Brexit will leave Brussels €10 billion a year poorer: that makes the divorce bill a critical issue in the negotiations

In the end, it will all come down to the money. The UK might not be paying £350 million a week to Brussels, as Vote Leave claimed, but our contributions to the EU do come to over €10 billion a year. That is a substantial fiscal hole for the European Commission to plug after we leave. The Commission would prefer not to reduce expenditure since the structural funds and agricultural subsidies it distributes help to justify the EU’s existence. Besides, any new budget needs unanimous agreement, and Eastern European countries can be relied on to block cuts in their grants as surely as France will veto reducing farmers’ subsidies.

If reducing the budget is out of the question, the EU will have to increase its revenue. A recent ‘reflection paper’ issued by the European Commission presented a number of ways that it could do this. The Commission takes it for granted that countries won’t increase the amounts they pay to Brussels under the current funding system. The EU needs new sources of money.

Top of the wish list are Europe-wide green taxes. Climate change has long been a favourite cause in Brussels because it lends itself to supranational action. If the member states could agree a new energy or environmental tax, it would be easy to divert some the revenue towards the EU’s coffers. While such a tax would only have a trivial effect on Europe’s ability to meet its commitments under the Paris Agreement, greenery does provide useful political cover for a tax increase. Imposing the tax over the whole of the EU would also assuage competitiveness concerns to some extent. And, given the preponderance of its manufacturing sector, it would hit Germany disproportionately hard. If Angela Merkel gets behind the tax, she might convince other countries to go along. But the German industrial lobby is strong and won’t accept an increase in its costs without a fight. In any case, no strategic decisions can be expected of Germany until the after the September general election, when Mrs Merkel is seeking another term.

Another possibility floated by the Commission’s reflection paper is a share of a new EU corporate tax. Brussels has been pushing for what it calls a ‘common consolidated corporate tax base’ since 2011. The idea is that multinationals use a single method to calculate their total European taxable profits. These profits are then allocated to the individual countries in which the multinational operates. The proposal was shelved five years ago when it became clear that many member states were opposed. The Commission has since repackaged its plan, with the enthusiastic support of the European Parliament, but badged it as an anti-tax avoidance measure. In the current environment, where tax avoiders are the new bête noire, ‘anti-avoidance’ is as effective as ‘climate change’ as a justification for bad policies. Nonetheless, several governments, including Ireland’s and the Dutch, are still raising strenuous objections. So would the British, if anyone bothered to ask them.

Far from preventing avoidance, a common consolidated corporate tax base would increase tax competition within the EU. Because taxable profits would be calculated in the same way everywhere, the only difference between countries would be the actual rate of corporate tax. Companies would be keen to base themselves in the member state with the lowest tax, and there would be relentless downward pressure on rates. Despite this, the French and German finance ministers, Bruno Le Maire and Wolfgang Schäuble, are actively working on harmonising corporate taxes with effect from next year. If the Franco-German integration engine really has restarted, the European Commission’s aspiration to slice off a portion of the cake from the new tax may still come to fruition.

If the common corporate tax doesn’t work out, the European Commission hopes it might get a share of a new European financial transaction tax. However, plans for a ‘Robin Hood’ tax across the EU, to be paid by banks when they buy and sell shares, bonds and derivatives, have also hit the sand. When agreement couldn’t be reached among all 28 EU members, ten of them decided to press ahead anyway under the enhanced cooperation procedures. But these ten enthusiasts have been unable to close the deal either and a crunch meeting scheduled for this month was postponed until the end of the year by France. There is a good deal of suspicion that the French, keen to attract banking business from London after Brexit, are getting cold feet about the financial transaction tax.

The conclusion of the reflection paper is that the Commission doesn’t really know where its new money will come from. So, with a €10 billion pit to fill, it is not surprising that the Brexit divorce bill is a central preoccupation of the European Commission’s chief negotiator, Michel Barnier. If the amount is big enough, it could tide the EU over for a few years. In Brussels, a problem kicked down the road is treated as a problem solved. This gives the British some leverage because it is most unlikely that the Commission will have lined up any new sources of funding, or agreed what it can cut, before 29 March 2019, when negotiations have to be completed. With no deal, the EU might end up with nothing at all.

 

The Robin Hood tax is a good idea that will never happen

John McDonnell is due to give a speech about Labour’s plans for a financial transaction tax tomorrow. As a warm up, here’s a article I wrote for Reaction explaining why it could work, but only if implemented everywhere.

