How to End Our Financial Misery

The collapse on Wall Street is now decimating Main Street, Ocean Parkway, Mountain View Drive and I-80. Since January the economy has shed 760,000 jobs. In September alone, monthly mass layoff claims for unemployment insurance jumped by 34 percent. General Electric, General Motors, Chrysler, Yahoo! and Xerox have all announced major layoffs, along with the humbled financial titans Goldman Sachs and Bank of America. Fully one-quarter of all businesses in the United States are planning to cut payroll over the next year. State governments are facing a tax revenue shortfall of roughly $100 billion in the next fiscal year, 15 percent of their overall budgets. Because states have rules requiring balanced budgets, they are staring at major budget cuts and layoffs. The fact that the economy's overall gross domestic product (GDP) shrank between July and September -- the first such decline since the September 2001 terrorist attacks -- only confirms the realities on the ground facing workers, households, businesses and the public sector.

The recession is certainly here, so the question now is how to diminish its length and severity. A large-scale federal government stimulus program is the only action that can possibly do the job.

So far, our leaders in Washington have dithered. Treasury Secretary Henry Paulson and Federal Reserve chair Ben Bernanke continue improvising with financial rescue plans, committing eye-popping sums of money in the process. Paulson's original program for the Treasury to commit $700 billion in taxpayers' money to purchase "toxic" loans -- the mortgage-backed securities held by the private banks that are in default or arrears -- was at least partially shelved in favor of direct government purchases of major ownership stakes in the banks. But neither of Paulson's strategies has thus far helped to stabilize the situation, with global stock and currency markets gyrating wildly and investors dumping risky business loans in favor of safe Treasury bonds. The crisis has even hit the previously staid world of money market mutual funds, where the fainthearted once could park their savings safely in exchange for low returns. Money market fund holders have been panic-selling since mid-September, dumping $500 billion worth of these accounts.

To stanch a money market fund collapse, Bernanke announced on October 21 that, on top of the Paulson bailout plan, the Fed stands ready to purchase $540 billion in certificates of deposit and private business loans from the money market funds. This action is in addition to two previous initiatives committing the Fed to buy up, as needed, business loans from failing banks. Until this crisis, the Fed had conducted monetary policy almost exclusively through the purchase and sale of Treasury bonds, rarely buying directly the debts of private businesses or banks. But the pre-crisis rules of monetary policy are out the window.

Even if some combination of Treasury and Federal Reserve actions begins to stabilize financial markets in the coming weeks, this will not, by itself, reverse the deepening crisis in the nonfinancial economy. A rise in unemployment in the range of 8 to 9 percent -- upward of 14 million people without work -- is becoming an increasingly likely scenario over the next year.

President-elect Obama as well as most members of the newly elected Democratic-controlled Congress seem to recognize the urgency of such a large-scale stimulus program above and beyond any financial bailout program. Even Bernanke, whose term of office continues through January 2010, has offered his endorsement. But despite the near consensus, questions remain, including: How should the stimulus funds be spent? How large does the stimulus need to be? Where do we find the money to pay for it?