rose just 0.5% in the first quarter.</span> <span class="attribution"><a class="source" href="https://www.flickr.com/photos/bradleypjohnson/5406251765/in/photolist-9eJsik">bradleypjohnson/Flickr</a>, <a class="license" href="http://creativecommons.org/licenses/by-nd/4.0/">CC BY-ND</a></span></figcaption></figure><p><em>Vital Signs is a weekly economic wrap from UNSW economics professor and Harvard PhD Richard Holden (@profholden). Vital Signs aims to contextualise weekly economic events and cut through the noise of the data affecting global economies.</em></p>
<p><em>This week: investor loans continue to rise, unemployment ticks down, wages growth remains distressingly low, and consumers are unconvinced the budget will improve their financial situation.</em></p>
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<p>Now that Australia’s two major political parties (and the Greens) have decided that robbing banks is legitimate public policy, we return our focus to how the Australian economy is actually functioning.</p>
<p><a href="http://www.abs.gov.au/ausstats/abs@.nsf/mf/5609.0">ABS data released Monday</a> showed that investor housing loans rose slightly, up 0.8% on the previous month. The really interesting figures on this front are still to come, since the Australian Prudential Regulation Authority announced <a href="http://www.apra.gov.au/MediaReleases/Pages/17_11.aspx">tighter macro-prudential measures</a> – especially on interest-only loans – at the end of March. There are already some <a href="http://www.afr.com/real-estate/citi-sees-house-prices-falling-as-much-as-7pc-as-housing-boom-unwinds-20170502-gvxuj3">anecdotal suggestions</a> that these have started to dampen investor demand, but there is no proper evidence yet. The next round of ABS housing finance data will certainly provide some clues.</p>
<p>The ABS also reported this week that <a href="http://www.abs.gov.au/ausstats/abs@.nsf/mf/6345.0">first quarter wage growth</a> was distressingly low, with pay packets rising just 0.5%. That puts private-sector annual wages growth at 1.8%. The main concerns here are, of course, for workers struggling to get by and the fact that <a href="http://www.news.com.au/national/income-inequality-means-were-no-longer-the-land-of-the-middle-class/news-story/90821b0b0b013babd29d2ac4c5dfd304">rising levels of income inequality</a> are not being dented by robust wage growth.</p>
<p>Added to this, however, is the impact of low wage growth on the budget, and the economy more generally. The RBA has pointed out in recent months that around <a href="http://www.abc.net.au/news/2017-04-13/reserve-bank-financial-stability-review-april-2017/8442242">one-third of mortgage holders have less that one month’s repayment buffer</a>. As the cost of living keeps rising, but wages don’t, people with close to no wiggle room get squeezed more and more.</p>
<p>Last week’s budget, and the forecast return to surplus in 2020-21, was predicated in no small part on very robust wage growth. </p>
<p>On budget night <a href="https://theconversation.com/budget-2017-bank-populism-will-be-paid-for-by-australians-77318">I wrote that</a> these wage growth assumptions were bullish and unlikely to eventuate. 3% going to 3.75% annual wage growth looks really aggressive against a stagnating 1.8 - 1.9% (counting the public sector’s slightly stronger growth). When wage growth is lower than it has been since the mid 1990s, how can one forecast with a straight face that the growth rate will double?</p>
<p>Ratings agency Standard & Poor’s certainly understands this. It almost grudgingly <a href="https://theconversation.com/ratings-agency-sandp-keeps-australias-aaa-rating-but-doubtful-about-governments-surplus-timetable-77875">reaffirmed Australia’s AAA credit rating</a> this week, but cast doubt on the projected return to surplus, saying “budget deficits could persist for several years, with little improvement, unless the Parliament implements more forceful fiscal policy decisions”.</p>
<p><a href="http://www.abs.gov.au/ausstats/abs@.nsf/0/F756C48F25016833CA25753E00135FD9?Opendocument">Figures released Thursday</a> showed the unemployment rate fell from 5.9% to 5.7%. This is seemingly good news, although this ABS series has been notoriously unreliable in recent times. </p>
