When Ronald Raegan's secretary of the Treasury, attacks the Obama administration from the left, there is something out of whack. James Baker in the FT:
We should act decisively. First, we need to understand the scope of the problem. The Treasury department – working with the Federal Reserve – must swiftly analyse the solvency of big US banks. Treasury secretary Timothy Geithner’s proposed “stress tests” may work. Any analyses, however, should include worst-case scenarios. We can hope for the best but should be prepared for the worst.
Next, we should divide the banks into three groups: the healthy, the hopeless and the needy. Leave the healthy alone and quickly close the hopeless. The needy should be reorganised and recapitalised, preferably through private investment or debt-to-equity swaps but, if necessary, through public funds. It is time for triage.
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To avoid bank runs and contain market disruption, the Treasury should announce its decisions at one time. Washington will also need to co-ordinate its actions with other major capitals, especially in western Europe and east Asia. At best, this will encourage other countries to take similar steps with their own banking systems. At a minimum, other governments can prepare for the financial turmoil associated with the announcement.
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During the 1990s, American officials routinely urged their Japanese counterparts to kill their zombie banks before they could do more damage to Japan’s economy. Today, it would be irresponsible if we did not heed our own advice.
Baker neglects the derivative and CDS mess that needs to be eliminated. But the plan is the right one. I offered something similar back in October and wrote:
Those steps can be taken now, or in six month. Now they could help. Six month from now there will be so much damage done to the real economy, that a very deep and multi-year long recession will be needed to recover.
Unfortunately it looks like I was right on that.