The 'Responsibility' Tax

The 'Responsibility' Tax
Fannie and Freddie are exempt from the White House banker 'fee.'

The White House has spent months imploring banks to lend more money, so will President Obama's new proposal to extract $117 billion from bank capital encourage new bank lending?

Just asking. Welcome to one more installment in Washington's year-long crusade to revive private business by assailing and soaking it.

Mr. Obama's new "Financial Crisis Responsibility Fee"—please don't call it a tax—is being sold as a way to cover expected losses in the Troubled Asset Relief Program. That sounds reasonable, except that the banks designated to pay the fee aren't those responsible for the losses. With the exception of Citigroup, those banks have repaid their TARP money with interest.

The real TARP losers—General Motors, Chrysler and delinquent mortgage borrowers—are exempt from the new tax. Why the auto companies? An Administration official told the Journal that the banks caused the crisis that doomed the auto companies, which apparently were innocent bystanders to their own bankruptcy. The fact that the auto companies remain wards of Washington no doubt has nothing to do with their free tax pass.

Also exempt are Fannie Mae and Freddie Mac, which operate outside of TARP but also surely did more than any other company to cause the housing boom and bust. The key to understanding their free tax pass is that on Christmas Eve Treasury lifted the $400 billion cap on their potential taxpayer losses expressly so they can rewrite more underwater mortgages at a loss.

In other words, the White House wants to tax more capital away from profit-making banks to offset the intentional losses that the politicians have ordered up at Fan and Fred. The bank tax revenue will flow directly into the Treasury to be spent on whatever immediate cause Congress favors. Come the next "systemic risk" bailout, taxpayers will still be on the hook. "Responsibility" is not the word that comes to mind here.

The tax will apply to liabilities that are not already insured by government, so the White House is saying it will deter excessive risk-taking. And it does at least tilt at the role of excessive debt in creating systemic risk. But the heart of the moral hazard for the biggest banks is the implicit government guarantee that they will never be allowed to fail, and the tax does nothing about this.

The tax will be levied on financial companies with more than $50 billion in assets. However, as a too-big-to-fail litmus test, $50 billion can't possibly be the right answer. America has just run the experiment by putting a company bigger than $50 billion—CIT Group—through bankruptcy. By any objective reckoning, there were no systemic consequences. The new $50 billion tax threshold thus increases the scope of future bailouts by drawing a wider circle around firms that can gamble with implicit federal backing.

A better idea is to do the hard policy work of creating a plan that allows failure or else separates traditional banking from hedge-fund trading, as Bank of England Governor Mervyn King and former Federal Reserve Chairman Paul Volcker have suggested.

There's encouraging news that bank failure may still be an option. A bipartisan Senate effort led by Bob Corker (R., Tenn.) and Mark Warner (D., Va.) is considering the creation of a special bankruptcy court to decide whether an institution should go through bankruptcy or be subjected to an FDIC resolution process.

The first route sounds better than the second. Although FDIC Chairman Sheila Bair has been an outspoken advocate for a resolution process with certain punishment for failure, the provisions recently passed by the House would yield the opposite. The FDIC could choose among a number of ways to assist a company, and could decide how hard a bargain to drive with the firm's various creditors as well as discriminate within the same class of creditors. Not even the New York Federal Reserve of AIG fame has been willing to do the latter.

Another idea to reduce the moral hazard of too-big-to-fail would be to restore long-ago limits on leverage. For example, abolish the corporate income tax for financial companies and replace it with a tax on assets that rises with the bank's leverage ratio. There could be a tax-free zone at leverage levels below current regulatory standards. Washington could also reform margin requirements.

These ideas should all be thoughtfully considered, but of course that is hard political work and the biggest banks would oppose them because they secretly like too-big-to-fail. As for the politicians, it's so much easier to blame bankers, deplore their bonuses, tax them, regulate them, accept their campaign contributions and then bail them out while you talk about "change" and "responsibility."