IMF research shows the high level of subsidies paid to banks deemed too important to fail. Until the political will to take on the industry is found, we will effectively each continue to fund bankers' bonuses

If a bank is too important to fail (TITF), it in effect gets a subsidy from the public. That subsidy is like an insurance contract for those who lend to these banks: if the bank looks like it will fail, it will be bailed out by the government and depositors will get their money back.

This, in turn, means that TITF banks can borrow more cheaply, so they get the benefit of this subsidy every year. TITF banks could do various things with this subsidy: they could make their loans to firms or consumers cheaper (thereby undercutting competition from smaller banks), they could make higher profits that go to either shareholders or as bonuses to bankers themselves, or they could take excessive risks. They will probably do some combination of all of them.

In 2009 the Bank of England calculated the value of this subsidy at £109bn: that is about £1,750 for each person in the UK. The TITF banks, of course, dispute this figure. (Donald MacKenzie from the University of Edinburgh has a very readable account of one example in the London Review of Books.)

A week ago the International Monetary Fund published its own study, using two different market-based methods to measure this subsidy. (The IMF chapter is very readable, but former IMF chief economist Simon Johnson also has a good summary here.)

This is a very imprecise science, but the IMF confirms that subsidies to TITF banks are very large, although the £109bn figure quoted above is probably at the upper end of the range of estimates (as the Bank also acknowledged in a later study). However, if we described this number as each member of the public’s contribution to help pay bankers’ bonuses (which it could well be), I think everyone would agree even a more modest figure is unacceptable.

There are two particularly interesting features of the IMF analysis: it calculates numbers across countries and across time. On the first, some might have assumed that TITF subsidies would be largest in the US, but this is not the case. In dollar terms subsidies in the UK and Japan are of a similar size to the US, and, of course, the UK is a smaller country, so per capita subsidies are larger in the UK. In dollar terms subsidies appear largest in the euro area.

The IMF also calculate subsidies before the crisis (2006-7), during the crisis (2008-10) and after the crisis (2011-12). The worrying aspect of these calculations is that the subsidies do not seem to have fallen substantially in the post-crisis period compared to pre-crisis.

Worrying, but hardly surprising. In principle the TITF problem is fairly easy to solve: as Anat Admati and Martin Hellwig convincingly argue, the proportion of the bank’s balance sheet that is backed by equity should be much much higher. (In simple terms, if a bank gets into trouble, there are many more shareholders able to absorb losses before a government bailout is required.)

The problem of TITF banks is political. As I discussed here, the lobbying power of the TITF banks is enormous. This is not just a matter of campaign contributions to politicians. In the UK there is some evidence that the depth of the recession is partly down to lack of lending by banks, and the banks’ response to any proposals to tighten regulation is to imply that this will ‘force’ them to lend even less.

If it is suggested that additional capital could come from reducing bank bonuses, they say all the talent will migrate to overseas banks. Quite simply, the TITF banks have immense power. Until the political will to take on the banks is found, we will each continue to subsidise bank bonuses.

And there will be further financial crises. For those in the UK who think the Vickers Commission put this problem to bed, it is essential to read this article by one of its members, Martin Wolf. In reviewing the Admati and Hellwig book, he writes: ‘Once you have [understood the economics], you will also appreciate that we have failed to remove the causes of the crisis. Further such crises will come.’

Simon Wren-Lewis is professor of economics at Oxford University and a fellow of Merton College. This post first appeared on his Mainly Macro blog