Impose a Fee on Large Financial Institutions

Background

In the wake of the financial crisis that occurred between 2007 and 2009, legislators and regulators adopted a number of measures designed to prevent the failure of large, systemically important financial institutions and to resolve any future failures without putting taxpayers at risk. One of those measures provided the Federal Deposit Insurance Corporation (FDIC) with orderly liquidation authority. That authority is intended to allow the FDIC to quickly and efficiently settle the obligations of such institutions, which can include companies that control one or more banks (known as bank holding companies) or firms that predominantly engage in lending, insurance, securities trading, or other financial activities. In the event that a large financial institution fails, the FDIC will be appointed to liquidate the company's assets in an orderly manner and thus maintain the institution's critical operations in an effort to avoid repercussions throughout the financial system.

Nonetheless, if one or more very large financial institutions were to fail, particularly during a period of broader economic distress, the FDIC might need to borrow funds from the Treasury to implement orderly liquidation authority. The law mandates that those funds be repaid through recoveries from failed firms or future assessments on surviving firms. As a result, individuals and businesses dealing with those firms could be affected by the costs of the assistance provided to the financial system. For example, if a number of large firms failed and substantial cash infusions were needed to resolve those failures, the assessment required to repay the Treasury would have to be set at a very high amount. Under some circumstances, the surviving firms might not be able to pay that assessment without making significant changes to their operations or activities. Those changes could result in higher costs to borrowers and reduced access to credit at a time when the economy is under significant stress.

In 2017, the FDIC reported that bank holding companies' liabilities totaled $14 trillion. In addition, the Congressional Budget Office estimates that the FDIC's orderly liquidation authority covers total liabilities of approximately the same amount at nonbank financial institutions. Liabilities for bank holding companies and nonbank financial institutions are projected to increase at a somewhat slower rate than nominal gross domestic product (which is based on current-dollar values and not adjusted for inflation) through 2028.

Option

Under this option, beginning in 2019, an annual fee would be imposed on bank holding companies (including foreign banks operating in the United States) and nonbank financial companies with total assets above a certain threshold. The annual fee would be 0.15 percent of firms' covered liabilities, defined primarily as total liabilities less deposits insured by the FDIC. (Covered liabilities also include certain types of noncore capital—distinct from core capital, which consists of equity capital and disclosed reserves—and exclude certain reserves required for insurance policies.) CBO estimates that in 2017, financial institutions' covered liabilities totaled $9 trillion for firms with assets in excess of $50 billion and $8 trillion for firms with assets in excess of $250 billion. The sums collected would be deposited in an interest-bearing fund that would be available for the FDIC's use when exercising orderly liquidation authority. The outlays necessary to carry out the FDIC's orderly liquidation authority are estimated to be the same under this option as under current law.

This option consists of two alternatives. Under the first alternative, the asset threshold would be $50 billion; that amount is consistent with the threshold under current law at which financial institutions are subject to assessments to recover losses from the FDIC's use of orderly liquidation authority. Under the second alternative, the asset threshold would be $250 billion; that amount is consistent with the threshold for enhanced supervision and prudential standards for certain bank holding companies established by the Economic Growth, Regulatory Relief, and Consumer Protection Act of 2018.

Effects on the Budget

If implemented on January 1, 2019, such a fee would generate revenues from 2019 through 2028 totaling $103 billion if the asset threshold was $50 billion and $90 billion if the threshold was $250 billion, according to estimates by the staff of the Joint Committee on Taxation and CBO. The fee would reduce taxable business and individual income. The resulting reduction in income and payroll tax receipts would partially offset the revenues raised by the fee. The estimates for the option reflect that income and payroll tax offset.

In its projections of spending and revenues under current law for the 2019-2028 period, CBO accounted for the probability that orderly liquidation authority would have to be used and that an assessment would have to be levied on surviving firms to cover some of the government's costs. In CBO's estimation, net proceeds from such assessments would total roughly $6 billion over the next decade under the $50 billion asset threshold and $5 billion under the $250 billion threshold. CBO expects that the receipts from the fee would provide a significant source of funds for the FDIC to carry out orderly liquidation authority and thus reduce the assessment that would be needed during the coming decade. To determine the net effect on revenues, CBO subtracted the projected assessments under current law from the amount of revenues the new fee is projected to generate ($109 billion under the $50 billion asset threshold and $95 billion under the $250 billion threshold). By that calculation, revenues would increase by $103 billion under the lower asset threshold and $90 billion under the higher asset threshold from 2019 through 2028.

The estimates for this option are uncertain for two key reasons. First, the estimates rely on CBO's projections of assets covered by orderly liquidation authority under current law, which are in large part determined by CBO's projections of economic output. Second, the underlying projections of the effects of the failure of large financial institutions are uncertain, particularly because they reflect a small probability of a financial crisis in each year.

Other Effects

The main advantage of this option is that it would help defray the economic costs of providing a financial safety net by generating revenues when the economy is not in a financial crisis, rather than in the immediate aftermath of one. Another advantage of the option is that it would provide an incentive for banks to keep their assets below the asset threshold, diminishing the risk of spillover effects to the broader economy from a future failure of a particularly large institution (although at the expense of potential economies of scale). Alternatively, if larger financial institutions reduced their dependence on liabilities subject to the fee and increased their reliance on equity, their vulnerability to future losses would be reduced. The fee also would improve the relative competitive position of small and medium-sized banks by charging the largest institutions for the greater government protection they receive.

The option would have two main disadvantages. Unless the fee was risk-based, stronger financial institutions that posed less systemic risk—and consequently paid lower interest rates on their debt as a result of their lower risk of default—would face a proportionally greater increase in costs than would weaker financial institutions. In addition, the fee could reduce the profitability of larger institutions (if it was not passed on to customers), which might create an incentive for them to take greater risks in pursuit of higher returns to offset their higher costs.

At 0.15 percent, the fee would probably not be so high as to cause financial institutions to significantly change their financial structure or activities. The fee could nevertheless affect institutions' tendency to take various business risks, but the net direction of that effect is uncertain: In some ways, it would encourage risk-taking, and in other ways, it would discourage risk-taking. One approach might be to vary the amount of the fee so that it reflected the risk posed by each institution, but it might be difficult to assess that risk precisely.