European Central Bank casts doubt on Spain’s plan for bank windfall tax

OVIEDO, Spain

The European Central Bank (ECB) on Thursday called into question the Spanish government’s plan to enact a windfall tax on banks to counter the cost-of-living crisis.

In the much-anticipated recommendation, the ECB called on Spain to conduct “a thorough analysis of potential negative consequences for the banking sector” before passing the legislation.

The Spanish government estimates that the temporary bank tax would raise €3 billion ($2.9 billion) over the next two years, which would be redistributed to help citizens cope with rising inflation.

This year, as the ECB has increased interest rates, Spanish banks have reported massive profits. This week, ECB President Christine Lagarde said rates will continue to rise to tame inflation.

But the ECB warned Spain’s windfall tax scheme could negatively impact the profitability of lenders, pose risks to financial stability, banking sector resilience, and the provision of credit.

It also suggested that Spain’s proposal could distort market competition both within Spain and across the EU banking union.

The recommendation, signed by Lagarde, also highlighted confusion around Spain’s proposal for banks to face hefty fines if caught passing the cost of the temporary levy on to clients.

The ECB said this measure could generate “uncertainty” and that it will be hard to determine why banks are raising costs, given rapidly changing macroeconomic conditions. Furthermore, the ECB expects banks to price “all relevant costs” into loan pricing.

Under the draft legislation, Spain plans to add a temporary levy of 4.8% on “the sum of the interest margin and commission income and expenses shown in its profits and loss account for the preceding calendar year.”

The ECB implores Spain to use more precise terminology. The bank suggests saying instead that the 4.8% tax could apply to “net interest income and net fee and commission income.”

Spain’s government has already defended the tax plan against criticism from opposition politicians and banking executives.

But with planned windfall taxes on banks and energy companies, and a temporary wealth tax, Spain’s progressive coalition government argues that fiscal justice leads to social justice.

Last week, Economy Minister Nadia Calvino told reporters that Spain was “doing the right thing” with windfall taxes.

“It’s essential … for everyone to pull their weight … especially the sectors that are making extraordinary profits due to the international energy markets or the rise in interest rates,” she said.

The ECB recommendation is non-binding, and this would not be the first time the Spanish government has ignored its suggestions. Earlier this year, the ECB called Spain’s proposal to limit cash payments to €1,000 “disproportionate,” but Madrid went ahead with the measure anyway.

Meanwhile, other European countries are considering windfall taxes to deal with inflation.

According to S&P Global Market Intelligence, Hungary announced a new bank tax in May and the Czech Republic has plans for a similar levy.

The measure is also being debated in the UK, where former Bank of England Deputy Governor Charlie Bean said this week that banks’ gains could be tapped to cover the budget shortfall.