Would Taxing Banks Really Make the Banking System Safer?

Some economists propose that taxing banks will coax them away from the kinds of risky lending behaviors that contributed to the 2007-2009 crisis, repair “negative externalities” to the banking system and force banks to act in the best interests of the system rather than in their own interests. But this argument misdiagnoses the causes of the banking crisis and fails to consider the unintended consequences such taxes would have on the composition of banks’ assets and liabilities. A tax would encourage banks to reduce costs by subjecting all loans to less internal scrutiny and monitoring, thus eroding the intended benefits.