As James Galbraith points out in today’s Washington Post (hat tip reader Marshall), the Paulson bailout plan wasn’t necessary, and any rescue could have been handled by expanding existing programs:
Now that all five big investment banks — Bear Stearns, Merrill Lynch, Lehman Brothers, Goldman Sachs and Morgan Stanley — have disappeared or morphed into regular banks, a question arises.
The point of the bailout is to buy assets that are illiquid but not worthless. But regular banks hold assets like that all the time. They’re called “loans.”
With banks, runs occur only when depositors panic, because they fear the loan book is bad. Deposit insurance takes care of that. So why not eliminate the pointless $100,000 cap on federal deposit insurance and go take inventory? If a bank is solvent, money market funds would flow in, eliminating the need to insure those separately. If it isn’t, the FDIC has the bridge bank facility to take care of that.
Next, put half a trillion dollars into the Federal Deposit Insurance Corp. fund — a cosmetic gesture — and as much money into that agency and the FBI as is needed for examiners, auditors and investigators. Keep $200 billion or more in reserve, so the Treasury can recapitalize banks by buying preferred shares if necessary — as Warren Buffett did this week with Goldman Sachs. Review the situation in three months, when Congress comes back. Hedge funds should be left on their own. You can’t save everyone, and those investors aren’t poor.
With this solution, the systemic financial threat should go away. Does that mean the economy would quickly recover? No. Sadly, it does not. Two vast economic problems will confront the next president immediately. First, the underlying housing crisis….The second great crisis is in state and local government.
Of course, such a straightforward program would have eliminated the opportunity to further enrich Wall Street by paying fees to various advisors and subcontractors for buying assets from financial firms.