ECB says Hungary transaction tax hurts central bank independence

Breach of the consultation obligation

The ECB received the initial request by Hungary’s National Economy Ministry for an urgent consultation on the FTT Law on 3 July 2012. A revised version of the law, introducing further changes to the MNB-related provisions, was received by the ECB on 5 July 2012. The Parliament adopted the FTT Law less than two business days later on 9 July 2012.

The ECB noted that it “must be consulted ‘at an appropriate stage’ in the legislative process," according to to Article 4 of Decision 98/415/EC.

“This implies that the consultation should take place at a point in the legislative process which affords the ECB sufficient time to examine the draft legislative provisions and adopt its opinion, and also enables the relevant national authorities to take the ECB’s opinion into consideration before the provisions are adopted."

In this respect, the ECB once again stresses its position that “even cases of particular urgency do not relieve national authorities from their duty to consult the ECB and to allow sufficient time to take into account its views."

The Bank added that the Hungarian government “should have postponed the final vote on the draft law until such time that would have allowed for a proper consultation with the ECB, as well as due consideration of the ECB Opinion."

“Furthermore, the ECB would appreciate the Ministry honouring its obligation to consult the ECB in due time in the future."

FTT impairs the central bank’s functional and institutional independence.

The ECB noted that the main task carried out by the MNB for maintaining price stability is to define and implement monetary policy, adding that in performance of such tasks by the MNB, “the Hungarian authorities should respect the principle of central bank independence."

“However, the new FTT Law impairs MNB’s functional and institutional independence."

“First, it disrupts the monetary policy transmission mechanism by affecting the attractiveness of overnight deposits and MNB bills to the MNB and commercial banks, depending on the final burden-sharing of the tax," the ECB explained.

“In this respect, while generally a central bank is expected to exercise financial prudence, its measures need to be driven by its monetary policy role and not by profit/cost assessments.

Thus, in line with its mandate, the MNB may not simply transfer the burden of the FTT to its counterparties by, for instance, lowering its deposit interest rate. The MNB is not a commercial entity and such decision has to be determined by price stability concerns such as a need to increase liquidity in the market. In addition, the FTT can indirectly affect monetary policy implementation through its likely detrimental impact on financial market liquidity that could impede price discovery. This will complicate the achievement of the MNB’s monetary policy objectives."

Second, the FTT “affects the ability of the MNB to select freely the monetary policy tools that best serve the primary objective of price stability, as it introduces cost considerations that are unrelated to the original design of such tools. Thus monetary policy instruments best suited for transmitting the MNB policy decisions to the wider economy in the absence of the FTT could be severely disabled by subjecting them to the FTT."

“In addition, the imposition of the FTT on the MNB’s operations, which is not justified for the reasons specified above, may interfere with the MNB’s financial independence. The MNB would need to pay the FTT from its own resources leading to de facto limiting the financial resources available to the MNB to carry out its ESCB-related tasks.

“The imposition of a tax on the MNB’s monetary policy operations, which is not compatible with the MNB’s functional and institutional independence and thus not justified for the reasons specified above, could also be seen as creating means to finance the public sector from central bank money. Therefore, the MNB’s payment of the FTT to the State is not compatible with the monetary financing prohibition laid down in Article 123(1) of the Treaty."

The general impact of an unharmonised introduction of the FTT

The ECB has also drawn attention to the potential negative side-effects of the Hungarian Government’s previous policy of temporarily raising the financial sector’s tax burden on the financial sector’s capital accumulation ability and credit availability.

“The FTT Law’s introduction of a permanent FTT, particularly in a manner which is not harmonised with other Member States, may produce distortions in financial markets and the real economy through:

• (i) increasing the cost of capital as the tax burden is likely to be shared with users of financial services,
• (ii) reducing financial market liquidity and access to finance, by increasing the costs of transactions, and
• (iii) producing incentives for tax evasion and/or avoidance that may, inter alia, divert economic and financial activity to other Member States.

The ECB draws the attention of the Hungarian authorities to the advanced legislative process for harmonisation of the FTT at Union level through the proposal for a Council directive on a common system of financial transaction tax and amending Directive 2008/7/EC (hereinafter the ‘proposed FTT Directive’).

While the legislative process is still on-going, the ECB considers that such harmonisation, in particular the exclusion of transactions with the ESCB central banks from the FTT base, is important to avoid a ‘negative impact on the refinancing possibilities of financial institutions or on monetary policies in general’9 and to mitigate economic distortions.

Ominous implications

The ECB’s opinion does not come out of the blue.
http://www.portfolio.hu/en/economy/hungary_transa ction_duty_may_be_aborted_by_ecb.24583.html
And it does not bode well for Hungary’s ongoing talks with the IMF/EU on a credit facility. If the international lenders embrace the ECB’s above views the financial transaction tax will be the subject of clashes between the negotiating parties that could eventually turn out to be a deal breaker.

The ECB’s opinion may easily have consequences on the budget too. The government claims the FTT does not infringe EU law and expects HUF 120 bn revenues from it in 2013 from the central bank (on an accrual basis). If the cabinet needed to amend the law on the FTT and lost the HUF 120 bn revenue from the NBH (which is also smaller on a cash flow basis), it would need further measures to plug this hole. It is important to note, however, that the tax to be paid by the central bank would improve the budget balance only temporarily because the government would be obliged to refund the bank’s loss in 2014.

As a result of the aforementioned negative factors the forint depreciated to the EUR after the release of the ECB opinion.

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