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Bank-Tax Proposal: Good Policy or Bad for Economy?

President Obama’s proposed bank tax is already sparking strong debate from Washington to Wall Street.

Thomas Steyer, founder of Farallon Capital Management, one of the largest U.S. hedge funds, said the TARP tax on banks is appropriate but doesn't go far enough.

“It is only fair that these institutions pay back at least the American public,” he said in an interview on CNBC. “But the point it doesn’t do, is structurally, we’re still in the same place maybe even more than in 2007. Because now everybody knows that if Citibank fails, then they are really going to fail. Then you and I are going to have to kick in the dough.”

The bank tax is in effect a "retroactive insurance levy" so that the government comes out even, he said; “But the question you ask is, is the government supposed to be insuring the large institutions in the United States and then retroactively paying for it," he said. "That’s not supposed to be the way capitalism works. When you fail, you are supposed to fail.”

Yet opponents point out that most of the banks that received TARP funds have paid back the principal plus interest.

"I was struck by the announcement yesterday that sort of has an 'Alice in Wonderland' quality to it," said Tom Quaadman, of the U.S. Chamber of Commerce. "There was acknowledgment during the announcement that the financial sector has actually paid back a majority of the assistance that was given to them, very often at very large returns to the Treasury, yet they’re being asked now to cover losses in other areas of TARP which TARP was not originally intended for such as the auto program and the mortgage modification program."

Others argue that the tax would remove capital from banks and further stifle lending to consumers and small businesses, ultimately hurting employment and business expansion.

“It’s very important that credit continue to flow so anything that takes away from that operation, I think is a handicap,” said Donald Powell, a former FDIC chairman and current board member at Bank of America .

Most lending in the United States, however, is currently government based, said Steyer:

“Everybody knows that the function within society that people want to support is the lending side,” he said. “So when the securities side screws up and costs us all a ton of money and we have to get bailed out, good god, you’re going to totally gut our lending operation. Well it’s exactly like a municipal government which overspends and as soon as somebody goes, well we don’t want you to raise our taxes, fine we’ll pull all the cops off the street. That’s exactly what they’re doing. They’re saying fine, lawlessness may reign.”

The President’s announcement comes at a time when some Wall Street banks are expecting record profits and are set to pay employees a record $145 billion dollars in bonuses.

“What people are angry about is guaranteed insured big paychecks,” said Steyer. “Big pay checks where I get them, but if I lose money, you pay for it.”

And for some, the tax is simply a cost of doing business, and commercial banks should calculate that into their balance sheets.

“It’s a competitive environment and I think obviously taxes are a cost of doing business and someone’s gonna pay that cost,” said Powell. “Normally, in a capitalistic society you try to recover that cost from the consumer or the shareholder is going to pay.”