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European Union Endorses Resolution Fund And Transactions Tax — Will Congress?

Two reforms of the financial sector that have had a hard time getting traction are a financial transactions tax and implementing a levy on the biggest banks to build up a fund that would tapped to resolve a failing financial behemoth. And one of the more commonly used arguments is that the measures would hinder American competitiveness internationally.

Well, it seems that this concern can be somewhat mitigated, as the European Union is ready to jump on board:

“We want a system of levies and taxes for financial institutions to ensure fair burden-sharing and rein in systemic risks,” German Chancellor Angela Merkel told reporters after an EU summit in Brussels yesterday. “We also want a global system.” Europe said it will put up a united front at the G-20, which has refused to endorse a bank tax under pressure from Canada, China and Brazil, three countries with banks that suffered less during the 2008 financial crisis.

As I’ve pointed out before when concerns about international competitiveness were raised, this likely has much more to do with financial services fearmongering than any real intent on the part of financial firms to move. After all, the United Kingdom instituted a .25 percent stock trading tax and still has a vibrant financial industry. Creating such a tax would help prevent events like the flash crash of May, while raising a significant amount of money that could go towards reducing the deficit.

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That the EU is going to endorse a levy to build up a resolution fund is interesting, as the conference committee reconciling the financial reform bill in the U.S. Congress has a chance to do the same thing. The House has such a fund in its bill, but the Senate discarded it in order to appease Republicans, who successfully (and falsely) characterized it as a “bailout fund.”

As Federal Deposit Insurance Corporation Chairman Sheila Bair agues, a pre-funded system “has significant advantages over an ex-post funded system.” In fact, an ex-post levy, which is what the Senate relies on, could be dangerously pro-cyclical, as it’s a safe bet that if one large financial firm has failed, others are in trouble. Asking them to cough up to fund their competitor’s failure after the fact could push them closer to the brink.

“I worry about the politics of trying to extract the costs from the industry if it might have a negative effect on the economy — that could become the problem,” said Stephen Lubben, a bankruptcy professor at Seton Hall Law School. The Senate’s mechanism for actually resolving a firm is tighter than the House’s, but it would benefit from the pre-funding mechanism. Maybe the EU’s support will mitigate the concerns of some of the Senate’s conferees (though I’m not holding my breath).