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Is a tax on deposits a bad thing?
Since the news broke on Saturday that the government in Cyprus had decided to impose a tax on deposits, my conspiratorial mind had been wondering whether that was the message that Minister of Finance Larry Howai had been trying to send in last week’s Business Guardian when he referred to the possibility of the Government considering the imposition of a supertax on the wealthy.
It was strange that, out of the blue, Mr Howai had introduced the issue of the supertax in answer to a question on T&T’s flat tax system.
In the context of his statement that high marginal tax rates were a “disincentive to work,” Mr Howai pointed out that right now in the United States, there was talk about a supertax on the rich.
“There is no reason why, from time to time, those things can’t be considered and introduced. For example, in our case, the rich benefit more from the fuel subsidy than the poor,” adding that rich T&T residents also benefit from subsidies on electricity and water.
“On average, the wealthy benefit about six times more than the poor from subsidies, according to the numbers I saw. And, therefore, it’s something that you need to say how do we equalise it. That kind of tax helps to offset things like this. I don’t want to suggest that we are doing that (implementing a supertax on the rich), but there are conditions under which one could consider—which is why the US, in the current situation, is considering doing something like that. There are issues that we need to consider as far as the entire tax system is concerned.”
In Cyprus, the tax initially imposed was for 6.75 per cent on all deposits under 100,000 euros and 9.9 per cent on all deposits above 100,000 euros. It is important to note that 100,000 euros is the threshold for deposit insurance protection in the European Union and therefore there is an expectation that anyone with deposits up to that amount, is guaranteed to recover all of their funds in the event of the collapse of their bank.
Cyprus imposed the one-off tax, which was meant to raise 5.8 billion euros, as its contribution to a bailout of the country made necessary because two of its largest banks are on the brink of bankruptcy. The European Union agreed to underwrite an additional 10 billion euros.
The Cyprus plan had the added benefit of providing depositors with shares in the banks and bonds from the country’s expected natural gas wealth.
On Tuesday, the legislature in Cyprus voted against the money bill that would have legitimised the tax on deposits, after 19 members of the ruling party abstained from voting and 36 opposition lawmakers voted against it.
This was after the government amended the proposal to drop the tax on deposits under 20,000 euros.
As it stands, on Wednesday morning, the Cyprus government was scrambling to put together a new bailout, but it is clear that depositors from the two failed banks must be made to feel the pinch, whether from higher taxes or from the bankruptcy of the banks.
Let me say, for the record, it is my view that most national taxes are equal and contribute to the lowering in the standard of living of a population—all things being equal. In terms of tax revenue, there would be no real difference between the Kamla Persad-Bissessar administration deciding to increase the marginal rate of tax on the population from 25 to 35 per cent as opposed to imposing a ten per cent tax on all deposits. There is little to choose between a new ten per cent tax on gasoline or a new tax on uninsured deposits. The imposition of a ten per cent property tax would probably affect almost as many taxpayers as a ten per cent tax on uninsured deposits (which, in the T&T context, would be those holding $75,000 or more).
In the context of a bailout situation, among the significant advantages the tax on deposits has is it would a one-off hit as opposed to the ongoing drag of higher marginal tax rates, an increased gasoline tax or the imposition of a property tax regime.
The other advantage is that the tax on deposits could be collected very quickly as all the commercial banks would have to do is subtract the required amount from all the bank accounts and send the money to the Government’s bank account at the Central Bank.
And it seems to me that given the lack of the huge demonstrations that were experienced in Greece and Spain, the silent majority of Cypriots also realise there are advantages to a tax on uninsured deposits.
The mistake the Cyprus government made was in going after the insured deposits, but it is quite inappropriate for the international media and commentators to describe the tax on deposits as confiscation when all it is is a tax.
In a regional context, the decision by the government of Jamaica (GOJ) to relaunch its national debt exchange in February resulted in money being “confiscated” from Jamaican investors who had purchased that country's sovereign debt.
Jamaica's rolling out of the debt exchange led to the country's individual and institutional investors trading in existing US and Jamaican dollar bonds for new bonds with lower interest payments and longer maturities.
The information memorandum of Jamaica's 2013 debt exchange specifically states it may not be distributed in any form outside of the country. This means that Jamaica decided to seize the savings of its own citizens, while specifically excluding the seizure of debt issued by the GOJ, but held by non-Jamaicans (unlike Cyprus, whose action will affect many non-Cypriot citizens due to the fact that the country is something of a tax haven).
If Jamaica had launched a debt exchange for GOJ debt held by non-Jamaicans, the rating agencies would have deemed it to be in default within hours and the IMF loan would have evaporated like the mist over the Mona dam.
Apparently, then, the rescheduling of a nation's debt is called debt exchange when it is imposed on the citizens of that country, but it is referred to as confiscation or a default of international obligations if it is imposed on foreigners.
Seizing the savings of your own citizens is good—a practice endorsed by the IMF. But seizing the savings of non-nationals is a terrible injustice. It is confiscation.
The debt exchange would have been a conditionality of the loan that Jamaica has been negotiating with the IMF for more than a year now.
With regard to the position of the IMF, the statement of its managing director, Christine Lagarde, issued on March 16, is quite instructive.
“I welcome the agreement reached today to address Cyprus’ economic challenges. The IMF has always said that we would support a solution that is sustainable, that is fully financed, and that appropriately allocates the burden sharing. I believe that the agreed package meets these three objectives. On this basis, I intend to make a recommendation to our executive board for the IMF to contribute to the financing of the package.”
For me, there are two clear and unequivocal lessons that T&T policymakers should be taking away from the downward spiral of Cyprus, the country in the Mediterranean Sea.
One, that allowing bank to embark on unregulated lending binges is reckless and almost always comes back to haunt countries. Secondly, countries that fail to mind their fiscal houses should not be surprised when foreign institutions assume the power of minding the country’s fiscal house.
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