Paul Krugman Is My Hero, But He’s Wrong Re: TOO BIG TO FAIL

I am an ‘economist’ who is a big fan of Paul Krugman. There is really no economist on the planet whom I hold in higher esteem. But alas, my hero has come up short in his most recent blog entry in which he said this about Congress’ 2008 bailout of institutions that were considered TOO BIG TO FAIL:

...there are in fact very good reasons to intervene to support banks during a financial crisis…the only feasible strategy is guarantees and a financial safety net plus regulation to limit the abuse of those guarantees. It’s imperfect; it faces the constant threat of regulatory capture; but it has worked in the past, and it’s the only game in town.

No, Paul, no. Arrrgh! Bailing out privately-owned, for-profit banks when their gambling has—-once again—-gotten out of control is not the only game in town. What you are telling the Occupiers of Wall Street is that the big banks they are standing in front of really were Too Big To Fail.

I guess the economic gods simply forgot to tell Paul about the other option that was available to Congress back in 2008, the one that never got discussed by members of Congress or by Obama’s team in the White House simply because the representatives of Wall Street and the Banking Industry who met with them didn’t tell them that any other options existed.

No surprise there.

But now that the Occupy Wall Street protesters—-and Senator Bernie Sanders—-have again focused the attention of the nation on The Outrage of 2008, perhaps another opportunity exists for the public to learn that another alternative was available to Congress that would have (1) protected the interests/jobs of Main Street, at the same time that it (2) allowed the banks and Wall Street firms that created the crisis to crash and burn in a Moral Hazard Nightmare of their own making.

Instead of buying up the worthless paper assets of failing banks and insurance companies in order to make their balance sheets again look acceptable to bank examiners, Congress could just as easily have created its own bank, a Taxpayers’ Bank, which would have been the one healthy bank in the country that could have provided for all of Main Street’s borrowing needs at a lower total cost than it took to bail out the private banks and insurance companies.

At the same time that major financial institutions were all facing bankruptcy, Congress could have passed legislation that would have authorized the Secretary of the Treasury to use funds provided by Congress (= Taxpayers) to buy up the assets of Bank of America (and any other bank facing the same fate) at fire sale prices and then operate the bank in the name of The American People, to serve the general public interest. Of course, the best time to buy up the shares of a failing bank is when they are worth only pennies.

After all the worthless paper assets (e.g., credit default swaps) were ‘written off’ the books, the bank could then have been fully capitalized with Taxpayer funds. After the board of directors and other key personnel were sacked and replaced with employees beholden to Congress and the American People (perhaps some Academic Idealists?), the bank’s retained ‘essential personnel’ would then have been directed to begin lending with enthusiasm to the Main Street customers that their former employers were either unable or unwilling to lend to.

This Taxpayers’ Bank could have provided Main Street with all the liquidity needed to maintain the economy on a prosperous path at the same time that privately-owned financial corporations were all allowed to fail utterly. Single-home owners could have been provided with refinancing of their mortgages on favorable terms, all non-financial businesses could have been provided with loans, and consumers could have been approved for big-ticket purchases.

If Congress had pursued this alternative, it would have been the equivalent of hooking the economy up to a “Heart-Lung” machine that would have allowed the “life-blood” of the economy to continue to flow, even while the privately-owned heart of the economy was undergoing a cardiac arrest. Such a move by Congress would—-alone—-have prevented the kind of economic contraction that would most certainly have occurred if private lending had been completely cut off.

But just to make sure that none of the citizens of Main Street were hurt by the sins of Wall Street and the FIRE (Finance, Insurance, and Real Estate) sector, the Democrats in Congress should have also spent an additional $1 trillion on REAL ECONOMIC INVESTMENTS—-infrastructure and human capital (education, health care, the environment).

Increased government spending on such a scale would have driven the Main Street economy into high gear, making it possible for the American People on Main Street to enjoy an ECONOMIC BOOM—-low unemployment and high demand for business’ products—-at the very same time that the criminals of Wall Street and FIRE were forced by the marketplace to pay the ultimate price for their incompetence and excessive greed.

They would have lost their companies, billions of dollars, their reputations, and MORAL HAZARD would finally have been restored to the financial services industry. After the meltdown had run its course, the few survivors would be free to return to the business of banking and insuring, but this time there would be a Public Option available to the Main Street consumers of banking services, the Federal Government.

Private bankers have always found this kind of banking rather boring and may not want to compete with the Federal Government, since the government wouldn’t be looking to take any profits, but they would still be free to monopolize the niche that investment bankers always got so excited about: chasing the higher yields that higher levels of risk brought into their coffers.

Of course, this time, they’d know that they wouldn’t be able to count on the government to bail them out—-moral hazard, you know—-so they would be far more prudent about how they roll the dice with other people’s money.

The protesters occupying Wall Street many not know it, but this is really a key component of the kind of change they want. It provides the kind of Economic Justice that they seek, economic prosperity, and security from future financial disasters.

In order for Congress to give the Occupiers of Wall Street a reason to break up and go home, it needs to make it clear to the American people that it intends to enter into the banking industry as a major player itself, the next time the private banking industry begins to threaten Washington and the American People with economic terrorism. It would finally bring an end to the TOO BIG TO FAIL Era, the TOO BIG TO FAIL Lie.

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