The Obama administration has just proposed a new fee — otherwise known as a tax — on the country's largest financial institutions.
The tax aims to recover the difference between the bailout funds provided to these institutions a year and a half ago and the amounts ultimately returned to the Treasury. In so doing, the tax will allegedly reduce the federal deficit by some $90 billion.
This tax has popular appeal because the bailed-out financial institutions are now earning large profits and appear ready to announce huge bonuses for their executives. Given an unemployment rate of 10%, populist demand to punish bankers and financiers is almost inevitable.
Yet the proposed tax is misguided at every level.
The tax will not fall solely or even mainly on its desired political target, the shareholders and highly paid executives of large financial firms. The true burden of a tax often lands far from its intended target as the target attempts to shift the burden.
In this case, higher taxes mean higher costs and therefore higher prices, so customers (borrowers) will bear some of the burden of the tax. Higher costs (along with limits on compensation) will also induce financial firms to shift their operations overseas, where taxation and regulation are often more benign.
Thus the tax will impose little harm on those that the populist outrage seeks to punish. Instead, the tax will hurt borrowers — an odd move from an administration concerned about a credit crunch — along with the employees of these firms, from middle management to secretaries and janitors.
The proposed tax will also raise less revenue than promised, again because those subject to the tax will take steps to avoid it. Relocation overseas is one approach; accounting gimmickry is another. The net revenue raised may even be negative because the U.S. will not collect income or payroll taxes from those thrown out of work by an exodus of financial institutions.
The new tax will thus fail to promote its stated goals. Worse, it distracts attention from the real issue.Read More