<p>The workforce participation rate was steady at 64.8% – and this may be a better and more relevant measure of short-term fluctuations in employment.</p>
<p>There was also a continued shift to part-time employment. Total jobs were up 37,400, but people in full-time work fell by 11,600 and the number of part-time jobs was up 49,000.</p>
<p>Consumer confidence weakened a little in May according to the <a href="http://melbourneinstitute.unimelb.edu.au/__data/assets/pdf_file/0007/2358511/Media-Release_CIE1705.pdf">Westpac-Melbourne Institute Index</a>. It was down a point to 98.0 in May (recall that for indices like these 100 is the level at which optimists and pessimists are in equal supply).</p>
<p>Westpac chief economist Bill Evans said: </p>
<blockquote>
<p>Respondents’ confidence in housing and the outlook for house prices deteriorated sharply, while the assessment of the budget around the outlook for family finances was decidedly weaker.</p>
</blockquote>
<p>And why wouldn’t it be? The budget contained <a href="https://theconversation.com/budget-2017-government-still-tinkering-with-housing-affordability-77316">essentially nothing to address the housing affordability crisis</a>, further fuelling concerns that there will be a messy correction to prices. </p>
<p>Meanwhile, the government’s best ideas for how to grow wages and incomes were to waive a white flag about spending restraint, whine about how the Senate won’t pass their legislation (“this is a Senate tax”, said the treasurer on budget day), and launch a populist attack on our five largest banks.</p>
<p>And that attack – the bank tax – <a href="https://theconversation.com/research-shows-the-banks-will-pass-the-bank-levy-on-to-customers-77782">will be passed on to consumers</a>, just like the last increase in regulatory capital required by APRA. </p>
<p>So the government raised the taxes of most Australians and blamed the cross-bench. That doesn’t fill me with confidence. And it seems I am not alone.</p><img src="https://counter.theconversation.com/content/77870/count.gif" alt="The Conversation" width="1" height="1" />
<p class="fine-print"><em><span>Richard Holden is an ARC Future Fellow.</span></em></p>The government’s best ideas for how to grow wages and incomes do not inspire confidence.Richard Holden, Professor of Economics and PLuS Alliance Fellow, UNSW SydneyLicensed as Creative Commons – attribution, no derivatives.tag:theconversation.com,2011:article/777842017-05-18T02:50:19Z2017-05-18T02:50:19ZFactCheck: do Australian banks have double the return on equity of banks in other developed economies?<blockquote>
<p>The banks in Australia have a return on equity which is about twice, if not more than that, what you see particularly in other parts of the advanced developed economies of the world. <strong>Treasurer Scott Morrison, <a href="http://www.abc.net.au/insiders/content/2016/s4668839.htm">ABC Insiders</a>, May 14, 2017.</strong></p>
</blockquote>
<p>In its 2017 federal budget, the Australian government included a 0.06% levy on Australia’s <a href="http://www.abc.net.au/news/story-streams/federal-budget-2017/2017-05-15/banks-enter-submissions-on-bank-levy/8527964">biggest five banks</a>: ANZ, the Commonwealth, NAB, Westpac and Macquarie Bank. The levy will collectively cost the banks A$1.6 billion a year, and by <a href="https://theconversation.com/budget-bank-levy-too-big-to-fail-not-too-big-to-take-a-hit-77475">some estimates</a> will raise the overall cost of funding for the affected banks by around 0.03%. Many commentators have suggested this cost will be <a href="https://theconversation.com/research-shows-the-banks-will-pass-the-bank-levy-on-to-customers-77782">passed directly onto customers</a>.</p>
<p>In an <a href="http://sjm.ministers.treasury.gov.au/transcript/102-2017/">interview on the ABC’s Insiders program</a>, Treasurer Scott Morrison said the banks could absorb the cost of the levy, given the size of their profits.</p>
<p>He said Australia’s large banks have between a 0.2% to 0.4% advantage because of the way Australia’s regulatory regime works and that Australian banks have a return on equity about twice that of banks in other advanced developed economies.</p>
<p>Is that right?</p>
<h2>Checking the source</h2>
<p>When asked for sources to support his statement, a spokesperson for Scott Morrison referred The Conversation to evidence presented by the Reserve Bank of Australia to the House of Representatives Standing Committee on Economics at its hearing on September 28, 2016. </p>
