Its now the left’s turn to play Masters of the Universe, so we have to deal with a big disagreement. The Treasury, the Fed and Wall Street think the problem is illiquidity, hence the proposal for the Feds to buy up unlimited quantities of dodgy securities: the Garbage Pail. Democratic politicians are signing up on this approach, joining battle only on safeguards and conditions. Independent economists like Mallaby and Krugman say the problem is undercapitalisation, and we need a quite different plan to lend capital to banks, again with safeguards and conditions.
It’s impossible for non-experts like bloggers or members of Congress to decide who’s right in 48 hours. Since normal caution has been thrown out of the window anyway, and the numbers are chosen for dramatic effect not calculated need, why not go for both – belt and braces? Leave $500 billion for the sludge discount window (“The First Toxic Bank of Texas”); shift $200 billion to a capital injection fund (“The GW Bush Memorial Fund”). Make sure the capital injection is on onerous terms and includes equity warrants.
Only one of the two will turn out to be critical, but no matter. Apply essentially the same conditions to both. But add that any bank using the discount window also has to accept a proportional 1 in 4 capital injection, as proposed by Brad deLong.
[Update 22/9 2330 CET Brad’s diagnosis agrees with the Treasury school; he proposes equity stakes SFIK as punishment for moral hazard and to give taxpayers some upside. But his idea also works if Krugman and Mallaby are right, so it’s the basis for a possible consensus.]
Telephone-number banking can be fun.
Update 22/9 2100 CET
Senator Chris Dodd, Chairman of the Senate Banking Committee, has now proposed something very like this. The big difference seems to be that he wants a 1:1 sludge-to-equity ratio. The RBC claims no influence, just the convergent evolution of common sense.
Update 3 More here,