A Bailout Tax On Banks? Absolutely. And Make It Permanent

Last Updated Jan 17, 2010 1:48 PM EST

This week, with the bank crisis smoke clearing, and the banks demonstrating pretty good earning power in the fourth quarter, President Obama reminds us that the original legislation on the TARP program called for banks having to reimburse to U.S. taxpayers the entire cost of the program. The amount they intend to recover is $90 billion, which is probably less than the true cost, but there's a certain fairness to the idea, and at a time when bankers and lawmakers are feuding about how big their bonuses are, the timing couldn't be better.

"We've now recovered most of the money we provided to the banks, and that's good news," said President Obama in a video address on January 16:

But as far as I'm concerned, it's not good enough. We want the taxpayers' money back. All of it. And we're gonna collect every dime. That's why this week I proposed a new fee on major financial firms to compensate the American people for the extraordinary assistance they provided to the financial industry. And it will stay in place until the American taxpayer is made whole.
This is a great idea, both from the standpoint of the economy, as well as economics. By economics, I'm referring to the principle that taxes or fees are most efficient when they are focused on the matter at hand. So a fee like this could be imposed in the form of a fee on all banks' assets, or on profits; instead it will be paid by the biggest banks, in both good years and bad, on the leverage they use in their business, which is the source of a lot of the risk that created the crisis.

This charge, which has been named the "Financial Crisis Responsibility Fee," would be imposed on the 50 or so largest banks, and charge them 15 basis points (0.15 percent) on a portion of the borrowing that finances their assets.

The concept behind the fee is that during the crisis, the U.S. government made an implicit guarantee on all of the big banks' debt, not just that which was explicitly guaranteed through and FDIC program (the banks paid guarantee fees for that protection, and that debt would be excluded).

In an interview with the Financial Times, Treasury Secretary Geithner explained the reasoning:

"It provides a fee for the implicit insurance that allows large firms to fund themselves with uninsured liabilities and pay very little for it," Mr Geithner said, adding that it "will have an ancillary benefit in discouraging more risky forms of leverage" in future.
Here's the Obama administration's forecast of how much revenue the fee will bring in:
While the Administration projected a cost of $341 billion as recently as August, it now estimates, under very conservative assumptions, that the cost will be $117 billion-reflecting the $224 billion reduction in the expected cost to the deficit. The proposed fee is expected to raise $117 billion over about 12 years, and $90 billion over the next 10 years.
The plan is to end the fee when the cost of the last crisis is collected. But why stop there? Wouldn't this sort of fee discourage excessive risk taking with borrowed money? From the Free Exchange blog at The Economist:
What's mystifying, then, is that the fee will only apply until TARP has been repaid. If it is understood that a tax discouraging excess leverage is a good thing, I'm not sure why you'd want the tax to sunset as soon as the bill from the last crisis is settled, especially since that will probably be right around the time that everyone will forget how dangerous big banks can be.
My MoneyWatch colleague Mark Thoma has made a more thorough and professorial analysis of the issues -- read it here.