October 2008 Archives

The CNN "Poll of Polls"

The poll of polls consists of eight surveys: ARG (October 25-27), IPSOS-McClatchy (October 23-27), Pew (October 23-26), ABC/Washington Post (October 24-27), Reuters/C-SPAN/Zogby (October 26-28), Gallup (October 26-28), Diageo/Hotline (October 26-28), and IBD/TIPP (October 24-28). There is no sampling error.

First of all, that this paragraph ended up in that article is sloppy copy-editing.  The poll results are not actually reported in this article.  But never mind that detail, CNN's reporting on the Poll of Polls has been widely discussed.

They continue to use the sentence "There is no sampling error."  Smart folks will point out that in a sense they are right--the average of the polls gives you the true average of the polls because you have the entire population of polls.  Of course there are presumably other polls that were not included in the sample, so in the strictest sense this is still a sample of polls.  But if we ignore that little detail, we can accept the Poll of Polls for what it is--the simple average of a number of poll results.  The relationship between that average and the true value is complicated by the different methodologies employed in the various polls.  The fact that the Poll of Polls is the average of the universe of polls does not mean that it has no margin of error when used for inference on the universe of voters.

But does the average reader or television viewer understand the difference, or do the words "There is no sampling error" lead the reader or viewer to see the results as more reliable than they really should?

To illustrate the point in a simple way, consider this.  Suppose I ask three people to flip a coin 10 times and report to me the number of times the coin came up "heads".  The first person says that heads came up 3 times, the second person saw heads come up 6 times and the third person reported heads 4 times.

Then I could legitimately say that the average of the three trials was 4 1/3 and that there was no sampling error in obtaining the average of the three trials.  I sampled the entire population of three people who flipped ten coins.  However, it would be wrong to draw the conclusion that the expected number of heads when flipping a coin ten times is 4 1/3.

Might people draw the wrong inference from such a statement?  Well, maybe not in my obviously simple story, but applied to real world polling it is more likely.  I see people make statistical errors all the time--some of them quite obvious--so yes, I think some might misunderstand the statement.

Of course, in my simple example I am quite confident that the law of large numbers holds and if I did this a few more times, I would very likely get closer to the true value.  If I did it many, many times I could get very close to the true value.  In the case of polls, there might very well be a central tendency (in the polls themselves), but the relationship of that central tendency to the true population proportions would depend on the survey methodologies--which are beyond the scope of this blog post.

FOMC press release:

The Federal Open Market Committee decided today to lower its target for the federal funds rate 50 basis points to 1 percent.

The pace of economic activity appears to have slowed markedly, owing importantly to a decline in consumer expenditures. Business equipment spending and industrial production have weakened in recent months, and slowing economic activity in many foreign economies is damping the prospects for U.S. exports. Moreover, the intensification of financial market turmoil is likely to exert additional restraint on spending, partly by further reducing the ability of households and businesses to obtain credit.

In light of the declines in the prices of energy and other commodities and the weaker prospects for economic activity, the Committee expects inflation to moderate in coming quarters to levels consistent with price stability.

Recent policy actions, including today's rate reduction, coordinated interest rate cuts by central banks, extraordinary liquidity measures, and official steps to strengthen financial systems, should help over time to improve credit conditions and promote a return to moderate economic growth. Nevertheless, downside risks to growth remain. The Committee will monitor economic and financial developments carefully and will act as needed to promote sustainable economic growth and price stability.

Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; Timothy F. Geithner, Vice Chairman; Elizabeth A. Duke; Richard W. Fisher; Donald L. Kohn; Randall S. Kroszner; Sandra Pianalto; Charles I. Plosser; Gary H. Stern; and Kevin M. Warsh.

In a related action, the Board of Governors unanimously approved a 50-basis-point decrease in the discount rate to 1-1/4 percent. In taking this action, the Board approved the requests submitted by the Boards of Directors of the Federal Reserve Banks of Boston, New York, Cleveland, and San Francisco.

There are some new features in the exact wording, such as "the Committee expects inflation to moderate in coming quarters to levels consistent with price stability".  Seems like only six weeks ago that they expected "inflation to moderate later this year and next year, but the inflation outlook remains highly uncertain."

