SA raids cookie jar and others may follow

Analysts are generally outraged at the proposed South Australian bank levy even though it won't have much impact on earnings. The new tax will be set at 6 basis points of applicable liabilities per annum, the same as the Federal rate. It is expected to raise $97 million in 2017 and 2018.

Importantly, analysts say the tax is another example of growing political scrutiny, which weighs on profitability and increases the risk of unintended consequences.

“We have been concerned about greater focus from politicians since the House of Representatives Standing Committee on Economics released its review of the major banks last year,” said Morgan Stanley’s Richard Wiles.

"However, the threat to bank profitability from governments is emerging faster than expected.”

Other states may follow

Thursday’s announcement follows the federal government's major bank levy, the inquiry into residential mortgage products by the ACCC's Financial Sector Competition Unit and the Productivity Commission's Inquiry into Competition in the Australian Financial System, as well as the Federal Opposition's ongoing calls for a Royal Commission.

“The Cookie Jar is already being raided,” lamented UBS analyst Jon Mott.  As suspected, he said in a note, the recent announcement of the national bank levy has already led to higher taxes on the banks. This is consistent with the UK where the bank levy was raised on nine occasions.

“We believe it is possible the other states may follow South Australia’s lead and introduce further levies on the banks. Additionally, with the federal election between 12 and 18 months away, further increases in the federal bank levy cannot be ruled out, especially if the Australian budget remains under pressure."

Mott expects the banks to push back hard against the South Australian bank levy as they will not want the other states to follow suit. The analyst thinks the banks could challenge the legality of a state-based bank tax or increase interest rates on South Australian mortgages and corporate loans.

Other possibilities include Westpac unit BankSA repricing its loan book or threatening to move operations such as call centres and processing centres out of South Australia. Additionally, the five major banks could potentially ration credit in South Australia, which would have a direct negative impact on the economy.

“We remain cautious on the banks – Pandora's Box is officially open. It is just six weeks after the announcement of the federal government's bank levy and the banks are already seeing a further increase in tax. Although South Australia's $97 million levy is insignificant it is an outcome many investors had feared," added Mott.

Political, regulatory scrutiny

On its own, Richard Wiles estimated the South Australian levy will reduce major bank earnings by 0.2 per cent.

Hypothetically, he told clients, if other states adopted a similar policy, the impact would be 0.5 per cent apiece for Western Australia and Queensland and closer to 1 per cent a piece for Victoria and New South Wales.

“We'd say the states with stronger fiscal positions are less likely to adopt this policy."

Increased political and regulatory scrutiny increases risk to bank returns and is one of the reasons Morgan Stanley has a negative stance on Australia's banks.

“We think it raises the risk of unintended consequences for the Australian economy at a time when consumers face a cash flow crunch and the outlook for the mortgage market has fundamentally changed," added Wiles.

Industry's 'victim mentality'

Citi’s Craig Williams claimed the levy may mark a change in the current political debate impacting returns for the sector.

"Investors need the industry's victim mentality to cease and for banks to offer leadership for both customers and shareholders," he said in a client note. In the lead-up to the new tax announcements, he went on to say, the banking industry has been poor in providing leadership and accountability on key issues.

"The government and regulators felt the need to step in and now the industry's profitability is becoming socialised," he said. "A number of actions (some of which seem appropriate) by government’s and regulators has left customers facing higher monthly costs on stretched debt levels, as well as shareholders facing further Return-on Equity declines.

The potential cumulative impact of these actions and taxes is being underestimated in the debate. However, the threat to bank profitability from governments is emerging faster than expected.”

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