Knowing and Making

Martin Wolf has described  the eurozone rescue package for Greece, correctly, as "a fudge". However, he thinks this is a bad  thing. Here's why it might not be. One of the key goals in designing a rescue package is to avoid creating moral hazard  - the risk that other countries look at the bailout, assume that they will be rescued too and therefore continue to borrow. If the rules for the bailout are clearly stated, that creates an anchor  which encourages people to trade up to it. The most obvious example is the Maastricht treaty rule which stated that countries in the EU must keep their fiscal deficit below 3% of GDP. Guess what size of deficit most countries ended up with? Around 2.9% was a pretty common figure. So if the rules for the rescue were made explicit, it would give governments very clear guidance on exactly what risks they could take. Inevitably, some would be tempted to push it to the limit - and fall over that limit, in the knowledge that the ...

I have no objection in principle to higher taxes on banks. But the IMF's surprising proposal (outlined by Robert Peston here ) may not quite be taxing the right thing. If the goal of the tax is to pay for the externality imposed on taxpayers by bank behaviour, that's fair enough. In line with the principles of Pigovian taxation , the tax should fall on the activities which impose those costs. That way, it's fair and also creates the right incentives, to shrink those activities if they do not benefit society enough to justify them. The first part of the IMF's tax seems to fit this principle. Peston doesn't explain what this "flat rate" would be levied on - I assume it isn't literally a flat rate, otherwise Goldman Sachs or Citigroup would pay the same amount as the Cheltenham Building Society or the Third State Bank of Des Moines. Presumably therefore it will be in line with the recent Obama proposal: a percentage levy either on total assets or on r...