Good to see that some scholars are thinking outside the box.  From the Wall St. Journal op ed by Andrew Caplin, Thomas Cooley, Noel Cunningham, and Mitchell Engler:

The federal government needs to give taxpayers an ownership stake in the future. The SAM does just this. For example, a homeowner unable to support payments on a house purchased for $200,000 that today is worth only $150,000 might be offered a write-down of up to $50,000. But this would not be a free lunch.

With the SAM, once the value began appreciating above $150,000, the mortgage holders would be due their share. The details of the write down and the appreciation sharing could be tailored to different circumstances. But one way to give lenders a share of the upside would be to pay back some of the write down if the house is later sold, in the scenario above, for more than $150,000. This is a model in which both parties benefit, preventing default while giving future taxpayers a fighting chance at some real upside to the investment we're forcing on them.

Read the whole thing.

From the NY Times:

Hundreds of traders who placed bets on Lehman Brothers' creditworthiness before it went bankrupt have settled their positions "without incident," according to a company that tracks derivatives contracts.

The company, Depository Trust & Clearing Corporation, processes large numbers of investment transactions. It said that only $5.2 billion had to change hands for all the traders to close out their positions, a much smaller amount than had been predicted a week ago.

The settlement process had been seen as a major test of the market for credit-default swaps, and whether it could handle the unprecedented stress of a big Wall Street firm going bankrupt. The overall system appears to have borne the shock successfully, although individual firms might have taken painful losses they have not yet disclosed.

Make no mistake.  It's not over.  But we'll take good (or even "less bad") news when we can get it.

From the NY Times:

Treasury Secretary Henry M. Paulson Jr. outlined the plan on Monday to nine of the nation's leading bankers at an afternoon meeting, officials said, in which he essentially told the participants that they would have to accept government investment for the good of the American financial system. This capital injection plan will use a huge chunk of the money authorized for Troubled Assets Relief Program.

Citigroup and JPMorgan Chase were told they would each get $25 billion; Bank of America and Wells Fargo, $20 billion each (plus an additional $5 billion for their recent acquisitions); Goldman Sachs and Morgan Stanley, $10 billion each, with Bank of New York Mellon and State Street each receiving $2 to 3 billion. Wells Fargo will get $5 billion for its acquisition of Wachovia, and Bank of America the same for amount for its purchase of Merrill Lynch.

The goal is to inject massive liquidity into the banking system. The government will purchase perpectual preferred shares in all the largest U.S. banking companies. The shares will not be dilutive to current shareholders, a concern to banking chie executives, because perpetual preferred stock holders are paid a dividend, not a portion of earnings.

The capital injections are not voluntary, with Mr. Paulson making it clear this was a one-time offer that everyone at the meeting should accept.

Two weeks ago, I would not have guessed I'd be writing this tonight.  But here we are.  Now we wait and see what these banks are able to accomplish with that money.  I am reminded of Matthew 25:14-30.

Paul Krugman.

Back as early as 1995 I can recall conversations with fellow grad students where we suspected that he would get the prize someday.  Here is a link to the Nobel committee's description of his scientific work for which he won the prize.  I've read many of the papers in that bibliography.  His work really did change the way that many people (myself included) think about trade.  For that, the award is well-deserved.

At age 55, he is a bit on the youngish side relative to recent recipients.  There are quite a few others who I would have expected to be further ahead in the queue.  I wouldn't have expected it this year, but he was in line for it somewhere in the next decade.

A lot of people may have forgotten that Krugman was a member of President Reagan's Council of Economic Advisers.  Times were different then.

Yes, he has become more political over the years.  But in my opinion, that does not disqualify one from receiving the Prize.  It should not enter into the decision at all, and I trust that it did not.  Although many in the broader public may only know of Krugman from his more controversial side rather than for the work for which he actually received the prize, that has been true of others as well.  Milton Friedman didn't receive the Prize for his Newsweek columns (which he had been writing for the decade before receiving the prize).  Most in the general public never read the work for which Friedman won the prize and had no way to judge it.  The same is true of Krugman.  That's not the Nobel Committee's fault, nor is it their concern.  Those of us in the profession who have read his scientific work have known for a long time that it was potentially worthy of the Prize.  That should be enough.

He's also the first economist to have a widely read blog at the time he received the prize.  (Gary Becker is a blogger now, but blogs didn't exist in 1992.)  So here's a question for bloggers to consider....  Suppose you got that phone call from the committee.  What would you write on your blog that morning?