<p>In the <a href="https://www.rba.gov.au/publications/fsr/2016/apr/pdf/financial-stability-review-2016-04.pdf">report</a>, the Reserve Bank included a chart provided below.</p>
<p>The spokesperson added that:</p>
<blockquote>
<p>Importantly, the chart doesn’t adjust for M&A [mergers and acquisitions] activity, given NAB’s 2016 sale of Clydesdale brings down average (unadjusted) ROE [return on equity] for Australian banks quite substantially.</p>
</blockquote>
<p>Let’s check the facts.</p>
<h2>What is the return on equity for Australian banks?</h2>
<p><a href="http://www.investopedia.com/terms/r/returnonequity.asp">Return on equity</a>, or ROE, is a measure of profit, expressed as a percentage of shareholder equity. It shows how much profit a company generates with the funds invested by its shareholders.</p>
<p>The figure below (from the Reserve Bank’s <a href="https://www.rba.gov.au/publications/fsr/2016/apr/pdf/financial-stability-review-2016-04.pdf">Financial Stability Review</a>) shows the return on equity of the <em>large</em> banks in Australia was around 15% in 2015. </p>
<p>Including the smaller Australian banks, which have about 20% of the market, the average return on equity is somewhat lower and more variable than for the big four only, but it is above 12%.</p>
<figure class="align-center ">
<img alt="" src="https://images.theconversation.com/files/169478/original/file-20170516-11952-21znph.png?ixlib=rb-1.1.0&q=45&auto=format&w=754&fit=clip" srcset="https://images.theconversation.com/files/169478/original/file-20170516-11952-21znph.png?ixlib=rb-1.1.0&q=45&auto=format&w=600&h=564&fit=crop&dpr=1 600w, https://images.theconversation.com/files/169478/original/file-20170516-11952-21znph.png?ixlib=rb-1.1.0&q=30&auto=format&w=600&h=564&fit=crop&dpr=2 1200w, https://images.theconversation.com/files/169478/original/file-20170516-11952-21znph.png?ixlib=rb-1.1.0&q=15&auto=format&w=600&h=564&fit=crop&dpr=3 1800w, https://images.theconversation.com/files/169478/original/file-20170516-11952-21znph.png?ixlib=rb-1.1.0&q=45&auto=format&w=754&h=709&fit=crop&dpr=1 754w, https://images.theconversation.com/files/169478/original/file-20170516-11952-21znph.png?ixlib=rb-1.1.0&q=30&auto=format&w=754&h=709&fit=crop&dpr=2 1508w, https://images.theconversation.com/files/169478/original/file-20170516-11952-21znph.png?ixlib=rb-1.1.0&q=15&auto=format&w=754&h=709&fit=crop&dpr=3 2262w" sizes="(min-width: 1466px) 754px, (max-width: 599px) 100vw, (min-width: 600px) 600px, 237px">
<figcaption>
<span class="caption">Financial Stability Review April 2016, Reserve Bank of Australia, page 12.</span>
<span class="attribution"><span class="source">RBA</span></span>
</figcaption>
</figure>
<p>A decade ago, Australian bank returns on equity were a few points higher, and not much different from those earned by banks in other developed markets. </p>
<p>However, during the global financial crisis, banks in the US and Europe sustained large losses, leading to negative returns for couple of years. US banks have since recovered somewhat. European and UK banks, however, continue to perform weakly: the returns on equity of large banks in Europe are about 5%, compared to about 3% in the UK. The ROEs of large Canadian banks have, like those of large Australian banks, remained higher and more stable. </p>
<p>Looking ahead, the Reserve Bank <a href="https://www.rba.gov.au/publications/fsr/2016/oct/box-c.html">notes</a> that:</p>
<blockquote>
<p>analysts’ expectations are for Australian banks’ [return on equity] to remain on average around 12.5% over the next couple of years. While this is high by international standards and appears to be above banks’ cost of equity, it is lower than the returns to which Australian banks and their investors have become accustomed. </p>
</blockquote>
<h2>Do Australia’s biggest banks have an added advantage over smaller rivals?</h2>
<p>The treasurer also claimed that “our major banks have about a 20 to 40 basis point [funding cost] advantage because of the nature of the regulation and structure of our financial system”. </p>
<p>Big banks do indeed appear to be able to borrow more cheaply because their lenders expect them to receive government support during crises. </p>
