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Financial Repression Is A Tax That Should Be Taken Into Account To Calculate The Real Level Of The Tax Burden


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Excellent document about Financial Repression by Natixis, a French corporate and investment bank created in November 2006 from the merger of the asset management and investment banking operations of Natexis Banque Populaire (Banque Populaire group) and IXIS (Groupe Caisse d'Epargne).

http://cib.natixis.c...c.aspx?id=65422

I've extracted the relevants bits for the UK:

Financial repression is a tax that should be taken into account to calculate the real level of the tax burden

In many large OECD countries (United States, United Kingdom, Germany, France and Japan in particular), investors are affected by financial repression, which has two components:

  • the channelling (due to regulations and a lack of private sector borrowing requirement) of savings into the financing of fiscal deficits;
  • the implementation, thanks to monetary policy and risk aversion, of very low interest rates on the public debt, lower than the growth rate.

    Financial repression is a tax: the lenders do not receive the normal interest from the government, and it weakens activity like all taxes (it is used to reduce the fiscal deficit and not to increase government expenditure). It should be added to the "normal" tax burden to obtain the real level of the tax burden in these countries. Financial repression is weak in France and Japan, pronounced in Germany and the United Kingdom, and very pronounced in the United States.

Financial repression

Financial repression has two components: the channelling of the country's savings into the financing of the country's fiscal deficit; and the implementation of very low interest rates on the public debt.

Financial repression has several causes: regulation of financial intermediaries (Solvency II and the liquidity ratio of Basel III, LCR, drive European insurers and banks to invest in government securities), a lack of private sector borrowing requirement (which means that savings are available for the financing of the government), high risk aversion (which drives investors into assets that are supposed to be risk-free), very expansionary monetary policy (which drives down interest rates).

[...]

In the United Kingdom, Germany, France and Japan, households and companies are deleveraging.

All domestic savings can therefore be used to reduce the fiscal deficits, which can take several forms:

-

purchases of government bonds by banks in the United Kingdom and Japan);

The interest rates at which the governments in these countries raise financing are very low.

This is due to high risk aversion, highly expansionary monetary policies and government bond purchases by central banks.

In all these countries, we can see that interest rates have become lower than growth rates.

Financial repression is a tax

Financial repression (channelling of savings into the financing of fiscal deficits and abnormally low interest rates) is indeed a tax levied on investors to the benefit of the government.

It is equal to the gain provided by the difference between actual interest rates and their "normal" level multiplied by the amount of public debt raised at these low interest rate levels.

Since it is not used to increase government expenditure, as it is raised in a period of budgetary problems, it weakens demand like any other tax. The tax linked to financial repression should therefore be added to the normal tax burden.

To measure the amount of the tax linked to the tax burden, we can look at the trend in the interest rate on public debt and correct this interest rate according to the comparative trend in the apparent interest rate and long-run growth; the product of this correction and the outstanding public debt gives an estimate of the size of the tax.

In this way, we arrive at an estimate of the tax linked to financial repression in 2012 (in percentage points of GDP):

  • 2.5 in the United States,
  • 1.3 in the United Kingdom,
  • 1.0 in Germany,
  • 0.4 in France,
  • 0 in Japan.

Conclusion: The advantages and drawbacks of financial repression

Financial repression (channelling of savings into the financing of the fiscal deficit, abnormally low interest rates on the public debt) has the advantage of making it easier to raise financing for the government and to reduce the fiscal deficits, and to boost the government's solvency.

But this is a real tax on investors, the size of which is between 0 (Japan) and 2.5 percentage points of GDP (United States) according to our estimates.

Financial repression weakens growth via two channels:

-

in the short term, via this additional taxation;

-

in the long term, because of the inefficient allocation of savings it leads to, to the detriment of companies.

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