Here's what he had to say.

Tyler at Marginal Revolution has an exhaustive set of links.  Congratulations, Professor Krugman.

From Time Magazine:

[The price of oil] has plummeted nearly 40% in just three months, from about $147 a barrel in July to below $83 on Friday, with no obvious bottom in sight. If that sounds good, you are probably a driver who winces these days at filling your gas tank. But the downward spiral could mean trouble for oil-rich countries and for the environment.

The title of the article:  "Is Cheaper Oil a Good Thing?"

I can think of about three distinct ways to spin that into an exam question (and a couple more from the rest of the article).  How about you?

(#17) Western Illinois took down (#6) NDSU today by a score of 27-22.  Thus ends NDSU's 15 game home winning streak.  The Fargodome is one of the toughest places to play in the FCS (the league formerly known as Division I-AA).  Obviously it was a big game for WIU, but I took a little more interest in it because I grew up just down the road from NDSU back when they were a D-II powerhouse.  When they made the move to D-I, a lot of people figured they'd just be so-so.  In the last year, they've proven to be worthy of a top 10 ranking, but their days of domination (as I remember them in the '80s) are only a memory now.

I've never been a Bison fan.  (I did come from the Minnesota side of the Red River, you know.)  So it was awfully sweet to listen on the radio as WIU took away the victory--in their house.

Not as sweet as it was today for the folks in Toledo, perhaps, but sweet nonetheless.  Quite a few upsets and close calls today.  It's an interesting season so far, but there's a lot of football left to be played.

Celebrate Google's 10th anniversary by searching the web as it was in January 2001.

Go ahead.  Do a search and see how the world has changed.

Robert Gordon is a member of the NBER Business Cycle Dating committee.  He recently talked to David Leonhardt who writes for the NY Times' Economix blog:

"I would be surprised if most people on the committee didn't agree we are in a recession," he said. "But we certainly don't have a consensus." The committee is likely to wait until after it receives more data on the third quarter, which ended on Sept. 30, before making any decisions.

The big debate, Mr. Gordon said, is likely to be about when the recession began. Since employment peaked at the end of last year, there is a good argument for some date around Jan. 1, 2008. But economic output continued to grow in the first half of 2008, which would argue for a starting date closer to August or September. "It's going to be difficult to agree on a date," Mr. Gordon said.

Usually employment lags a bit.  That makes dating this recession a bit unusual.  I could argue as early as December 2007, but I'm now starting to think that it will be May, June, or July.  August or September is too late, IMHO.

Greg Mankiw has a good idea on how to recapitalize the ailing financial sector.  Read the whole thing.

Readers wondering about why coordination among central bankers matters (as in today's coordinated rate cut) may benefit from this old post from 2006.  The subject is a NY Times piece by Hal Varian.

Since this is such an unusual event, I'm just going to print the entire press release complete with links to other central banks.

Joint Statement by Central Banks

Throughout the current financial crisis, central banks have engaged in continuous close consultation and have cooperated in unprecedented joint actions such as the provision of liquidity to reduce strains in financial markets.

Inflationary pressures have started to moderate in a number of countries, partly reflecting a marked decline in energy and other commodity prices. Inflation expectations are diminishing and remain anchored to price stability. The recent intensification of the financial crisis has augmented the downside risks to growth and thus has diminished further the upside risks to price stability. 

Some easing of global monetary conditions is therefore warranted. Accordingly, the Bank of Canada, the Bank of England, the European Central Bank, the Federal Reserve, Sveriges Riksbank, and the Swiss National Bank are today announcing reductions in policy interest rates. The Bank of Japan expresses its strong support of these policy actions.

Federal Reserve Actions
The Federal Open Market Committee has decided to lower its target for the federal funds rate 50 basis points to 1-1/2 percent. The Committee took this action in light of evidence pointing to a weakening of economic activity and a reduction in inflationary pressures. 

Incoming economic data suggest that the pace of economic activity has slowed markedly in recent months. Moreover, the intensification of financial market turmoil is likely to exert additional restraint on spending, partly by further reducing the ability of households and businesses to obtain credit. Inflation has been high, but the Committee believes that the decline in energy and other commodity prices and the weaker prospects for economic activity have reduced the upside risks to inflation. 

