The first paragraph is a strike one again Obombem. He supported the Paulson Solution to the Paulson Problem and waved away more than the annual discretionary budget of the United States. I was duped, I tell you. I had to get elected before I could fix things. I am not incompetent. I am a souless pawn of the powerful elite. I followed orders. I serve my masters well. I will fix the evaporate-up system.

http://www.thenation.com/doc/20081208/greider
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November 19, 2008

Henry Paulson's $700 billion plan to save the world is dead or dying, but the bailout was not killed by his arrogance or his grossly misleading claims about what the public's money would buy. The plan collapsed because it didn't work. The Treasury secretary has launched a PR offensive to revive his falling influence. Too late. The Democrats should be equally embarrassed. In September their leaders in Congress rushed to embrace the Paulson solution, no hard questions asked. They now claim they were duped.

Paulson's squad at Treasury pumped $250 billion into the largest banks, buying their stock at inflated prices on the assumption it would persuade investors to step forward with their capital too. Instead, savvy financial players realized Paulson was spitting into a high wind, trying to save a system with stout talk.

Here is the ugly, unofficial truth that neither Wall Street nor the government will acknowledge: the pinnacle of the US financial system is broke--with perhaps $2 trillion in rotten financial assets on the books. Nobody knows, exactly. The bankers won't say, and regulators won't ask, or at least don't dare tell the public. Official silence naturally feeds the conviction that banking's problems are far worse than we've been told. The Levy Economics Institute of Bard College puts it plainly: "It is probable that many and perhaps most financial institutions are insolvent today--with a black hole of negative net worth that would swallow Paulson's entire $700 billion in one gulp."

The scale of this disaster explains why the Treasury secretary had to abandon his original plan to buy up failed mortgages and other bad assets from the banks. If government paid the true value for these nearly worthless assets, the banks would have to write down huge losses or, as Levy economists put it, "announce to the world that they are insolvent." On the other hand, if Paulson pumps the purchase price high enough to protect the banks from losses, $700 billion "will buy only a tiny fraction of the 'troubled' assets."

Paulson was trapped by these circumstances (and his own mendacity). Each time he tried to change the script, market insiders became even more alarmed. Congress is trapped too. So is President-elect Obama. From the outset of the crisis, the essential fallacy shared by governing influentials has been a wishful assumption that quick interventions with tons of public money would somehow restore the system to "normal" without disturbing free-market principles. Replenished banks would start lending again and lead us to recovery. "Normal" is not going to happen. If the new president does not break free of the denial and act decisively, his administration will be dangerously compromised from the start.

Obama can begin by declaring a "bank holiday" like FDR's in 1933--an opportunity to put the hard facts on the table and assume temporary control of the entire financial system. Nationalizing the banks sounds more radical than it is, since banking law already empowers regulators to impose extraordinary controls and close supervision over troubled institutions. Facing facts will be painful, but it's better than continuing a costly charade. Paulson's approach, endorsed by many Democrats, was designed to preserve oversized Wall Street titans. In fact, Paulson and the Federal Reserve are making things worse by creating new members of the privileged club of "too big to fail." Public money is being used to finance bank takeovers that will become new behemoths.

A genuine solution means closing down the hopeless institutions and creating a more democratic system based on small to medium-sized banks, financial intermediaries that are less imperious and closer to the real economy of producers and consumers. The Levy institute suggests that some banks are "too big to save." If the president-elect seeks an opinion quite different from his circle of orthodox advisers, he could start with the institute's tartly incisive analysis "Time to Bail Out: Alternatives to the Bush-Paulson Plan," by Dimitri Papadimitriou and Randall Wray. Their perspective is Keynesian, not market worship. They argue (as The Nation and others have) that the bailout is proceeding backward. Instead of saving Wall Street first, government should devote its heavy firepower to reviving jobs, incomes and business enterprises. The banks will not get well or begin normal lending until there is overall economic recovery.

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TIME TO BAIL OUT: ALTERNATIVES TO THE BUSH-PAULSON PLAN by Dimitri B. Popadimitriou and Randall Wray is an 8 page PDF file- http://www.levy.org/pubs/pn_08_06.pdf

Its introduction at the Levy Economics Institute follows.

http://www.levy.org/vdoc.aspx?docid=1101
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Policy Notes | November 2008
Time to Bail Out: Alternatives to the Bush-Paulson Plan

While serving as chairman of the Federal Reserve Board, Alan Greenspan advocated unsupervised securitization, subprime lending, option ARMs, credit-default swaps, and all manner of financial alchemy in the belief that markets “work” to reduce and spread risk, and to allocate it to those best able to assess and bear it—in his view, markets would stabilize in the absence of nasty government intervention. But as Greenspan now admits, he could never have imagined the outcome: a financial and economic crisis of biblical proportions.

The problem is, market forces are not stabilizing. Left to their own devices, Wall Street wizards gleefully ran right off the cliff, and took the rest of us with them for good measure. The natural instability of market processes was recognized long ago by John Maynard Keynes, and convincingly updated by Hyman P. Minsky throughout his career. Minsky’s theory explained the transformation of the economy over the postwar period from robust to fragile. He pointed his finger at managed money—huge pools of pension funds, hedge funds, sovereign wealth funds, university endowments, money market funds—that are outside traditional banking and therefore largely underregulated and undersupervised. With a large appetite for risk, managed money sought high returns promised by Wall Street’s financial engineers, who innovated highly complex instruments that few people understood.

In this new Policy Note, President Dimitri B. Papadimitriou and Research Scholar L. Randall Wray take a look back at Wall Street’s path to Armageddon, and propose some alternatives to the Bush-Paulson plan to “bail out” both the Street and the American homeowner. Under the existing plan, Treasury would become an owner of troubled financial institutions in exchange for a capital injection—but without exercising any ownership rights, such as replacing the management that created the mess. The bailout would be used as an opportunity to consolidate control of the nation’s financial system in the hands of a few large (Wall Street) banks, with government funds subsidizing purchases of troubled banks by “healthy” ones.

But it is highly unlikely that relieving banks of some of their bad assets, or injecting some equity into them, will increase their willingness to lend. Resolving the liquidity crisis is the best strategy, the authors say, and keeping small-to-medium-size banks open is the best way to ensure access to credit once the economy recovers. A temporary suspension of the collection of payroll taxes would put more income into the hands of households while lowering the employment costs for firms, fueling spending and employment. The government should assume a more active role in helping homeowners saddled with mortgage debt they cannot afford, providing low-cost 30-year loans directly to all comers; in the meantime, a moratorium on foreclosures is necessary. And federal grants to support local spending on needed projects would go a long way toward rectifying our $1.6 trillion public infrastructure deficit.

Can the Treasury afford all these measures? The answer, the authors say, is yes—and it is a bargain if one considers the cost of not doing it. It is obvious that there exist unused resources today, as unemployment rises and factories are idled due to lack of demand. Markets are also voting with their dollars for more Treasury debt. This does not mean the Treasury should spend without restraint—whatever rescue plan is adopted should be well planned and targeted, and of the proper size. The point is that setting arbitrary budget constraints is neither necessary nor desired—especially in the worst financial and economic crisis since the Great Depression.