FASB recently changed the accounting rules to weaken mark-to-market accounting rules, reducing pressure on balance sheets from thase toxic asset s.

Private capital is flowing to the banks because hedge funds see banks as a quasi-guaranteed investment, due to a willingness by Summers & Geithner to support the banks above all else – and by Obama to put up with Summers.

The plan wouldn't have worked the way the banks wanted it to, anyway.

On the latter point – One major feature of the FDIC portion of the program is that the FDIC under Shiela Bair would have run it.

Getting FDIC to take this junk would, under Bair at least, have required that the assets be restructured and revalued. These are assets – predominantly CDO's – having the toxic "legacy" of having been valued, originally, using David X. Li's "gaussian copula" function to give the illusion of a data free prediction of the default rates of different securities.

The Li "function" has been discredited as bad math, and possibly worse. But the CDOs' valuation as carried by the banks is based upon the invalid function. Sale of these instruments, under the supervision of the Bair FDIC, would have (or might have, depending on how you interpret the FDIC intent) required a virtual dissassembly of the CDO packages in order that the mortgage backed securities included in them (the CDOs) might be accurately revalued using data about each of the mortgages incorporated in tthe MBSs.

My feeling is that the data about these mortgages necessary to allow assignment of valid (uncontaminated by the David X. Li gaussian copula function) values either do not exist or are prima facie indicative of fraud. If as true as experienced observers believe it to be, that is apt to be a significant source of resistance to subjecting these instruments to any process under the supervision of a Bair managed FDIC.

I will not speculate on Shiela Bair's future. I will say that whatever it is, it will likely be dispositive information re the integrity and intent of the Obama Administration for a clean up – or not – of our financial system.

Thank you.

""While I have to think it through further, my initial reaction is that the entire money system is not insolvent, that debt deflation is a more likely outcome. (Maybe I'm missing something?) Therefore, I don't think a new money system is required as long as we face the reality of what the money system actually is…""

I have previously posted and do again this paper by financial linguist Steven Lachance on "How Debt-Money Goes Broke".

http://www.financialsense.com/fsu/editorials/2005/1212b.html

When Irving Fisher wrote his book on debt-deflation theory, he was well on his way to becoming the strongest of supporters of full-reserve banking, which would, of course, provide that "brake" that you mention on rational bank lending.
For the most part, banks would lend real money.

To me, that is a new money system.

Fisher, Henry Simons, Douglas, Means and many other leading economists of the day supported the Chicago Plan for Monetary Reform, which was designed to replace our fractional-reserve creation/lending system that plays around with interest rate targets as a means of controlling the amount of money out there.

I believe that if you think about it further, you will find that the definition of insolvency applies to the money system – we cannot create enough new money fast enough to keep up with the additional interest payments coming down the pike.

We cannot do it.
Only a massive contraction, and resultant destruction of the mountain of paper wealth can lead to a point of re-beginning.

That is the debt-deflation phase.
So, if you want to do this all over again, then let's pretend it is not the debt-money system that is the problem.
To me the exit strategy we need is from the debt-money system to the debt-free system outlined in the Chicago Plan legislation.

respectfully.

While I agree with you that one failure that led to the current crisis is a fundamental failure to understand the true nature of our money system. Neoclassical economics assumes that money is exogneous, while Post Keynesians have shown that money is typically created endogenously via the extension of credit, making our economy a "credit-money" or "debt-money" system. (I say typically because when banks stop lending, the government can create money through Keynesian fiscal policy; monetarism just doesn't work when the banks don't want to lend because they're insolvent, so the newly printed money never gets into circulation.)

While I have to think it through further, my initial reaction is that the entire money system is not insolvent, that debt deflation is a more likely outcome. (Maybe I'm missing something?) Therefore, I don't think a new money system is required as long as we face the reality of what the money system actually is and put in place limits on credit extension that cannot be circumvented.

And that's one of the things that kills me: the assumption that low interest rates forced or even encouraged such horrendous risk taking by the banks. Even the hidebound Austrian School recognizes, perhaps better than anybody else, that bubbles are typically created by credit expansion. Where the Austrian School, and Mises himself, fell down was in the assumption that private banks have no say in credit expansion, which simply has been proven wrong.

Steve Keen has an interesting post up explaining under what conditions a solvency crisis can masquerade as a liquidity crisis.

http://www.debtdeflation.com/blogs/2009/06/01/debtwatch-no-35-lets-do-the-time-warp-again/

This is all borne out by a chart I saw in Dave Rosenberg's June 1st missive that shows the cash reserves on the balance sheets of commercial banks tripling in April 2008, long before the Fed's balance sheet showed a similar explosion.

http://2.bp.blogspot.com/_FM71j6-VkNE/SiM8c54tSYI/AAAAAAAAC8w/rugjzRth3eM/s1600-h/Fed+Balance+Sheet+5.27.jpg

The "credit crunch" occurred not because of a lack of liquidity but because a fear of insolvency caused the banks to hold onto their cash and build up their reserves.

The only quibble I have with this statement is that it should read causes. Otherwise this is what some of us have been saying since last year. The fundamentals of this crisis are not being addressed: bank insolvency, the casino culture of the financial industry, distressed homeowners, distressed creditors in general, and having and enforcing strong regulation. Indeed the government's poor response has led to the misallocation of trillions from productive sectors of the economy to those which are the most wealth destroying. It has failed to preserve the rule of law by leaving massive law breaking in the financial industry uninvestigated and unprosecuted. It has exacerbated recession to the point of depression, and as we keep hearing, the worst is yet likely to come.