A nation ignorant of the equal benefits of liberty and law must be awed by the flashes of arbitrary power: the cruelty of a despot will assume the character of justice; his profusion, of liberality; his obstinacy, of firmness. 

Edward Gibbon, The Decline and Fall of the Roman Empire

 Yesterday, the markets learned that the rumors of a new tax on US financial institutions imposed to “pay” for the bailout were in fact about to be realized. The White House issued a press release concurrent with the announcement of the tax by President Obama while flanked by his economic advisors. In making this announcement, the Obam-ites appear to have stolen a march on George Washington Plunkett and his devious vote-getting practices.

 The US public is being led to believe that the impact of the financial crisis on household finances will be lessened by this new levy on the big, bad financial institutions. Interviewed after the President’s announcement, the venerable ex-Fed Chairman, Paul Volcker did nothing to dispel this impression even if he believed otherwise. Nothing, in fact, could be further from the truth.

 According to the White House press statement the parameters of the “Financial Crisis Responsibility Fee” are designed to “require the largest and most highly levered Wall Street firms to pay back taxpayers for the extraordinary assistance provided so that the TARP program does not add to the deficit”. It is expected to stay in place for 10 years or longer. By imposing this tax on the banks (at the same time that the US Congress was grilling the heads of the largest US financial institutions in front of the Financial Crisis Inquiry Committee) the Obama administration is seeking to deflect responsibility for the financial crisis from the Democrats and Government agencies that supported various risky schemes to expand homeownership, to rest squarely onto the shoulders of the banks. In a  month which features a critical Senate race, and a year where it looks like the Democratic Party is on the back foot heading into mid-term elections following a variety of gaffes and mistakes that has sent the President’s and the party’s popularity plummeting, this amounts to blatant pandering to the electorate.

In fact Mr. Volcker was probably privately shaking his head with dismay, but clinging to the party line as the better of two very bad alternatives – the other one being to resign in the face of this populist fakery. We are sure that the respected ex-Chairman felt it better to stay inside the tent and remain in a position to counsel against the next mis-step rather than to quit.

 Anyone remotely familiar with the nature of banking will recognize that the ones paying for the tax will be bank customers i.e. businesses and individual taxpayers. Banks are simply intermediators of risk. In order to function efficiently they must earn an after-tax, after-cost return on capital that is commensurate with the risk they are taking. This means that in the absence of any changes to the risk profile of their balance sheets, that the tax will be paid for by a rise in lending spreads and bank fees to customers in order to preserve the banks’ required risk adjusted returns. This is no different to a utility that will pass on increases in input costs to its installed base of customers in order to ensure that it maintain a return on capital sufficient to maintain services, replace depreciated equipment and expand capacity to meet future demand growth.

 As such, the new tax promises to be a drag on growth, because it will reduce incomes and profits of consumers and businesses that do business with the banks. The fact that smaller banks are exempt and that ten of the largest banks are expected to have to pay around two-thirds of the expected receipts does not change this fact. US growth prospects are reduced because of it and households will retain less spending power.

 The bottom line is that the Administration is betting that the electorate is stupid and does not realize the fact that they will be the ones largely funding the new tax. The measure is thus a cynical ploy to appear righteous and strong in championing the cause of the “little guy” against the big evil banks when in fact the “little guy” is being soaked for new cash and the only real objective of value for the Obama Administration is to gain his vote by whatever means.

This entry was posted on Friday, January 15th, 2010 at 2:44 pm and is filed under Uncategorized. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.