New ‘Bank Tax’ Proposal Is More Destructive Populism

By Louise Bennetts
This article appeared in American Banker on February 26, 2014.

In their new book on the history of banking, “Fragile by Design,” academics Charles Calomiris and Stephen Haber make the compelling argument that a country’s propensity for frequent banking crises is linked to the ability of populist elements to hold the banking sector to ransom.

Do we want banks to be stable, profitable and internationally competitive or do we want them to be cash cows for Congress?”

Banking systems are crisis-pronenot because the participants are “too big” or because banking activity is inherently unstable and needs to be tightly regulated, Calomiris and Haber say. Rather, it is forcing banks’ investment decisions and actions to be dictated by the whims of the majority rather than by consumers and the bottom line that makes them fragile. Countries that avoid this trap, such as Canada and Singapore, have suffered no banking crises even during periods when their real economies have floundered.

Calomiris and Haber find numerous examples of this destructive populism in the United States’ own checkered banking history. Prohibitions on branch banking and interstate banking led to successive banking crises in the late 19th and early 20th centuries as small banks and their local regulators jealously protected their turf. Similarly, the proliferation of subprime mortgages to create an “ownership society” contributed to the conflagration we all lived through in 2008.

Viewed through this lens, Rep. Dave Camp’s rumored “big bank tax” is more of the same. His attempts to lower individual and corporate taxes and to simplify the tax code are highly commendable. But including a complex tax on selected participants in a lone industry would seem to undermine the spirit of a “simplifying” proposal.

More importantly, levying a tax on large banks will not enhance systemic stability (in the way that asking banks to increase capital may do). Nor would these funds go towards reducing risk in the banking sector — such as financing a resolution mechanism. The bank tax is nothing more than a transfer payment — an attempt to force a small group of wealthy, but politically unpopular institutions to finance everyone else. I would call it un-American, were it not clear that with respect to banking, it is oh-so-very American.

On the bright side, at least Rep. Camp’s proposal calls a tax a tax. Dodd-Frank levies many “hidden” taxes on banks, large and small. Indeed, the ongoing and seemingly endless litigation by regulators against some of the country’s largest banking institutions — in some cases for actions encouraged by those same regulators — is a tax by another name.

Which brings us to the key issue — do we really want banks to be stable, profitable and internationally competitive or do we want them to be cash cows for Congress? The research by Calomiris and Haber suggests that in the interests of financial stability, keeping Congress out of the banking sector would be the best course of action.

Louise Bennetts is the associate director of financial regulatory studies at the Cato Institute in Washington DC.