On Tuesday Tim Geithner put the case for a tax on banks to the Senate Finance Committee. Congress Daily reports that he also seemed open to including the measure in the financial regulation bill, as urged by some Democrats. The tax he proposes is the so-called Financial Crisis Responsibility Fee, first pitched in January, which would raise $90 billion over ten years from financial institutions with assets of more than $50 billion. The principle is "simple and fair", he said: "Banks, not the taxpayer, should pay for bank failures."

Simple and fair. Let's think about that. A new tax on banks--several new taxes on banks, in fact--might make good sense, but fairness and simplicity have little to do with it.

The costs of past or prospective bank failure are hard to measure. Direct losses under the TARP, if any, may end up small. Wider losses of the financial crisis (even if we confine ourselves to fiscal losses) are huge. What does the projected $90 billion have to do with either of those numbers? If the aim is to punish the banks, and this is a big part of the idea's political appeal, fairness obliges you to worry about the incidence of the tax: who will actually pay it? Not a simple question. Will it be shareholders and employees of badly run institutions? Not those of Lehman or Bear Stearns, at any rate: too late for that. How fair is it to punish well-run banks--or to make credit more expensive for borrowers?

Ken Rogoff, discussing some recent IMF proposals, argues that taxing firms in proportion to their lending makes sense. I agree, but the point is not to punish, and getting the details right will not be simple. Read on--or read the IMF paper, which was leaked to the BBC, and especially Appendix 3.

The right reason to tax banks is, as Rogoff says, to repair or at least offset some of the broken incentives in the financial system.

Financial systems are bloated by implicit taxpayer guarantees, which allow banks, particularly large ones, to borrow money at interest rates that do not fully reflect the risks they take in search of outsized profits.

On this view, raising the cost of borrowing and retarding the growth of the banking industry would not be the unintended consequence of a new tax on banks, it would be the point. And the main problem with Geithner's proposal might then be its timidity. His tax is too small to change how banks behave.

How much that matters, however, depends on the rest of the regulatory reform agenda. The crucial, broader point is that financial taxes and financial regulation need to be looked at side by side. The more you raise capital requirements--an implicit tax--or tighten regulation in other ways, the less it makes sense to tax banks' assets (or whatever) explicitly. Rogoff again:

Countries that now have solid financial regulatory systems in place are already effectively "taxing" their financial firms more than, say, the US and the UK, where financial regulation is more minimal. The US and the UK don't want to weaken their competitive advantage by taxing banks while some other countries do not. But it is their systems that are in the greatest and most urgent need of stronger checks and balances.

In other words, Canada has a point when it objects to the idea of a global bank tax. Suppose stricter regulation is the reason its banks fared well in the crisis. This is debatable but suppose it's true. Then a uniform global bank tax would not "level the playing field". You level the playing field by raising taxes (or tightening the rules) in the more lightly regulated jurisdictions.

The IMF paper discusses financial taxes and tougher regulations as substitutes for each other. This is the key thing. Some of both probably makes sense, but countries are not starting from the same place and the mix ought therefore to vary.

The Fund advocates both a risk-based "Financial Stability Contribution" (based on assets; akin to Geithner's proposal, but defended on grounds of financial safety not fairness) and a "Financial Activities Tax" (based on profits and employees' pay, maybe above a threshold; this would help meet wider fiscal costs and would fall on industry rents, which the Fund suspects are large). But these should not be seen as stand-alone initiatives. Just as it is difficult to say whether a specific regulatory reform makes sense without judging it in the context of the wider regime, the same is true of these taxes. They should be judged as extra regulatory instruments, not mainly as ways of raising money, still less ways to settle scores.

One other point. The simplest way to attack the dangerous pro-debt distortions the Fund and Rogoff both underline is directly. Let's talk about rolling back the tax subsidy for mortgages. Let's talk about equalizing the tax treatment of debt and equity. You can lean against the dangers these maladapted incentives create with offsetting regulation or with offsetting taxes--but the last thing that approach is going to be is simple. If simplicity counts, you can also do it by unwinding them at source. A Utopian thought, no doubt, but I mention it anyway.


(Nav Image Credit: davitydave/flickr)

We want to hear what you think about this article. Submit a letter to the editor or write to letters@theatlantic.com.