Sheila Bair's good advice on tax policy

Many prominent economic and financial experts — including Vanguard founder John Bogle, former Federal Reserve Chairman Paul Volcker and Nobel Laureate Paul Krugman — have offered support for the idea of taxing financial transactions. The newest name to add to the list of supporters is former FDIC chair, Sheila Bair.

Bair is a self-described lifelong Republican who throughout her career has exercised a healthy streak of independence. She has advocated commonsense financial policies that serve the general public while ignoring the special interests—most notably the extraordinarily powerful financial services lobby. In fact, when she was named to Time’s “100 Most Influential People” list in 2008, she was described as “the little guy’s protector in chief.”

It is therefore all the more meaningful that a financial transactions tax appears on her list of prescriptions in her recently published book, Bull by the Horns: Fighting to Save Main Street from Wall Street and Wall Street from Itself.

Bair’s book details at great length how incentives in the financial industry are misplaced. For example, large financial institutions often finance their activities by borrowing on a short-term basis because it is cheaper than borrowing on a long-term basis. But such a funding approach is excessively risky—both to the firm and to the financial system—because the short-term financing could disappear at the first hint of instability.

As Bair explains in her book, imposing a tax every time an institution borrows money would change the way banks finance their activities. It would make it more expensive for financial institutions to fund themselves continually with short-term debt agreements. Because it would cost more to borrow on a short-term basis than a long-term basis, institutions would have an incentive to finance their activities with long-term debt. Doing so would have a stabilizing influence on individual banks and broader financial markets.

It also would be better for investment, as Bair makes clear in her book. Those who invest on a long-term basis would rarely pay the tax, and their costs would be negligible, while those who actively trade to capture short-term profits would pay the tax often and their costs would be severe. This would reward long-term productive allocation of capital and penalize speculative trading.

Finally, Bair points out that instituting a financial transactions tax would produce revenues to reduce our budget deficit. Even a tiny tax could have a sizeable impact. For example, a 0.03 percent tax on the transfer of stocks, bonds and derivatives, such as the one called for in the Wall Street Trading and Speculators Tax Act (S. 1787, H.R. 3313), introduced by U.S. Sen. Tom Harkin (D-Iowa) and U.S. Rep. Peter DeFazio (D-Ore.), would generate more than $350 billion over 10 years, according to the nonpartisan Joint Committee on Taxation. That is easy money, which any member of Congress who is serious about solving the nation’s debt problems should consider.

Bair has offered credible solutions to thorny financial policy issues throughout her laudable career in public service. So when she includes a financial transactions tax in her list of prescriptions to repair the financial system and the broader economy, Congress should pay close attention—and get to work to make such a policy proposal a reality.

Hauptman is financial campaign coordinator of Public Citizen’s Congress Watch division.

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