<p>In 2010, the International Monetary Fund <a href="https://www.imf.org/external/np/g20/pdf/062710b.pdf">(IMF)</a> used a range of approaches to estimate the value of “implicit government support” – such as the bailouts provided to some US banks during the global financial crisis – for banks and other financial institutions in the Group of 20 nations, including Australia. </p>
<p>While the answers from the different approaches varied, the IMF concluded that implicit government support “provides too big to fail financial institutions with a funding benefit between 10 and 50 basis points, with an average of about 20 basis points”. </p>
<p>Here in Australia, the <a href="https://www.rba.gov.au/information/foi/disclosure-log/pdf/151609.pdf">Reserve Bank</a> has concluded that “the major banks have received an unexplained funding advantage over smaller Australian banks of around 20 to 40 basis points on average since 2000”. </p>
<p>Macquarie University researchers <a href="https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2731106">James Cummings and Yilian Guo</a> found that the funding cost advantage was about 30 basis points from 2004 to 2013, but has declined to about 16 to 17 basis points since then, in part due to prudential reforms that obliged banks to increase the share of lending contributed by shareholders. </p>
<h2>Verdict</h2>
<p>Scott Morrison was correct: Australian banks do “have a return on equity which is about twice, if not more than that, what you see particularly in other parts of the advanced developed economies of the world”. </p>
<p>Australian banks currently have higher returns on equity than banks in many other major developed markets. Those returns are about twice as high or more than the returns of the troubled European and UK banks. But returns in Canada are close to the Australian level, and the returns earned by large US banks are only a few points below the Australian level. </p>
<p>The treasurer is also correct to point out that the major banks enjoy a funding cost advantage on the basis of expected government support in financial crises. However, the size of the support is less clear. While IMF and RBA studies are in line with the treasurer’s range, there is some evidence that the funding cost advantage may now be somewhat lower. <strong>– Jim Minifie</strong></p>
<hr>
<h2>Review</h2>
<p>This FactCheck is clear and accurate. Two other points need to be made. </p>
<p>The first is that the recent data on bank return on equity is a lot weaker than the graph presented. This one comes from the Reserve Bank’s <a href="https://www.rba.gov.au/publications/bulletin/2017/mar/6.html">March 2017 Bulletin</a>, authored by David Norman.</p>
<figure class="align-center ">
<img alt="" src="https://images.theconversation.com/files/169881/original/file-20170518-9937-15j9cz7.png?ixlib=rb-1.1.0&q=45&auto=format&w=754&fit=clip" srcset="https://images.theconversation.com/files/169881/original/file-20170518-9937-15j9cz7.png?ixlib=rb-1.1.0&q=45&auto=format&w=600&h=573&fit=crop&dpr=1 600w, https://images.theconversation.com/files/169881/original/file-20170518-9937-15j9cz7.png?ixlib=rb-1.1.0&q=30&auto=format&w=600&h=573&fit=crop&dpr=2 1200w, https://images.theconversation.com/files/169881/original/file-20170518-9937-15j9cz7.png?ixlib=rb-1.1.0&q=15&auto=format&w=600&h=573&fit=crop&dpr=3 1800w, https://images.theconversation.com/files/169881/original/file-20170518-9937-15j9cz7.png?ixlib=rb-1.1.0&q=45&auto=format&w=754&h=720&fit=crop&dpr=1 754w, https://images.theconversation.com/files/169881/original/file-20170518-9937-15j9cz7.png?ixlib=rb-1.1.0&q=30&auto=format&w=754&h=720&fit=crop&dpr=2 1508w, https://images.theconversation.com/files/169881/original/file-20170518-9937-15j9cz7.png?ixlib=rb-1.1.0&q=15&auto=format&w=754&h=720&fit=crop&dpr=3 2262w" sizes="(min-width: 1466px) 754px, (max-width: 599px) 100vw, (min-width: 600px) 600px, 237px">
<figcaption>
<span class="caption">Reserve Bank of Australia Bulletin March Qtr 2017.</span>
</figcaption>
</figure>
<p>The second point that needs to be made is that the Macquarie University <a href="https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2731106">study</a> referred to in the FactCheck, which examined the possible funding advantages that large banks have over small banks, is calculated as a residual. That means that the studies try all the possible explanations they can think of, and then say the bit they cannot explain must be the result of some implied government subsidy. It may be, but the methodology is very indirect. <strong>– Rodney Maddock</strong></p>
