In the wake of the financial crisis, a number of countries have introduced levies
on bank borrowing with the aim of reducing risk in the financial sector. This paper
studies the behavioral responses to the bank levies and evaluates the policy. We find that the levies induced banks to borrow less but also to hold more risky assets.
The reduction in funding risk clearly dominates for banks with high capital ratios
but is exactly offset by the increase in portfolio risk for banks with low capital
ratios. This suggests that while the levies have reduced the total risk of relatively
safe banks, they have done nothing to curb the risk of relatively risky banks, which
presumably pose the greatest threat to financial stability