The Committee will monitor economic and financial developments carefully and will act as needed to promote sustainable economic growth and price stability. 

Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; Timothy F. Geithner, Vice Chairman; Elizabeth A. Duke; Richard W. Fisher; Donald L. Kohn; Randall S. Kroszner; Sandra Pianalto; Charles I. Plosser; Gary H. Stern; and Kevin M. Warsh. 

In a related action, the Board of Governors unanimously approved a 50-basis-point decrease in the discount rate to 1-3/4 percent.  In taking this action, the Board approved the request submitted by the Board of Directors of the Federal Reserve Bank of Boston.

Information on Actions Taken by Other Central Banks
Information on the actions that will be taken by other central banks is available at the following websites:

Bank of Canada
Bank of England
European Central Bank
Sveriges Riksbank (Bank of Sweden)
Swiss National Bank (51 KB PDF) 

Statements by Other Central Banks
Bank of Japan (65 KB PDF)

David Altig takes up the question with links back to Marginal Revolution, DeLong, as well as my post from yesterday.  (Thanks, David!)

Rather than looking at it as what DeLong calls "Operation Twist", Altig opts for the simpler explanation that it will put a lower bound on the effective fed funds rate.  That is, of course, the fundamental effect that this would have in any circumstance--crisis or not.  It puts the Fed in as the residual buyer of the funds and thus establishes the floor.

The apparent lack of a (non-zero) lower bound on the funds rate was first noticed over a year ago when there were trades happening at zero percent.  Here's what I said in August 2007:

So while I don't have a full and definitive explanation [for the zero percent transactions], it would seem that borrower risk is a factor, and the fact that these are excess reserves (which earn no interest) is also a factor. In that case, the low end of the range could stay low until the reserve picture gets back to normal.

When the Fed began discussing it more seriously in May 2008, I said:

I'll go on the record that this is a good idea. It will help to smooth out the recent fluctuations in the funds rate that garnered so much consternation at this blog among other places. It would prevent interest rate policy from getting in the way of policies for directly injecting liquidity into the financial markets by effectively keeping a floor on the funds rate even during a big injection of liquidity.

So I am clearly on board with the stated reasoning behind the move.  Plus, I think it's just a good policy to eliminate what is effectively a tax on reserves.

But I was struck by DeLong's comment about open market operations on the risk premium rather than on the liquidity premium.  The more this drags on and the more we learn, the more I am coming to the conclusion (see here, for example) that this is a problem with the risk premium.  Why else would the CP market freeze up despite the massive injections of liquidity, not to mention the CDS market?  There seems to be a lot of liquidity out there, but it's not necessarily getting to where it needs to go.

And that got me wondering if paying interest on reserves might, as Tabarrok suggested, accomplish the goal of getting that liquidity where it needs to go in an Operation Twist sort of way.  While the Fed is not yet targeting particular assets, we're treading very close to the kind of environment where that might be necessary.  (Have you seen a T-bill rate lately?)  Having the ability to pay interest on reserves would not be counter to that purpose, even if it wasn't the primary reason.  Of course, it should also be noted that the paying of interest on reserves is a permanent change rather than a temporary one meant only for the crisis.

Paying interest on reserves is a good policy for a lot of reasons.  The obvious ones and the ones that might still be a stretch--at least for now.

Tonight, Senators Obama and McCain debate each other for the second time in a series of three debates as they compete for the highest office in the land.

150 years ago today, Abraham Lincoln and Stephen Douglas met for the fifth of seven debates as they competed for a Senate seat from the state of Illinois.  That particular debate was held in Galesburg, Illinois--just less than an hour's drive from where I sit.  (Next Monday is the anniversary of the sixth debate which was in Quincy--just less than an hour's drive in the other direction.)

If you have a yearning for a real political debate, read the transcripts of the Lincoln-Douglas debates.  You'll probably learn more from that than from anything you'll see on the television tonight.

