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Three out of four developed countries agree: Tax the banks!

curiousgeithner.JPG

The Wall Street Journal reports that there's international consensus around some form of a bank tax meant to cover the cost of future bailouts. The proposals vary: France and the president of the United States only want to use the bank tax in the aftermath of a crisis. Germany, Sweden, Britain and the U.S. Congress prefer an ongoing tax that offsets the cost of bailouts when they happen. Canada, whose banks survived the crisis pretty well, doesn't want a tax, and instead wants very sharp capital requirements.

I'm on the side of the ongoing tax, mainly because I'd like to use the rhetoric of covering the cost of future bailouts as a way to tax banks in order to lower deficits and slow the growth of the financial industry. I'd guess a few of the relevant politicians agree with me on that, but they're not going to explain it that way.

Photo credit: By Pablo Martinez Monsivais/Associated Press

By Ezra Klein  |  March 29, 2010; 12:00 PM ET
Categories:  Financial Regulation , Taxes  
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Comments

Sign me up for "D) All of the above."

Posted by: redwards95 | March 29, 2010 12:14 PM | Report abuse

I would rather see the financial transactions tax (designed to capture super fast computer arbitrage and day trader activities) and a derivatives tax (that exempted commodity owners, farmers, etc), but a generalized bank tax would be fine with me as well.

Very modest Wealth tax?

Posted by: srw3 | March 29, 2010 12:23 PM | Report abuse

The bank tax/higher capital requirements are good ideas worth implementing, but IMHO more important is taking the shadow banking system out of the shadows. This has to do with the difference between "too big to fail," and "too interconnected to fail." Addressing too interconnected to fail entails placing limits on securtization, including outright bans on some of the most offensive products like naked credit default swaps. So far the only proposal Congress has been able to put forward addressing the issue of too interconnected to fail is requiring derivatives to be traded on open exchanges. This is just a start; we can't allow our representatives to become complacent.

Then there are many, many issues related to financial accounting abuse, mortgage fraud, and other forms of corporate misgovernance. There are many fronts in the battle against the financialization of the U.S. economy. Reform is going to take many years.

Posted by: nklein1553 | March 29, 2010 12:42 PM | Report abuse

Depositors are insured by the FDIC, which is what matters most. Starting a fund to guarantee bank bailouts only seems to guarantee that there will be bank bailouts. Why would a banker refrain from reckless conduct if he knows that the Government will cover his losses?

Posted by: tomtildrum | March 29, 2010 1:22 PM | Report abuse

Ezra, There's a lot of confusion in these types of articles on international comparative bank tax perspectives.

The tax that the US Congress favors isn't a tax in the way you're talking about: a revenue raiser. The article, I believe, is referring to new assessments that banks (and some non-banks) will have to contribute toward the resolution authority fund. That money will essentially sent in a pot for potential resolutions or liquidations or dissolutions (choose your favorite bill's preferred term!)

Posted by: sharbourt | March 29, 2010 1:39 PM | Report abuse

I'd be in favor of capital requirements and contingent debt per Greg Mankiw's recent NYTimes article.

There are two aspects of taxes I don't like. One is that it entrenches the expectation of future bailouts. Not only should you expect to be bailed out if things go wrong, there is now a tax which explicitly exists to cover the costs of it! Furthermore, said tax will be attacked for repeal of a decent amount of time passes without a bailout (e.g. Glass Steagall repeal in the 90s), and/or the money will be used on other things and generally not be available to cover the costs of the next bailout. At any rate, I think per Paul Krugman's analysis that we should have a system which is more robust to failure, and lets individual players fail and try to avoid as much as possible avoiding ad hoc bailouts every few years.

Also, higher taxes and higher capital requirements will each raise the required RoE hurdle for banks. Banks will achieve this higher RoE either via higher interest rates, more fees, with the end result being more expensive capital with reduced availability. If we're going to enact legislation which will reduce the availability of capital and increase fees/rates, I'd rather put all of the energy into raising capital requirements and reducing the probability of a future bailout, than to add on taxes which aren't targeted towards that purpose.

