Will the bank levy meet its objectives?

This research analyses the new Bank Levy introduced in UK Finance Bill 2011. The Levy appears to have two clear objectives, and the research indicates that neither is likely to be fully met. The first is that banks should make a ‘full and fair contribution in respect of the potential risks they pose on the wider economy’. This suggests that the levy should fall more heavily on banks that are larger, more fragile, and more systemically connected to the rest of the financial sector. The levy is related to fragility, but makes no adjustment for the risk of the bank’s assets. The second objective is to encourage less risky funding and to complement the wider agenda to improve regulatory standards and enhance financial stability. While the levy may induce a higher capital-asset ratio, it may also induce banks to increase the average risk of their assets. This may result in a lower probability of default, but the reverse may also happen.

Michael Devereux