State guarantees and tax breaks distort competition

Today, 24 cantonal banks operate in Switzerland, of which 21 still have a state guarantee. (Image: Linine)

Many cantonal banks still profit from relics of the past. The liability obligations that cantons assume through the state guarantee can, in extreme cases, amount to several times their annual expenditure. Avenir Suisse experts believe that state guarantees and tax breaks for cantonal institutions should be abolished.

Today, 24 cantonal banks operate in Switzerland, of which 21 still have a state guarantee. Only the cantons of Berne, Geneva and Vaud have not granted their cantonal banks a state guarantee for some years now. If a cantonal bank with a state guarantee goes bankrupt, the canton in question must assume responsibility for all debts still outstanding after the assets have been liquidated.

As Samuel Rutz and Laurenz Grabher of Avenir Suisse point out, the state guarantee thus represents the largest contingent liability for most cantons, as it can result in liability obligations that, in extreme cases, amount to several times their annual expenditures (cf. Figure). To illustrate: If the Appenzell Cantonal Bank z.B. suffer a 20% loss on their assets, the canton would theoretically have to forgo any spending for almost five years to meet its liability obligation.

Balance sheet total in relation to annual cantonal spending

Cantonal banks are particularly vulnerable in the mortgage lending business, where they have traditionally been heavily involved. In the 1990s, various cantons had to learn the painful consequences of a major real estate crisis: The Berner Kantonalbank (BEKB), for example, was forced to repay bad loans amounting to. CHF into a rescue company – a so-called "bad bank – outsource. In 2002, the state guarantee ended with a total loss of 2.6 billion euros. CHF 6.5 billion, with the canton having to pay out around. CHF had to be covered by the state guarantee. As a result of this debacle, the state guarantee for BEKB in the canton of Bern was abolished.

In the cantons of Geneva and Vaud, too, the state guarantee was abolished after the cantonal banks in question had to take advantage of state assistance. The Solothurn and Appenzell-Ausserrhoden Cantonal Banks, on the other hand, could not be rescued because this would have simply overstretched the financial resources of the respective owner cantons. The former had to be sold to the then Swiss Bank Corporation, while the latter was taken over by Union Bank of Switzerland.

State guarantees distort competition

In addition to the liability risks of the cantons, which ultimately have to be borne by the taxpayer, state guarantees also have the potential to distort competition, as Lutz and Grabher further explain. Thus, the knowledge that the state has their back in an emergency can – consciously or unconsciously – increase risk appetite in day-to-day business. In addition, a state guarantee represents a monetary advantage on the capital market, which is reflected, for example, in the ratings of agencies such as Standard& Poor's (S&P) reflects. Only if a risk-adjusted compensation is demanded for the state guarantee (similar to an insurance premium), no competition-distorting effects are to be feared.

However, according to the experts, such considerations seem to play a role in the compensation for the state guarantee only in the cantons of Glarus and Zurich. In most other cantons, the compensation is simply determined as a percentage of the required equity, a few cantons also know models in which the accruing compensation is made dependent on the annual profit. According to Lutz and Grabher, what these compensation models have in common is that they lack a clear link to the benefits associated with a state guarantee and the risks borne by the cantons. In most cantons, the compensation is simply seen as a welcome financial "extra" seen to the canton's finances. And there is still one canton, Ticino, that does not demand any compensation at all from its cantonal bank for the state guarantee.

Anachronistic tax privileges

However, it is not only state guarantees that cause distortions of competition, but also tax privileges from which many cantonal banks still benefit today, as the two experts from Avenir Suisse further point out. Currently, 15 of the 24 cantonal banks are constituted as public-law institutions and are thus exempt from direct federal taxation. Whether cantonal and municipal taxes are due, on the other hand, is not determined by the legal form, but by cantonal law. A total of twelve cantonal banks are fully tax-exempt and another four are partially tax-exempt. Only eight cantonal banks pay regular taxes at all levels and thus play by the same tax rules as their private-sector competitors.

In order to justify the privileges of the cantonal banks, it is often pointed out that they have to fulfill a performance mandate in return. According to Rutz and Grabher, a clear monetary value of the (additional) services provided on the basis of such performance mandates cannot be determined in any case. It cannot be assumed that the value of the privileges granted to the cantonal banks just outweighs the additional costs caused by the performance mandates.

"The aim should therefore be to find a solution that is as neutral as possible in terms of competition. In her opinion, the 'cleanest' way to achieve this goal would be, on the one hand, to abolish any privileges for the cantonal banks, a demand that is also regularly made by the OECD and the EU. On the other hand, those financial services which the state would like to provide to the population but which are not provided by the market, or not in the desired quality, should be identified and recorded in writing in a performance mandate. In order to ensure the most economical use of public funds, the service contract would then have to be put out to tender and awarded to those institutions that can provide it most cost-effectively", suggest Rutz and Grabher.

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