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FDIC Takes on After-the-Fact Tax in Geithner Plan « The Washington Independent

Testifying before House lawmakers yesterday, Sheila Bair, head of the Federal Deposit Insurance Corporation, endorsed much of the controversial proposal to grant the White House new powers to take over Wall Street investment firms when their failure threatens the larger financial system.

A timely, orderly resolution process that could be applied to both banks and non-bank financial institutions, and their holding companies, would prevent instability and contagion and promote fairness.

But Bair, echoing a common message from House lawmakers, is opposing a provision to reimburse taxpayers for bailouts by taxing the solvent competitors of the bailed-out firm — a tax the White House wants to apply only after the government steps in to euthanize the troubled company. Treasury Secretary Tim Geithner said yesterday that collecting the tax beforehand — effectively creating an insurance fund to pay for industry bailouts — would only encourage large institutions to make the risky bets that were largely responsible for the recent global collapse.

People will live the expectation where the government will come in and protect them. We don’t want to create that expectation. That’s why we think it’s better to do it after the fact.

Bair disagrees. “To be credible, a resolution process for systemically significant institutions must have the funds necessary to accomplish the resolution,” she told lawmakers.

It is important that funding for this resolution process be provided by the set of potentially systemically significant financial firms, rather than by the taxpayer. To that end, Congress should establish a Financial Company Resolution Fund (FCRF) that is pre-funded by levies on larger financial firms — those with assets of at least $10 billion.

The reason to pre-fund?

It allows all large firms to pay risk-based assessments into the FCRF, not just the survivors after any resolution, and it avoids the pro-cyclical nature of requiring repayment after a systemic crisis.

There’s still a long ways to go to iron out these differences. The “too-big-to-fail” bill unveiled this week by House Financial Services Chairman Barney Frank (D-Mass.) is just a discussion draft. The actual language isn’t expected until next week, when a markup is also likely. Expect a lot of amendments.

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