The new Resolution Authority, set forth in Treasury's 253-page legislative draft of October 27, 2009 provides permanent, unlimited bailout authority. This means:
(1) Unprecedented powers for the executive to decide spending and taxes, without congressional approval; and
(2) Depending on the desires of the Executive Branch from time to time, the greatest transfer of money from the Treasury to Wall Street in U.S. history.
The Executive Branch may loan an unlimited amount to any solvent financial institution "if necessary to prevent financial instability" (§1109(a)), or to a troubled financial institution, the default of which would "have serious effects on economic condition in the United States (§1603(b)(2) and §1604(c)(1)). As to troubled firms, the bailout can also take the form of purchasing assets from the institution (§1604(c)(2)) or investing in the institution (§1604(b)(4)).
The Secretary of the Treasury has rejected a $1 Trillion limit on this bailout power in testimony before the House Financial Services Committee on September 23, 2009.
When bailout funds are lent to a solvent financial institution under §1109, the executives and shareholders lose nothing. Executives keep their jobs and their compensation packages; shareholders retain all their rights. In contrast, when a troubled institution receives a bailout under §1604, some executives lose their jobs, and shareholders have to stand behind taxpayers.
The chief beneficiary of bailouts of troubled institutions is the creditors. The chief economic effect of Treasury's proposed unlimited bailout legislation is to cause creditors to lend money on favorable terms to "systemically important institutions" (the top 10 to 25). If the institution cannot repay those creditors, the Government probably will.
However, the shareholders of bailed out insolvent institutions also stand to benefit handsomely. The taxpayers take an enormous risk by investing in the insolvent entity. If things go well, the taxpayers merely get their money back, and the shareholders get a revived profitable corporation.
The taxpayer losses are supposed to be recovered from a new tax imposed on large and medium-large financial institutions. The statute requires the Executive Branch to recoup taxpayer funds within 60 months, but then, allows them to extend this period for as long as they want. (§1609(o)(1)). Further, it is difficult to see how any tax on financial institutions would provide hundreds of Billions of revenue, which might be needed to repay a large bailout.
The Executive Branch is empowered to write this new tax law. (Under our Constitutional system, the House of Representatives is supposed to write tax laws.) Congress will have no say in whether the tax is designed to produce $10 Million in revenue per year, or $10 Billion. How much will be paid each year by a medium-sized financial institution -- whether it will pay $100,000 or $100 Million -- will be decided by the Executive Branch, and the amount could be $100,000 in one year, and $100 Million the next.
This law will allow those institutions which are clearly systematically important (the top 10 to 25) to borrow at a lower cost. This will help the largest institutions get bigger, so they can pose a greater systemic risk.
Those financial institutions which are medium-large ($10 Billion to $90 Billion in assets) will have to pay whatever tax the Executive Branch imposes. However, they will not be able to borrow at lower rates, because investors will not believe they will be bailed out. Under the plan, bailouts are supposed to go only to the "systemically important" institutions. So those medium-large institutions will fund a program which benefits only their truly large competitors.
While the tax imposed on large and medium-large financial institutions is called an "assessment" or an "insurance premium," it is clearly a tax. No one has a right to collect any insurance amount -- whether anyone gets a bailout is at the whim of the Executive Branch. It's like being forced to pay insurance on your competitor's business, while yours goes uninsured.
The tax is also called "polluter pays." But the "polluter" -- the financial institution that took big risks, and became insolvent -- pays nothing. Instead, prudent financial institutions must compete against the high-flyers in the good times, and then pay to bail out their high-flying competitors in the bad times.