Press Release from the Fed:

The Federal Reserve Board on Tuesday announced the creation of the Commercial Paper Funding Facility (CPFF), a facility that will complement the Federal Reserve's existing credit facilities to help provide liquidity to term funding markets. The CPFF will provide a liquidity backstop to U.S. issuers of commercial paper through a special purpose vehicle (SPV) that will purchase three-month unsecured and asset-backed commercial paper directly from eligible issuers. The Federal Reserve will provide financing to the SPV under the CPFF and will be secured by all of the assets of the SPV and, in the case of commercial paper that is not asset-backed commercial paper, by the retention of up-front fees paid by the issuers or by other forms of security acceptable to the Federal Reserve in consultation with market participants. The Treasury believes this facility is necessary to prevent substantial disruptions to the financial markets and the economy and will make a special deposit at the Federal Reserve Bank of New York in support of this facility.

The commercial paper market has been under considerable strain in recent weeks as money market mutual funds and other investors, themselves often facing liquidity pressures, have become increasingly reluctant to purchase commercial paper, especially at longer-dated maturities. As a result, the volume of outstanding commercial paper has shrunk, interest rates on longer-term commercial paper have increased significantly, and an increasingly high percentage of outstanding paper must now be refinanced each day. A large share of outstanding commercial paper is issued or sponsored by financial intermediaries, and their difficulties placing commercial paper have made it more difficult for those intermediaries to play their vital role in meeting the credit needs of businesses and households.

By eliminating much of the risk that eligible issuers will not be able to repay investors by rolling over their maturing commercial paper obligations, this facility should encourage investors to once again engage in term lending in the commercial paper market. Added investor demand should lower commercial paper rates from their current elevated levels and foster issuance of longer-term commercial paper. An improved commercial paper market will enhance the ability of financial intermediaries to accommodate the credit needs of businesses and households.

This will bring a sigh of relief to the commercial paper market. Think of it this way.  The Fed is betting that there are a lot of mutually beneficial trades out there that are not happening because the participants either afraid that they will not get paid back or that they will not be able to liquidate the paper they hold if they need quick cash.  In normal times this action would not be necessary.  But these are not normal times.  John Jansen at Across the Curve has been reporting on the CP market for a while, and if what he's been saying is true then this was a very smart and very necessary move.

Text of the press release

So says Reuters (and CNBC)

The statement came after U.S. business television channel CNBC reported the Fed was planning talks with the Chicago Mercantile Exchange, or CME, and the Intercontinental Exchange, or ICE, on the creation of a CDS exchange. The companies declined to confirm the report, although they said they would be willing to participate in any initiative.

And Calculated Risk says:

Apparently CNBC's Steve Leisman reported (I didn't see it) that the Fed might announce tomorrow morning some sort of program to buy commercial paper.

I had CNBC on in the background tonight and I think I heard that as well.  John Jansen says he has heard something to that effect from three sources.  And if you haven't been reading his blog lately, you're not fully informed.  From what I'm reading at his blog and other sources, it appears that the levels of risk aversion out there are just incredible.  Institutions are not lending because they have no way to assess the creditworthiness of their counterparties.  As a result, good trades are being passed over.  This cannot go on for very long without causing some significant problems. 

As I've said before, it's an information problem (which has led to a problem of risk assessment).  We are in need of transparency, pure and simple.  Unfortunately, getting it will not be that simple.

From the Federal Reserve:

The Financial Services Regulatory Relief Act of 2006 originally authorized the Federal Reserve to begin paying interest on balances held by or on behalf of depository institutions beginning October 1, 2011. The recently enacted Emergency Economic Stabilization Act of 2008 accelerated the effective date to October 1, 2008. 

Employing the accelerated authority, the Board has approved a rule to amend its Regulation D (Reserve Requirements of Depository Institutions) to direct the Federal Reserve Banks to pay interest on required reserve balances (that is, balances held to satisfy depository institutions' reserve requirements) and on excess balances (balances held in excess of required reserve balances and clearing balances). 

The interest rate paid on required reserve balances will be the average targeted federal funds rate established by the Federal Open Market Committee over each reserve maintenance period less 10 basis points. Paying interest on required reserve balances should essentially eliminate the opportunity cost of holding required reserves, promoting efficiency in the banking sector. 

The rate paid on excess balances will be set initially as the lowest targeted federal funds rate for each reserve maintenance period less 75 basis points. Paying interest on excess balances should help to establish a lower bound on the federal funds rate. The formula for the interest rate on excess balances may be adjusted subsequently in light of experience and evolving market conditions. The payment of interest on excess reserves will permit the Federal Reserve to expand its balance sheet as necessary to provide the liquidity necessary to support financial stability while implementing the monetary policy that is appropriate in light of the System's macroeconomic objectives of maximum employment and price stability.

