Financial transaction tax will harm Europe’s banks in Asian derivatives markets
European banks will suffer a major disadvantage in Asia’s derivatives markets if the European Commission’s (EC) proposed financial transaction tax is implemented in its current form, say market participants.
The financial transaction tax (FTT) would be levied at 0.1% minimum per securities transaction and 0.01% of the notional value in derivatives trades. Unlike similar stamp duty taxes charged in the UK, France and Italy, there are no exemptions for market makers. Under the current time frame, agreement between 11 European Union states that have decided to implement the tax – including Germany, France and Italy – must be reached by September ahead of implementation on January 1, 2014.
The tax is extremely wide-ranging, covering over-the-counter and listed derivatives as well as all securities trades, including repo transactions. To limit relocation risk from financial institutions based in the 11 states, the European Commission’s proposal is to tax both counterparties if one counterparty is established in the so-called FTT zone and to tax counterparties trading a financial instrument issued within the FTT zone.
And it’s the extraterritorial implications of the FTT that concern market players, according to a London-based senior management source from a European bank with a notable Asian presence.
“This is the extraterritoriality aspect. If you deal with [a European security], it doesn’t matter if an Asian bank is dealing with an Asian bank, they have to pay the FTT. At the same time, if an Asian bank deals with a European bank, out of the European branch, it would be fully subject to the FTT,” he says.
“We could be dealing with any Asian bank on any security and the tax would apply. That means that for all of the European banks, nobody would want to deal with us. We’d be left to deal with ourselves!”
This view is supported by one Singapore-based senior management source at a regional Asian bank, who says that the FTT in its current form would severely restrict European banks from competing for business with Asian firms.
“The FTT would definitely put European banks at a big disadvantage in Asia because if they always get taxed, they would not be able to get non-European counterparties to deal with them,” says the source.
“They would exclude themselves from non-European counterparties, including banks. Then the European corporates needing to hedge are also screwed because they’re caught regardless of where they deal.”
The tax was initially proposed for all 27 European Union member states by the EC in September 2011.
After unanimous support for the measure could not be reached, 11 states approached the EC in September last year to submit a draft directive that they would implement. The draft directive was issued in February, although many in the market are hopeful that several elements will be watered down, including granting exemptions for market makers.
The EC says in the proposal that the “purchase/sale, transfer, exchange, conclusion of derivative contracts, and material modifications thereof” are all subject to the tax. The fact that there is no intermediary exemption leads to a cascade effect through cleared OTC derivatives trades and securities sales. Market sources point out this would potentially accumulate the costs through a single OTC trade from 0.01% to 0.1% – with counterparties and brokers on both sides taxed – and through a securities trade from 0.1% to 1%.
According to the London-based source, the multiple payment aspect of the FTT is its worst aspect and indicative of the underdeveloped nature of the proposals.
“This one is a killer. If you work through the consequences, then they are just horrendous,” he says. “It’s unworkable.”
The tax is the latest of the extraterritoriality concerns in Asia over legislation from the US and Europe. Worries surrounding Commodity Futures Trading Commission cross-border swap dealer registration requirements under the Dodd-Frank Act led to a loss of liquidity for US firms in Asia at the end of 2012. Similarly, players are concerned about the lack of clarity surrounding central counterparty eligibility for European banks in Asia under the EU’s European Market Infrastructure Regulation.
A special report on extraterritoriality will appear in the June issue of Asia Risk and will contain an in-depth feature looking at the impact of the FTT proposals in Asia.
This article was first published on Risk