Big Banks Should Pay For New Regulation

Bloomberg is reporting that the Obama administration is considering paying for their proposed Consumer Financial Protection Agency (CFPA) by imposing new fees on big banks. I'm highly skeptical of a CFPA, but if you are going to have one, this actually sounds like a pretty good idea for how to fund it. Generally, when I find myself agreeing with a government idea, it means I haven't thought about the implications for long enough, so I reserve the right to change my mind on this one. But at this point, this plan seems like a good way to preserve competition.

First, for those unfamiliar with the CFPA, it would exist to protect consumers from financial products or practices that the government deems dangerous. Negative amortization mortgages come to mind. My cynicism stems from the fact that the government cannot necessarily predict what financial products or practices are bad for all consumers. But let's put those doubts aside and think about how such an agency should be paid for.

Here's what the Obama administration suggests, via Bloomberg:

The proposed Consumer Financial Protection Agency "will be funded by fees, appropriations, and other transfers," Treasury spokesman Andrew Williams said yesterday. Firms with assets of more than $10 billion "will pay more for prudential and consumer supervision, while community banks will not pay any more for supervision than they do today. Non-banks will be assessed for the first time."

All regulation must be paid for by someone. There are two options: public or private. Public means taxpayers; private means corporations. If this regulation is necessary because corporations are putting consumers in danger, then that causal relationship implies that the firms should pay. Moreover, it probably isn't fair for all taxpayers to take on the burden, as some people use more financial products than others. If banks pay, then those fees will just be passed on to its customers anyway. That means, ultimately, the consumers who use the most financial products will be exposed to more of the cost.

So corporations might as well pay, but which ones? Why not charge all banks instead of just the big ones? Here, we should think about competition. Regulation generally gives larger firms a competitive advantage. Big banks will have an easier time putting regulation into place, given their sophistication. They also have more money to pay for the costs involved in implementing new regulatory requirements. As a result, regulation tends to put smaller firms at a disadvantage.

What this plan would do, however, is reduce that disadvantage. Big banks would be subject to additional regulatory fees to their increases costs, small banks would not. Those even higher costs should make it more difficult for big banks to achieve a competitive advantage over small ones due to the regulation.

Again, I'm not saying that this regulation is necessarily a good idea. Ultimately, financial products will be more expensive. If you think that increase in price is worth whatever safety the government manages to provide to consumers, then you probably support the CFPA. If not, then you probably dislike the idea. However, if you're going to support it, making big banks pay seems quite sensible.