Obama and Taxing the Banks

Here is commentary by Thomas F. Cooley, the Paganelli-Bull professor of economics and the former dean of the NYU Stern School of Business, pubblished in Forbes magazine:

The problem here is not the taxes per se. It is that the administration elected to treat the imposition as populist political theater. In doing so it missed the opportunity to articulate a well-reasoned economic policy to deal with too-big-to-fail institutions. And in the process it got completely wrong-footed with the regulatory reforms the House and Senate are currently considering.

Another problem with treating the tax as punitive rather than regulatory is that it gives the banks and other financial institutions the ammunition to fight it. This administration tends to treat too many of the economic problems it faces as political. They end up being far less effective.

There is a very sound argument for levying new fees on financial institutions. The financial system as it is currently structured is extremely distorted, and its distortions are due to the way the system was regulated and by the regulators' responses to the financial crisis. Basically over time we have encouraged, through regulation or the lack thereof, the creation of large, complex, interconnected financial firms. In response to the financial crisis our regulators decided that many of these firms were too big to fail. In trying to rescue them we made them larger, more complex, more interconnected and arguably riskier.

It is now clear to almost everyone except the institutions themselves that we created a big problem.

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That was then. Now we must figure out how to undo the damage. In a more perfect world we would do three things: 1. modify the bankruptcy code and create mechanisms to allow for the orderly failure of these institutions; 2. impose a tax on them that is proportional to the risk to the system that they create; and 3. treat that tax as an insurance premium to cover the cost of future problems, just as the FDIC charges banks for deposit insurance.

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An important flaw in the [Obama] tax is that it is designed only to recover the bailout costs already incurred. It should be an ongoing charge for the insurance against risky behavior. There should be two parts to such a charge: A portion to cover the risk a firm creates for itself and its investors by taking on excessive leverage, and a portion to cover the risk that leverage creates for the system as a whole.

Go read the article. It is thoughtful and well-reasoned.

The sad fact is that Obama isn't serious in his initial neglect of the banks and now the sudden "popularism" of his "tax the banks" cries. He isn't consistent. He isn't thoughtful and effective. And, as Cooley points out, this makes Obama into a distraction rather than part of the solution.