A financial transactions tax (FTT) probably wouldn't be bad for revenue raising, although capital is very mobile. Best to start at very low lates, and monitor effects on market liquidity and trading volume and try to find an 'optimal' rate over time. We should also try to get other major financial centers on board if we're seriously considering an FTT, or else we might see lots of trading go to those locations.

Posted by: justin84 | March 29, 2010 2:13 PM | Report abuse

"Tax the banks!"

Whether this is intended to be punitive or protection against future downturns makes no difference. Banks, like all corporations and companies, don't pay taxes. They collect them. Force banks (or any other for profit entity) to pay a new tax and it simply passes that cost on to it's customers or clients. Presto, under the guise and self-righteous rhetoric of sticking it to the evil corporate empires, you wild-eyed libs are actually taxing the middle and lower classes further. But you're for the little guy, right? Right.

Give me a break.

Posted by: superman32 | March 29, 2010 2:28 PM | Report abuse

nklein1553,

I'm going to take the other side on banning some financial products outright.

Naked credit default swap trading is a good thing. CDS trading is useful for managing balance sheet credit risk and efficiently expressing a short view in for trading purposes. Speculative CDS trading increases liquidity (reducing the cost of hedging) and provides new useful information about the underlying securities.

The problem with CDS was that hardly any collateral needed to be posted when market participants would sell protection against default - which is basically selling insurance without reserving for losses. Requiring those selling protection to post significant collateral - say 30% or 40% of notional value - and that problem evaporates. AIG wouldn't have been in the news if it had to post $1 trillion of collateral on its $2.7 trillion CDS book (and, for that matter, it never would have had a $2.7 trillion CDS book if that much collateral was required).

Banning naked CDS does nothing to address the real problem - the old problem of excess leverage. The market dislocations occurred on the sell side - those providing the protection against default - because they could receive premium payments without actually holding cash to cover possible losses. The CDS market didn't blow up because of those buying protection couldn't pay - the losses incurred by buyers defaulting on premium payments are tiny compared with the losses from sellers defaulting on notional amounts. In any case, the buyer is probably only going to stop making payments on a CDS contract if they are basically insolvent, in which case it doesn't matter a whole lot whether or not they own the underlying. The only way a buyer could possibly become a huge risk is if they entered the contract when the market perceived a high risk of default, and in which case the premium against that risk would be very high - in those situations, sellers already require massive upfront payments in any case, which reduces the monetary risk of a buyer default.

As for interconnectedness, collateral solves that problem too. Let's say you have sold $10mm of protection on radio shack bonds, and bought $10mm of protection on radio shack bonds. In the event of default, you feel you are neutral - you pay out $10mm and receive $10mm. What if the guys who you bought protection from fail to pay you the $10mm? In 2008, that meant you basically got stiffed, and instead of being flat you were down $10mm (minus recovery). With 40% collateral on this (and all of your other trades with this counterparty), you'll most likely be made whole or close to it.

Posted by: justin84 | March 29, 2010 2:47 PM | Report abuse

Canada is on the right track. The tax will end up being used for other purposes.

Posted by: staticvars | March 29, 2010 4:11 PM | Report abuse

--"Three out of four developed countries agree"--

Yeah, and fifty billion flies can't be wrong, either. Right?

superman32 is correct. The bank's customers will pay the taxes.

Looks like now, more than ever, is time to start pulling accounts. The banks have long been an arm of the government (try opening an account without your social security number), and now the relationship is only going to get tighter. Don't buy your health insurance? Well, they'll just take it, anyway. With interest and penalties.

Posted by: msoja | March 29, 2010 8:55 PM | Report abuse

Ezra Klein is a child. He thinks like a child.

He writes "I'd like to use the rhetoric of covering the cost of future bailouts as a way to tax banks in order to lower deficits and slow the growth of the financial industry".

What he has just told you is that he thinks collecting and spending Social Security taxes is a good idea, even when the fund faces bankruptcy. If the child Ezra thinks any taxes collected will be available for future bailouts, I have this house I will build for him. All he has to do is pay me monthly and when he is finished paying, I will build the house. Only a child could think this way.

Posted by: RickCaird | March 30, 2010 10:30 AM | Report abuse

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