"Part of the Way with LBJ"
--Students for a Democratic Society button, circa 1964
Progressives now find themselves in an awkward position of simultaneously wishing Barack Obama well, but feeling dismayed by his policies on some key issues, most notably the banking bailout. If this were a normal economic situation, the posture of semi-opposition would not be that big a deal. We would simply gratefully accept the decent policies and keep pressing for bolder ones. But a failure to revive the banking system would be Obama's Vietnam. It would wreck everything else.
It's a too-familiar position for progressives, one that winds back through all of the postwar Democratic administrations of my adulthood. We wanted Lyndon Johnson to push harder for civil rights and anti-poverty and not ruin it all in Vietnam. We were appalled at Jimmy Carter's attacks on government, his failure to use his large Democratic majority in Congress to press for progressive legislation, his refusal to lift a finger on behalf of labor law reform. The memories of Bill Clinton are sufficiently recent that we need little reminder of the needless tilt to the right on economic issues from NAFTA to welfare reform to financial deregulation.
What makes this situation different is, first, our gratitude on so many fronts combined with the very high stakes of the financial rescue. Barack Obama is an exemplary leader in so many ways, the leader we've been waiting for. His commitment to restore constitutional government is no small achievement. Those fighting for anti-poverty efforts and children's initiatives have never seen increases in federal resources comparable to the present ones. His foreign policy initiatives, from his reaching out to Iran to his efforts on behalf of nuclear non-proliferation are a breath of fresh air. And speaking of which, Obama seems serious about reducing the carbon footprint.
But all of this promise could come to naught if the economy remains mired in recession. And despite large scale stimulus spending, the economy will remain stuck in first gear until the banking system is revived.
The economists whom I most respect, such as Joseph Stiglitz, Jeff Sachs, Simon Johnson, and Paul Krugman, all have grave doubts about whether the Geithner-Summers plan can work. The more details are revealed, the more curious it looks. If the plan did succeed in bringing zombie banks back to life, we might hold our noses at the fact that hedge funds and private equity companies were profiting, while taxpayers and the Federal Reserve bore the risk.
The problem, however, is that the plan is not just outrageous in terms of promoting a form of gambling with public subsidy, in which taxpayers bear most of the downside risk while the speculators get most of the upside gain. Nor is it problematic just because of the recently exposed conflicts of interest, which range from the large speaking fees given Larry Summers by some of the very firms that benefit from the bailout to the fact that the Geithner approach was literally designed not by the government but by Goldman Sachs, Pimco, and others that will directly benefit.
The more serious problem is that the plan is conceptually flawed. It presumes that it's possible to create a market that will bid up the value of securities that have lost most of their worth because the mortgages on which they were based will never be repaid at anything like their par value. Banks can play all kinds of games to try to increase the prices at which these securities trade. But unless the taxpayers and the Fed make up virtually the entire loss in banks' balance sheets, the trading games will not serve to recapitalize the banks.
And if a total taxpayer bailout is the real plan, it would be far better to do it straightforwardly with something like a Reconstruction Finance Corporation. A new RFC would conduct real audits of troubled banks (not "stress tests), determine how much capital they needed, and decide what combination of taxpayer and Federal Reserve assistance, coupled with sacrifices from bondholders and shareholders, would make up the gap.
The administration's approach to the auto rescue suggests the more robust strategy needed for the banks: take a hard look at the company's books; fire incumbent management; make all stakeholders take some sacrifices; and involve government directly in the design of a leaner and more efficient successor firm. But nothing of the sort is being done with the banks.
The political problem is that President Obama has decided to give the Geithner-Summers approach a bigtime try. And until the approach fails, there is little chance that Obama will turn to a Plan B.
But what does "failure" mean? A palpable failure would be that few deals get made, even with all of the taxpayer financing and loan guarantees. But the terms are so lucrative that there will surely be some deals. The most likely scenario is that the banks limp along, Japan style, while the Fed, Treasury, and FDIC dole out money in increments big enough to stave off insolvency, but not sufficiently large to bring the banking system fully back to life. In the meantime, unemployment keeps increasing at something like half a million a month, until it hits double digits. The continuing slump leaves the budget deficit even larger than projected. State and local government keep cutting programs and laying off workers because the stimulus package is not large enough to make up for their revenue gap--and these cutbacks and layoffs contribute to deepening recession.
At some point, it will dawn on the President that the approach is not working, as it eventually dawned on the Japanese. But by the time Obama does propose something bolder, he will have burned through a lot of money and a lot of credibility, and the economic hole will be that much deeper.
So where does this leave all the dismayed progressives who want this administration to succeed as much as Obama himself does, but who fear that Wall Street is leading Obama off a cliff? Most Congressional Democrats feel they need to back their President, even as they use Geithner as a lightening rod. The leadership of the labor movement, though privately skeptical, desperately needs President Obama's goodwill if they stand a prayer of getting the Employee Free Choice Act. In recent weeks, I have been in several conversations with grass roots activists wondering how to organize regular people around something as convoluted and daunting as the details of the bank bailout. Nobody had any silver bullets.
About all that the loyal opposition can do is shed more light on the absurdity of the Summers/Geithner approach and help animate skepticism in the media, the public, and eventually the President. In Congress, one leader to watch is Rep. Carolyn Maloney, chair of the Joint Economic Committee. Her next hearing, scheduled for Tuesday, is must-viewing. It will feature Nobel Laureate Joseph Stiglitz; former IMF chief economist Simon Johnson, whose recent piece in the Atlantic Monthly compared the US to third-world kleptocracies, and Thomas Hoenig, the most outspokenly critical of the regional Federal Reserve Bank presidents.
Maloney is particular brave, since her suburban New York district would ordinarily make her a defender of almost anything Wall Street wanted, on the ground that what's good for Wall Street is good for New York's regional economy. Speaking of which, Maloney's Senate deputy chair is Chuck Schumer, Wall Street's leading water-carrier among Senate Democrats, which makes her doubly brave.
Other important loci of respectful opposition are the Congressional Oversight Panel, whose latest report is also a must-read. Other members of the opposition include Sen. Sherrod Brown, who recently became chair of a Senate Banking Subcommittee on economic affairs, and Paul Volcker, who heads a panel appointed by Obama (which has still not met) was keeping his own counsel for a time, but has begun to be more actively engaged again. This is all still a delicate balance act, less than ninety days into a new administration that progressives must wish well.
We have two big things on our side: reality--the fact that the plan is a Rube Goldberg contraption and a series of conflicts of interest; and Obama's own intelligence and desire not to fail. But it is not easy to play the role of loyal opposition to an attractive progressive president who at times seems almost willfully determined to let himself be captured by Wall Street.
Robert Kuttner is co-editor of The American Prospect and a senior fellow at Demos. His recent book is "Obama's Challenge: America's Economic Crisis and the Power of a Transformative Presidency."