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<figure class="align-left zoomable">
<a href="https://images.theconversation.com/files/162128/original/image-20170323-13486-72k52f.png?ixlib=rb-1.1.0&q=45&auto=format&w=1000&fit=clip"><img alt="" src="https://images.theconversation.com/files/162128/original/image-20170323-13486-72k52f.png?ixlib=rb-1.1.0&q=45&auto=format&w=237&fit=clip" srcset="https://images.theconversation.com/files/162128/original/image-20170323-13486-72k52f.png?ixlib=rb-1.1.0&q=45&auto=format&w=600&h=600&fit=crop&dpr=1 600w, https://images.theconversation.com/files/162128/original/image-20170323-13486-72k52f.png?ixlib=rb-1.1.0&q=30&auto=format&w=600&h=600&fit=crop&dpr=2 1200w, https://images.theconversation.com/files/162128/original/image-20170323-13486-72k52f.png?ixlib=rb-1.1.0&q=15&auto=format&w=600&h=600&fit=crop&dpr=3 1800w, https://images.theconversation.com/files/162128/original/image-20170323-13486-72k52f.png?ixlib=rb-1.1.0&q=45&auto=format&w=754&h=754&fit=crop&dpr=1 754w, https://images.theconversation.com/files/162128/original/image-20170323-13486-72k52f.png?ixlib=rb-1.1.0&q=30&auto=format&w=754&h=754&fit=crop&dpr=2 1508w, https://images.theconversation.com/files/162128/original/image-20170323-13486-72k52f.png?ixlib=rb-1.1.0&q=15&auto=format&w=754&h=754&fit=crop&dpr=3 2262w" sizes="(min-width: 1466px) 754px, (max-width: 599px) 100vw, (min-width: 600px) 600px, 237px"></a>
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<span class="caption">The Conversation FactCheck is accredited by the International Fact-Checking Network.</span>
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<p class="fine-print"><em><span>Rodney Maddock works for the Australian Centre for Financial Studies at Monash University which receives funding from government, companies and NGOs for research on the financial sector.</span></em></p><p class="fine-print"><em><span>Jim Minifie does not work for, consult, own shares in or receive funding from any company or organisation that would benefit from this article, and has disclosed no relevant affiliations beyond their academic appointment.</span></em></p>Treasurer Scott Morrison said Australia’s banks have a return on equity about twice that of banks in other advanced economies. Is that right?Jim Minifie, Productivity Growth Program Director, Grattan InstituteLicensed as Creative Commons – attribution, no derivatives.tag:theconversation.com,2011:article/777822017-05-16T20:13:55Z2017-05-16T20:13:55ZResearch shows the banks will pass the bank levy on to customers<p>Studies of European countries show that bank taxes similar to the <a href="https://theconversation.com/budget-bank-levy-too-big-to-fail-not-too-big-to-take-a-hit-77475">0.06% bank levy</a> introduced by the government in the 2017 federal budget will be largely borne by customers, not shareholders.</p>
<p>The levy could also make the banking system more, rather than less risky. The fact that a bank is asked to pay the levy is a confirmation that it is “<a href="https://theconversation.com/au/topics/too-big-to-fail-3747">too big to fail</a>”. This could in turn encourage riskier behaviour. The levy might also trigger a higher probability of default by reducing a bank’s after-tax profitability</p>
<p>But it is difficult to say whether banks will pass the levy on to customers by increasing their loan rates, fees or both.</p>
<p>In its response to the levy, NAB confirmed <a href="http://nabnews.efront-flare.com.au/wp-content/uploads/2017/05/NAB-response-to-Dept-of-Treasury-Major-Bank-Levy.pdf">it will not just be borne by shareholders</a>:</p>
<blockquote>
<p>The levy is not just on banks, it is a tax on every Australian who benefits from, and is part of, the banking industry. This includes NAB’s 10 million customers, 570,000 direct NAB shareholders, those who own NAB shares through their superannuation, our 1,700 suppliers and NAB’s 34,000 employees. The levy cannot be
absorbed; it will be borne by these people. </p>
</blockquote>