Tyler Cowen thinks it is what Brad DeLong suggested as "Operation Twist on a Pan-Galactic scale."  I agree.  The effect will be small, but it probably won't hurt.

Still a week to go before the Prize in Economics is announced (the full title is The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel).  My pick, as it has been for the last several years, would be Jagdish Bhagwati.  Barkley Rosser at Econospeak also lists Bhagwati with Avinash Dixit as one of his likely possibilities.  Thomson Reuters has some predictions.  Hansen, Sargent, and Sims will likely get their day, but not yet--especially given that Phelps was the choice last year two years ago (how time flies).  Alchian and Demsetz would also be a choice that I would happily support.

Get your picks in, the announcement will be on the morning of Monday, October 13.

Alex Tabarrok at Marginal Revolution writes:

The consensus among economists is now clear, the best strategy for dealing with the financial crisis is to recapitalize the banks that need recapitalization.  Paul Krugman, John Cochrane, Luigi Zingales, Douglas Diamond, Raghuram Rajan and many others all advocate some form of recapitalization as do Tyler Cowen and myself.  Krugman would prefer a recapitalization in the form of nationalization.  In my view, there is still plenty of private money to buy banks at the right price and my preferred model is the FDIC leading a speed bankruptcy procedure, as was done brilliantly with Washington Mutual (Cochrane also supports this model.)  In the middle are most of the others who have a variety of good ideas to require the banks to raise equity in various ways.

...

There is also a consensus among economists that the bailout bill is not the right policy.  None of the above economists, for example, is enthusiastic about the bailout.  My bet is that all of us think that the bailout has a substantial likelihood of failing.  The support that exists is born out of hope and fear not judgment and experience.  Nevertheless, the political consensus is that a bailout is what we will get whether it is likely to work or not.  

Count me among those not enthusiastic.  My grudging support is not out of fear, per se--that's too strong a word.  Rather, I am convinced that we're in for a bumpy ride either way, and even a suboptimal plan like this has the potential to make the ride less bumpy.  Furthermore, I think that the moral hazard risks are small in the short term, and there is plenty of time to deal with the long term later.

But what is done is done.  Payrolls fell another 159,000 in September.  The unemployment rate did not rise this month, but it will catch up in time.  And let's be clear once again.  This bailout bill will not prevent a recession.  As James Hamilton says, that's a "done deal".  This bill will not restore calm to the financial markets either.  The best we can hope for out of this bill is that it can help facilitate the revealing of information in the markets sooner than would take place without it.  That might prevent an unnecessarily protracted downturn.

You won't find me celebrating this bill, but I am looking ahead with anticipation to see if it can get counterparties trading with each other again.  If it can do that, it will achieve some measure of success.

It's a familiar phrase to anyone who regularly reads legislation.  Most people would call it "pork."  It's the extra stuff that goes into a bill to make it palatable to legislators who are not totally in favor of the main purpose of the bill.  These items are not necessarily enough to convert a staunch opponent, but enough to get those on the fence to come to your side.  It's a political application of the economist's old friend, "thinking on the margin."

With that as prelude, I offer you this link to the bill passed by the Senate and now before the House.  It is now 442 pages long.  The pork "other purposes," begin on page 110 and continues for the next 330 pages (there are a couple of essentially blank pages at the end).  The math works out nicely to be 75% "other purposes" by volume though not by money.

Ever since this latest and most intense phase of the ongoing crisis began a few weeks ago, I have been convinced of the need for a coordinated approach to unclogging the credit markets.  Efforts to manage the specific incidents (AIG, WaMu, etc.) have been generally pretty good--if pretty good means that there have been no runs on banks and no catastrophic failure of the financial system.  In fact, as I have pointed out in a couple of media interviews lately, the response of the FDIC has been superb.  So far, they have my vote for the "most valuable player" in the handling of the situation.  Because of their experience and efficiency in handling bank failures, I would fully support a measure that would guarantee that FDIC continues to have access to the Treasury to meet its mission.  FDIC was created for just this sort of thing, so let's utilize them.

