UK Govt introduces bank levy and does an Indian Govt Act!

UK Govt. finally introduced the much hyped levy on the UK bank balance sheets:

The Government today introduced a permanent levy on banks’ balance sheets as it believes that banks should make a full and fair contribution in respect of the potential risks they pose on the wider economy.

Once fully in place the levy is expected to raise around £2½ billion of annual revenues. This is in line with the Budget estimates. The levy is intended to encourage banks to move to less risky funding profiles, and the £2½ billion is a fair contribution in respect of the risks the banking system poses to the wider economy, while ensuring that the industry remains competitive.

The rate for 2011 will be 0.05 per cent, and it will rise to 0.075 per cent from 2012 onwards.

The government has consulted on the design of the scheme so that it achieves two objectives: first, ensuring that banks make a fair contribution in respect of the potential risks they pose to the UK financial system and wider economy.  Second, the final scheme design will encourage the banks to make greater use of more stable sources of funding, such as long-term debt and equity, working with the grain of our wider reform programme.

This is a bold move from the UK government. However, the proceeds do not go into a fund which will help in future crisis but for reducing its budget deficits:

Financial Secretary to the Treasury, Mark Hoban said:

“The levy which comes into force today means that banks will now make a full and fair contribution in respect of the potential risks they pose to the wider economy.  This measure will also encourage banks to reduce their dependence on the riskier, short term funding that was one of the main causes of the financial crisis.

Once fully in place the bank levy is set to raise £2.5 billion per annum and this will go towards helping reduce the record Budget deficit that this Government inherited.”

(Emphasis mine)

Very disappointing. True, the deficit has spiralled because of the financial crisis but using these proceeds to lower budget deficits is a bad strategy. UK should instead build a countercyclical fund much like Chile did which helps in time of crisis.

This is just like the disinvestment money Indian government is raising lately. Instead of parking it in proposed ‘National Investment Fund’ (NIF), it is using the money to lower its fiscal deficits. The money for NIF is now being used for funding various social programmes of the govt.

However, in view of the difficult economic situation caused by the global slowdown of 2008-09 and a severe drought that was likely to adversely affect the 11th Plan growth performance, the Government, in November 2009, decided to give a one-time exemption to utilization of proceeds from disinvestment of CPSEs for a period of three years – from April 2009 to March 2012 – i.e. disinvestment proceeds during this period would be available in full for meeting the capital expenditure requirements of selected social sector programmes decided by the Planning Commission/Department of Expenditure. The status quo ante will be restored from April 2012.
Accordingly, from April 2009, the disinvestment proceeds are being routed through NIF to be used in full for funding capital expenditure under the social sector programmes of the Government, namely:-

  (i) Mahatma Gandhi National Rural Employment Guarantee Scheme
  (ii) Indira Awas Yojana
  (iii) Rajiv Gandhi Gramin Vidyutikaran Yojana
  (iv) Jawaharlal Nehru National Urban Renewal Mission
  (v) Accelerated Irrigation Benefits Programme
  (vi) Accelerated Power Development Reform Programme

There is a catch here. 75% of NIF money anyways was to be used for social sector projects. So, there is not much change except that government’s revenue expenditure also increased in the crisis. As tax revenues declined, finding revenue expenditure became a concern. On top of that govt. had these various social sector programs which had to be funded as well. And these schemes are very important for vote bank .  So, the govt played fiscal language games and made these subtle changes.

Ideally these programs should have been funded without NIF help. If that had been the case, fiscal deficit would have been higher. And then these programs are well intended but all know the waste happening under these programmes.  As economy has recovered and tax revenues back to normal, Indian govt. should do away with this change made to NIF proceeds. But going by continued rise in revenue expenditure, subsidies etc. looks unlikely.

Because of these social programs, rural incomes have risen putting upwards pressure on inflation. Actually govt should be thankful to the corruption in these social programs leading to much lower incomes in hands of rural people. If the percentage was better, the inflation would have been much higher. So we have multiple problems. 

How short-term deficit fixes lead to long term problems for an economy.

UK should be setting examples for others to follow, but here it seems to have followed a wrong example set by India. A well intended cause like Bank levy has been wasted.  Hope they change it..

3 Responses to “UK Govt introduces bank levy and does an Indian Govt Act!”

  1. UK’s “nudge unit” releases first report on healthcare « Mostly Economics Says:

    […] have not read the report. It looks good upfront. After showing short-termism behavior its fiscal policy, UK is trying to be innovative in other areas. May be it can use nudges to avoid […]

  2. Debate on bank bonuses continue in UK « Mostly Economics Says:

    […] the opposition Sir. Let us hear some better ideas from you! What a tragedy for UK. It just proposed this short-term fix to use bank levy to meet its budget deficit. And now all this. What is worse is […]

  3. geographic Says:

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