<p>Aware of this problem, the government <a href="http://sjm.ministers.treasury.gov.au/media-release/044-2017/">has asked the Australian Competition and Consumer Commission</a> (ACCC) to undertake an inquiry into residential mortgage pricing. The ACCC can require banks to explain changes to mortgage pricing and fees. </p>
<h2>When banks pass on these taxes</h2>
<p>The bank levy is similar to taxes recently introduced by some G20 economies, <a href="http://www.nortonrosefulbright.com/knowledge/publications/32128/introduction-to-the-uk-bank-levy">including the UK</a>. These had the dual purpose of raising revenues and stabilising the balance sheets of large banks in the aftermath of the global financial crisis.</p>
<p><a href="http://www.sbs.ox.ac.uk/sites/default/files/Business_Taxation/Events/conferences/2015/Doctoral_mtg_2015/kogler-paper.pdf">An analysis of bank taxes</a> in the UK and 13 other European Union countries shows that the extent to which taxes are passed on to customers depends on how concentrated the banking industry is.</p>
<p>The more the industry is dominated by a small number of banks, the greater the share of the tax that is passed on to customers and the less that is borne by shareholders. In more concentrated industries customers have relatively fewer alternative options and therefore tend to be less mobile across banks. This in turn gives the large banks greater market power to increase interest rates and fees without losing customers. </p>
<p>Australia’s banking industry is quite concentrated. In fact, we’re <a href="https://www.rba.gov.au/publications/confs/2007/pdf/davis.pdf">around the middle of the pack of OECD countries</a>, much higher than the US, but lower than some European countries. From this we can surmise that at least some of the cost of the bank levy here will be passed on to borrowers through higher loan rates, fees or both. </p>
<p>An <a href="https://www.imf.org/external/np/seminars/eng/2010/paris/pdf/090110.pdf">IMF study of G20 countries</a> suggests that a levy of 20 basis points (i.e. 0.2%, approximately three times higher than the Australian government’s bank levy), could lead to an increase in loan rates of between 5 and 10 basis points. This means that the monthly repayment on a loan (assuming an initial rate of 5.5%) would increase by approximately A$6 for every A$100,000 borrowed. </p>
<p>The IMF also found that the bank levy doesn’t just hit customers. A 0.2% levy would reduce banks’ asset growth rate by approximately 0.05% and permanently lower real GDP by 0.3%.</p>
<h2>The impact on customers</h2>
<p>If the banks pass on the levy to customers then it becomes just another indirect tax, similar to the GST. The question then is whether this is regressive - does it have a greater impact on those on lower incomes than higher incomes. </p>
<p>Lower income earners are likely to borrow less than higher income earners. However, lower income earners are also less able to bear an interest rate increase. They are also more likely to be excluded from borrowing when the cost of borrowing increases.</p>
<p>In this sense, then, if the bank levy is passed on to customers it could become a barrier to home ownership for some lower income borrowers.</p>
<p>More generally, if the value of bank transactions is a higher proportion of low incomes than of high incomes, then the bank levy would operate as a regressive tax and contribute to sharpening (rather than smoothing) inequalities. </p>
<p>Both of these would be unintended, but undesirable, consequences of the levy.</p><img src="https://counter.theconversation.com/content/77782/count.gif" alt="The Conversation" width="1" height="1" />
<p class="fine-print"><em><span>Fabrizio Carmignani receives funding from the Australian Research Council for a project on the estimation of the piecewise linear continuous model and its applications in macroeconomics</span></em></p><p class="fine-print"><em><span>Ross Guest does not work for, consult, own shares in or receive funding from any company or organisation that would benefit from this article, and has disclosed no relevant affiliations beyond their academic appointment.</span></em></p>Countries that have similar banking levies have seen them passed on to customers.Fabrizio Carmignani, Professor, Griffith Business School, Griffith UniversityRoss Guest, Professor of Economics and National Senior Teaching Fellow, Griffith UniversityLicensed as Creative Commons – attribution, no derivatives.