HSBC’s decision to keep its headquarters in London is good news for the British government. An exit would have been seen as a vote of no confidence by one of the world’s major financial institutions. But it is even better news for the British economy.

If HSBC had deserted the UK for Hong Kong it would have been a serious blow to the confidence of the City, perhaps leading to further departures and a slide in the position of London as the world’s financial capital. UK financial services contribute about 8% of total GDP and about 20% of London income alone.

In the wake of the global financial crisis the popular press – and perhaps popular opinion – is generally on the side of bashing the banks, but we have to remember that this is one of the most important sectors of the UK economy.

Tax burden

A key factor in HSBC’s decision to remain in the UK was Chancellor George Osborne’s decision to change the way banks are taxed. In addition to corporation tax, in 2011 the last government introduced a levy on bank’s balance sheets (basically on the total liabilities of the bank, including deposits placed with the bank), which was subsequently increased nine times until it stood at 0.21% in 2015.

While a 0.21% levy might not sound a lot, there are two important factors to take into account: the level of interest rates and the way the levy was calculated.

Given that the business of banks is to borrow and lend, when interest rates are a fraction of a percentage point, a levy on the balance sheet of a fraction of a percentage point can be a significant tax.

Most importantly for HSBC, for UK banks the levy was imposed on their balance sheet worldwide, whereas overseas banks operating in the UK were charged only on their UK operations. Most of HSBC’s operations are in fact outside the UK or even Europe, with a heavy concentration in Asia (the clue is in HSBC’s original name: Hong Kong and Shanghai Banking Corporation).

Therefore, the levy arguably hit HSBC disproportionately and unfairly, amounting to about 6% of its pre-tax profits, and double the amount of profit that HSBC generated from its entire European operations. Relocating their headquarters outside of the UK would have dramatically reduced the amount payable by HSBC under the levy.

Concessions

Last year, however, Britain’s chancellor of the exchequer announced plans to phase out the bank levy and replace it with a corporation tax surcharge purely on banks’ UK operations, which has saved HSBC a lot of money and reduced the incentive for it to cease being a UK bank.

But there are other issues that would have weighed significantly in the decision-making process.

First, there is the quality of the financial regulator: the Hong Kong Monetary Authority (HKMA) is a very stable regulator, so this would have been a positive. Second, however, a key role of the monetary authority of a country is to offer loans to banks that are experiencing financial difficulty or are considered highly risky or near collapse.

Given that the global balance sheet of HSBC is several times the GDP of Hong Kong, the HKMA could not credibly say that it could act as a “lender of last resort” to HSBC. Third and most importantly, however, is the issue of political risk: Hong Kong is ultimately controlled by China, whose authoritarian political system is both opaque and repressive.

So who are the winners in this decision? There are at least three groups. The UK government doesn’t lose face, HSBC gets to retain the benefits of operating within an economically and politically stable environment with a presence in the world’s major financial centre. And the UK economy continues to benefit from having London’s pre-eminence as a financial centre remain unchallenged.

The next potential challenge to the City will come in the shape of the referendum on UK membership of the European Union. Despite its decision to keep its headquarters in the UK, HSBC has nevertheless indicated, along with a number of other financial institutions, that a UK exit could lead to a lot of banking jobs being relocated to the other side of the Channel.

Professor Mark Taylor is a Professor of Finance and Dean of the Warwick Business School. This article originally appeared on The Conversation on 15 February. It is republished with permission.