This Post May Already Be Moot

I had planned to write today about the next steps in dealing with the financial crisis, following the agreement in Washington on the major contours of a bailout plan. Last night, however, the plan fell apart, with House Republicans walking away from the negotiations. The nature of any actions at the Federal level -- as I write at 8:30am EDT on Friday -- are thus very much in doubt. With the situation in flux, I will take the opportunity here to offer a few thoughts on the crisis and a number of ways that it might yet be handled, either picking up where we left off or starting from scratch.

If the players in Washington do not abandon the general contours of the plan that the Bush Administration proposed (a revolving line of credit falsely called a "$700 billion bailout" when in fact it could be any amount, and when the numbers that are being tossed around are gross, not net, costs to the Treasury), then clearly the movement in the past week has all been in the right direction. Rejecting Treasury Secretary Paulson's blank check approach was entirely appropriate, in particular the deservedly reviled Section 8: "Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency."

In addition, insisting that government infusions of funds be tied to equity shares in the companies who benefit is precisely what is needed to make sure that the net cost of the bailout to taxpayers is minimized. Efforts to ensure that those who made the wrong decisions do not walk away from the mess with huge payouts is at least politically necessary (and by my lights completely justified). Finally, making sure that distressed homeowners receive assistance -- through, among other things, access to bankruptcy proceedings, which are hardly pain-free and which are designed to require at least partial payment of loans -- is essential to address the underlying problem of nonperforming debt. "Nonperforming debt," after all, is simply people not making any payments on their loans. Reducing that problem is the key to all of this.

If, however, the political grandstanding really means that we are starting over, the good news is that there are some very thoughtful alternatives available. Bob Hockett, a law professor at Cornell, offered an extremely interesting plan on Dorf on Law yesterday afternoon, before the talks collapsed. Bob suggests that the Federal Housing Administration (FHA) and the newly-renationalized Fannie and Freddie (and Ginnie) are the perfect institutions to deal with the problem at the level of housing rather than on Wall Street. I cannot do justice to his plan in this post, so I'll just encourage everyone to link to it here. It's a fairly long read, as blog posts go, but very much worth the time.

Similarly, the economist Jamie Galbraith, in an op-ed in the Washington Post, offers the disarmingly brilliant idea of using deposit insurance and the FDIC as the levers to fortify the financial system. (More provocatively, he wonders whether a bailout is even necessary, now that the banking system has consolidated so dramatically.) Taking off the $100,000 limit on deposit insurance and allowing the FDIC to perform its duties would potentially defuse the problem:

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.

What both Hockett and Galbraith have in common is an ability to see the value of using institutions that already exist to do what they already are capable of doing well, if we would only let them. Those institutions already provide oversight, and they in turn are subject to oversight. No need to set up a new bipartisan review board or any such untested system that would surely become a political football.

Interestingly, therefore, even though the efforts over the past 30 years to deregulate the financial system have led to this crisis, the anti-regulation zealots at least left the structures in place to allow a relatively quick and simple regulatory solution. The regulators have been underfunded, ridiculed, and prevented from doing their jobs, but to their great credit (and the credit of the politicians who created those institutions during the last great financial crisis), they are still there. We would do well to put them back to work.

[Note: Through October 15, I am cross-posting my Dorf on Law posts on the Concurring Opinions blog.]

Posted by Neil H. Buchanan