The Labour Party is suggesting that that UK introduce a financial transaction tax, often called the ‘Robin Hood’ tax, to raise a whopping $26 billion. The idea has been around for some time and there are even pressure groups set up to push for such a levy. The EU has been considering how to introduce a such a tax for some time, although Member States have found it hard to agree on the specifics. However, the UK has had a well-designed financial transaction tax for over a century – it’s called stamp duty.

The idea of a financial transaction tax was originally put forward back in the 1970s by the Nobel-Prize-winning economist James Tobin, which is why it is sometimes called a Tobin Tax. He envisaged it as a levy charged every time one currency was exchanged for another. The idea has since been extended to other sorts of financial trading. The EU financial transaction tax would require a small amount to be paid over to the authorities each time a share or a bond is sold. The amount is a sliver of the price of the share or bond, somewhere between 0.1% and 1%. More ambitious versions of the tax would also tax exotic financial instruments called derivatives. Such is the enormous volume of trading in today’s financial markets, even very low rates could lead to a substantial tax take.

Campaigners have dubbed the financial transaction tax the ‘Robin Hood’ tax because they imagine it would be paid by rich bankers and the proceeds given to the poor. James Tobin suggested the money raised should be given to developing nations. Certainly, a Robin Hood tax sounds good on social justice grounds. But sadly things are not that simple. Yes, a financial transaction tax would primarily be paid by banks, but they would pass the cost on to their customers. So a Tobin tax would not be borne by bankers. The people who would end up paying are bank customers like you and me. However, noting that financial transaction taxes are paid by ordinary people is not an argument against them. All taxes are paid by people, it is just that some are better concealed than others. There are strong political arguments for taxes that we don’t notice since we are less likely to complain about them. The argument that a financial transaction tax would be suffered by banks in a convenient fiction for a government that desperately needs to raise more money.

So, a financial transaction tax with a low rate might be a good idea. It is a potential small tax that, if set at the right level, few people will notice. But you have to be careful. Bond traders don’t have to operate in London, Paris or Frankfurt. They can trade from the beaches of the Caribbean or the bars of Hong Kong or their living rooms in Sydney. When Sweden brought in a tax on selling bonds in 1989, with a rate of just 0.003%, the number of transactions fell by 85% in the first week. The tax ended up raising less than a tenth of what was expected and was scrapped in little more than a year. If the EU imposed a Tobin tax, financial traders might gradually drift away to more welcoming shores.

Likewise, the effect on the City of London of the UK unilaterally introducing a financial transaction tax would be catastrophic. That’s why the British Government opposed the EU’s plans for a financial transaction tax unless the rest of the world implements one too. This is sensible. Since a vast amount of business is done through London, the British exchequer would be a major beneficiary of an international tax. But it would have to apply everywhere or any country that didn’t implement it would quickly steal London’s financial pre-eminence. These objections meant that, even before Brexit, the UK was not part of the plans for an EU financial transaction tax. Even the countries that are interested in taking part are finding it very hard to agree exactly how it should work.

Luckily, there are some financial instruments that are not as mobile as bonds and derivatives. If you want to own shares in a listed UK company, almost the only place you can buy them is on the London Stock Exchange. Admittedly, there are special financial products called depositary receipts that can be traded in other countries and some companies, like Shell and HSBC, have dual-listings in more than one country for historical reasons. But generally speaking, UK shares have to be bought and sold in London. Since it is impractical to buy UK shares anywhere but in the UK, the Government can tax share sales without worrying about all the business moving elsewhere. For many years, selling UK shares has been subject to a special levy called stamp duty reserve tax. This is collected automatically by the electronic settlement system of the London Stock Exchange. The rate is 0.5% of the price of the shares.

This means there is hope for a slimmed down version of the European financial transaction tax if it is restricted to shares. Both France and Italy have jumped the EU gun and enacted their own version of the UK’s stamp duty (Spain and Portugal have plans to do the same). Since quoted French and Italian shares are traded at the Bourse de Paris and Milan’s Borsa Italiana respectively, these provide a captive market that Governments can trim. Basically, other European countries are adopting the system that the UK has had for decades. When introducing new taxes, copying a successful model from elsewhere in the world is often a good idea.

Stamp duty includes various exemptions that prevent the market from seizing up. There is no reason that a more general financial transaction tax should not work just as well and raise lots of money. The fundamental problem remains that the market would move to avoid the tax, which means it would have to be introduced everywhere at the same time. Since that is not going to happen, the Robin Hood Tax is one of those good ideas that will never happen.