On Thu, 2 Oct 2008, Seth Ackerman wrote:
> Hmm. If you could convince me that no better bailout is possible and the
> financial system will collapse tomorrow sans bailout then obviously I'd be
> grudgingly for the bailout.
Okay, let's deal with that point first, because that is indeed exactly why Doug and I are grudgingly for the bailout.
But once again, let's dispense with the weasel phrase "convince you the financial system will collapse tomorrow." Obviously I can't do that, and obviously I don't need to. Nobody can predict the future; all we can do is persuade about what it's reasonable to expect. So all I need to show is that, based on what happened last week, in lieu of a bailout, a total US financial collapse is a real possibility, and that it could happen another week, and even it doesn't, it could be any week after that. I don't think that is that hard.
Here's a good blow by blow narrative of what happened last week:
http://www.nytimes.com/2008/10/02/business/02crisis.html
It leaves out a lot, but I think it gets across the acceleration and systemic spread: failures were beginning to cascade. The case by case process was not slowing it down; it was rather speeding up. That is why what was needed was a systemic attempt to attack the problem at its roots. And I emphasize "attempt." There is lot of very reasonable grounds on both sides to dispute whether the Paulson/Bernanke/Dodd plan actually does attack the problem at its roots. But simply as a large scale attempt -- and one which suddenly makes large fiscal resources available -- it represents a qualitative scaling up of the firefighting. And that's obviously called for in this situation, because it's clearly turning for the worse. We need to turn it up a notch.
When you said earlier that the market would clearly hold on so long as it knew there was some bailout coming, that is totally true, but again, the time frame is of the essence: (a) it's a day to day thing, not a sometime months in the future thing. The dampening effect was very clearly lost as soon as it seem possible that it might not happen within days; (b) even during this dampening period, huge banks continued to fail (WaMu, Wachovia, Fortis, etc); and (c) the credit market is holding on in a state of freeze. That means it's basically poised to fall apart, and there are numerous obvious triggers. Bank stock represents the capital of the bank. If a bank's stocks plummet and get wiped out -- which is very easy to imagine with any bank, or with all banks -- presto, the bank is insolvent. And every spectre of failure produces a run, which accomplishes the same thing from another side. And every actual failure locks up resources or writes off resources of other institutions.
As for what happens next if you stop holding it up with the prospect of passing a systemic attempt at firefighting, Buiter's list is as good as any:
http://blogs.ft.com/maverecon/2008/09/those-whom-the-gods-would-destroy-they-first-make-mad/>
It's the bulleted list at the second half of the post. He leaves out things I would emphasize, but that just emphasizes the point: it's very easy to conceive of many plausible ways this could happen. And on top of that, we all expect to be surprised by the way we didn't think of.
Again, I reach for the analogy of invading Iraq. It was impossible to prove before the invasion that invading Iraq would touch off a civil war. But it was a very reasonable thing to fear. So the prudent rule was "do no harm" -- find another path to the same goal that doesn't have such a massively bad outcome as a real possibility. In this case, inaction is the course that tempts a massively bad outcome as a real possibility. Swift large scale action is the prudent course, and there is only one way to do that, given the time frame and the constellation of forces, and that's the modified Paulson/Dodd plan.
Now that last sentence is amenable to much more argument about politics and economics, which I'd enjoy. But there's no point in it unless we both agree on this first point, that an awful collapse is all too imaginable in the immediate future. And that therefore we collectively have to do something immediately. So then we can limit the argument to what's possibly immediately
And what's possible in the future. Because the flipside of my argument that we must pass this bailout that nobody likes is that passing it doesn't constrain us from doing any of the things you want to do next spring, and in fact they will be easier then. Tobin tax, executive pay limitations, help for strapped homeowners, profound regulation -- there are better and more thorough ways to do all those things then stick them in this bill. And passing this will only build the momentum for doing those things the right way precisely because it will build class resentment against the rich and that they haven't paid. And doing it right means taking time when we have the time to take.
Michael