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Why is Obama Reluctant to Kill the Zombie Banks Threatening Our Economy?


The battle lines over how to deal with the banking crisis have been drawn. On the one side are those who know what needs to be done. On the other are those who know what needs to be done -- but won't admit it. Because it is against their self-interest.

Unlike the conflict over the stimulus package, this is not an ideological fight. This is a battle between the status quo and the future, between the interests of the financial/lobbying establishment and the public interest.

What needs to be done is hard but straightforward. As Martin Wolf of the Financial Times sums it up: "Admit reality, restructure banks and, above all, slay zombie institutions at once."

This tough love for bankers is being promoted by everyone from Nouriel Roubini, Paul Krugman, and Ann Pettifor to Niall Ferguson, the Wall Street Journal, and Milton Friedman's old partner, Anna Schwartz, the co-author of his seminal work, A Monetary History of the United States, 1867-1960. "They should not be recapitalizing firms that should be shut down," says Schwartz. "Firms that made wrong decisions should fail."

The plan laid out -- or, more accurately, sketched out -- this week by Tim Geithner makes it very clear that he is on the wrong side of the issue, more worried about the banking industry than the American people. Like Hank Paulson before him, Geithner appears more concerned about saving particular banks than saving the banking system. No real shocker there. As Henry Blodget points out on HuffPost, it's hard to be surprised that Geithner is sticking with the Paulson plan "inasmuch as he was likely the one who created it."

The big problem is Geithner is acting as if the crisis we are facing is a crisis of liquidity when, in fact, it's a crisis of insolvency. As Ann Pettifor puts it on HuffPost: "Much of Wall Street is effectively insolvent. It's not that these banks lack cash or capital -- it's just that they're never going to meet all their financial liabilities -- i.e. repay their debts. Ever."

Trying to prop these zombies up, as Geithner seems intent on doing, will lead to what Roubini calls "a royal rip-off of the taxpayer" and the risk of "turning a U-shaped recession into an L-shaped near-depression."

President Obama has made it unambiguous that he understands what is at stake -- both for the country, and for himself politically. On Tuesday, he said that if his economic plan doesn't work, "a few years from now, you'll have a new president."

And we know that many within his administration -- including senior advisor David Axelrod - favor a strategy that may be harder on Wall Street but will more quickly revive the U.S. economy.

So it's time to take off the kid gloves Geithner and Larry Summers are using to handle Wall Street and pull the plug on Geithner's deeply flawed plan.

And let's not be distracted by the shiny objects of the financial crisis -- corporate jets, redecorated offices, CEO bonuses, etc. -- as happened to the members of the House Financial Services at yesterday's hearing.

These are important issues, to be sure -- worthy of public outrage, Congressional grilling, and presidential action. But the central task at hand is cleaning up the toxic assets -- and the toxic thinking -- that have contaminated America's banking system.

Being diverted from that is like obsessing over the cut on your finger while the Great White shark that has already bitten off your leg is about to finish you off.