But there is a limit to what FDIC can do.  The Fed can do a little bit more.  They have the authority to respond to emergencies by lending to entities outside their normal purview.  While there is always a danger that such authority could be used unnecessarily, in my estimation they have acted responsibly thus far.  But even the Fed is limited to the role of responding to emergencies rather than acting entirely proactively.  To act more proactively, that is, to systematically purchase troubled assets in a way that many think needs to be done, requires Congressional authority.  And that's why we're here having this discussion.

There are, however, many reasons to be cautious about granting that authority.  Obviously it requires transparency and oversight.  Provisions that limit golden parachutes and give the taxpayer a chance to share the upside are also unobjectionable to me.  Assessing financial institutions for a portion of the costs is also a good idea.  Handing the Treasury Secretary a blank check would clearly be a very bad idea.

The biggest problem right now is clearly a lack of information (asymmetric information as well, but in some cases it is truly lacking).  It is evident from the TED spread and other data that lending among the major institutions is being constrained by uncertainty over how to assess counterparty risk.  This is not healthy, and it's not going to go away until some more information is revealed.  Any bailout package should be designed with that in mind.  If the Treasury is allowed to take some of the bad assets off of a bank, it may send a signal to counterparties that they are less risky.  This would help to get funds moving again.

And let me just head off anyone who would say that we don't need to "get funds moving again" because that's what got us into that mess.  That's just wrong.  Getting the counterparties creditworthy again will not create an undue amount of moral hazard.  This market has been slammed--big time.  Getting the funds moving in a more normal way will not bring about a return to subprime, interest only, no-doc loans.  At least not for a long time, and in that time we can talk about smart regulation to prevent that from happening again.

In summary, here's what I like about the proposal going through Congress:

• Wall Street shares the cost (see pages 9-12 of the legislation)
• Limits on executive compensation
• Making the $700 billion available in tranches

Things I don't like as much:

• A temporary increase in the $100,000 per account limit on FDIC insurance to $250,000.  Why?  I don't like fiddling with such important institutions on a temporary basis.  That figure is due for an upward adjustment due to inflation (and an increase in the premiums banks pay).  Why not do that and make it permanent?  (UPDATE:  But don't do it during the crisis, see below).
  
• Ability of the Treasury to suspend mark-to-market rules.  Why?  Similar reasoning.  I rarely would favor a temporary change in rules that are meant to foster transparency.  Mark-to-market may be flawed, but I'm afraid that temporarily suspending it right now would only add to the confusion.

Things I just don't like:

• "...and for other purposes"  Why?  You figure it out.  (Look at page 294 for an example.)
  

Is this legislation better than nothing?  All week I've been wanting to be able to say yes, but I am finding it difficult to do so.  There is something to be said for having a plan in place in case we need it in the next three months that Congress is out of session.  And yet, I find myself disappointed in the process and not that crazy about the final product.

There is no doubt in my mind that on balance this legislation is worse than what was voted down on Monday, but this one might actually pass.  That's how Congress works.  This legislation is not something that we urgently need to prevent a depression, and it simply will not prevent whatever recession may be in the works.  If it passes, it might reduce some of the anxiety in the credit market sooner.  If it fails, the Fed will probably be called on to use its emergency lending authority again.  The latter is not optimal, but it is probably workable.

The really sad thing is that the "other purposes" are not really out of the normal realm of business.  While it grates at me, it is part of the legislative game.  But if you think that facilitating price discovery and getting institutions to show their cards well help reduce counterparty risk, then this might be the best plan you'll get.  It's not a solution.  A solution seems very far away at the moment.  But it's probably marginally better than doing nothing and hoping for the best.

And I think I'll just leave it at that.

For today's other commentary, see Arnold Kling (who has had very good material lately) and Tyler Cowen (with whom I am in general agreement).

UPDATE:  King Banaian doesn't like the increase in the FDIC limit either.  He is worried about the moral hazard and that it would lead to banks taking more risks to try to recover their losses (as in what led up to the S&L crisis).  He's right about that.  I still think the temporary aspect of it makes it worse.  Let me be clear.  I think the limit should be increased permanently to adjust for inflation, but it does not need to be done in this bill.  It is not an urgent matter.  And furthermore, if and when the limit is raised, the insurance premiums paid by banks should increase as well.  In the meantime, the present practice of the FDIC in insuring the first $100,000 with certainty and making any decision to insure deposits beyond that on a case-by-case basis is sufficient for now.