Sunday, October 12, 2008

Academics offer rescue plan advice; consensus emerging: recapitalize banks

Wall Street Journal:
The government's plan to buy equity in financial institutions, announced Friday by Treasury Secretary Henry Paulson, is an idea that many academic economists have championed from the start of the crisis.

Many economists believed that the heart of the government's initial plan to pay $700 billion for toxic assets was aimed at the wrong target. Purchasing mortgage securities from banks wouldn't do anything to kick-start lending and get credit flowing again, they said. Rather, banks would use the proceeds they got from the Treasury to pay off debtors, and those debtors would use the proceeds to buy safe assets.

They said a wiser course -- the one the Treasury now seems to have come around to -- was for government to rebuild the badly depleted cash levels on bank balance sheets. That would cushion institutions against future losses, giving them the wherewithal to lend again. Other hitches in the original plan include coming up with a price for mortgage securities that is above the "fire sale" level they would draw on the open market, but not so high that taxpayers end up getting taken for a ride.
Harvard University economist Gregory Mankiw, former chairman of the Council Economic Advisors under President George W. Bush, suggested that the government could set up a recapitalization plan that works like a matching grant. If a financial institution attracted new capital from private investors, it would be able to access an equal amount of government capital.

"The private sector rather than the government would weed out the zombie firms," he wrote on his blog.
Barry Eichengreen, an economic historian at the University of California, Berkeley, sent an email to, the Internet portal of the Centre for Economic Policy Research, a European economic-research network, asking economists to submit brief essays on ways government leaders could tackle the financial crisis.

By the next day, VoxEu had produced a booklet of 14 essays by 18 economists. As of Friday, when the Group of Seven finance ministers and central bankers met in Washington, the booklet [Rescuing our jobs and savings: What G7/8 leaders can do to solve the global credit crisis] had been downloaded more than 10,000 times.


Anonymous Roman said...

As always the government is a day late and a buck short. There are many things that they should have done and did not do. While there are more that they have done and should not have. Mainly the glass-steagall act which would have saved us if some of the boundaries were kept.

4:57 AM  
Blogger John B. Chilton said...

I disagree, Roman. Deregulation gets blamed, and the only "deregulation" of banking in the recent past was the Glass-Steagall act. The problem with this line of argument is that the Glass-Stegall allowed investment banks to become integrated banks, and they chose not to. And they were the ones who failed, triggering the crisis.

I don't have the answer, but that's not it.

6:14 AM  
Anonymous Roman said...

I agree and your point is very valid. but That act would have forced them to lower the amount of speculation that there hedge funds did. But they are responsible completely for there own fates.

10:13 AM  

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