THE 2017 TAX ACT’S POTENTIAL IMPACT ON BANK SAFETY AND CAPITALIZATION

A key but underappreciated reason for banks’ recurring excessive risk-taking is the structure of corporate taxation. Current tax rules penalize equity and boost debt, thereby undermining the capital adequacy efforts that have been central to the postcrisis reform agenda. This tax-based distortion incentivizes financial firms to undermine regulators’ capital adequacy rules, either transactionally or by lobbying for their repeal. The resulting debt-heavy structure not only renders banks fragile but also pushes them further toward excessively risky strategies. In a related paper,¹ we analyze how to fix this pro-debt bias via a revenue-neutral corporate tax reform for banks that should improve