There’s More To Fear Than Fear
No, we haven't turned the corner on the banking crisis—we can't even see the corner. What's needed is a bold, massive jolt to the system.
By Fareed Zakaria | NEWSWEEK
Published Jan 24, 2009
From the magazine issue dated Feb 2, 2009
Franklin Delano Roosevelt's first inaugural address is now known for only one sentence: "The only thing we have to fear is fear itself." But the audience at the time paid little attention to that line and the newspapers buried it in their reports the next day. As Jonathan Alter recounts in his book "The Defining Moment," the words that got the greatest applause were something more specific. "I shall ask Congress for the one remaining instrument to meet the crisis," FDR said, "broad Executive power to wage war against the emergency, as great as the power that would be given to me if we were in fact invaded by a foreign foe." The next day's headline in The New York Herald Tribune was FOR DICTATORSHIP IF NECESSARY.
We are not in 1933, and no one would advocate or encourage any such power grab today. But President Barack Obama will have to quickly start planning for a set of more extraordinary measures to pull the United States out of its current, unsustainable economic condition. The president has understandably focused his first few days on important campaign promises—ending torture, closing Guantánamo—but he will now have to tackle the biggest challenge facing the country.
The American economy is entering its sharpest economic contraction since 1974—a recession that is likely to be the longest since the Second World War. But that's not the worst of it. The American financial system is effectively broken. Major banks are moving toward insolvency, and credit activity remains extremely weak. As long as the financial sector remains moribund, American consumers and companies—who collectively make up 80 percent of GDP—will not have access to credit, and economic activity cannot really resume on any significant scale. We have not turned the corner. In fact, we can't even see the corner right now. In Washington and in the media, we have all stopped thinking about the rescue of the financial system—that was last year's story—and moved on to the automobile bailout and now the fiscal stimulus. Debates have begun as to whether programs represent pork or investment, whether tax cuts should be preferred to government spending. But despite the injection of hundreds of billions of dollars, and the promise of many billions more, banks are still not lending. Without a functioning financial system, even a massive stimulus will not restore the economy to a normal growth trajectory. Japan tried to jump-start its economy with the world's largest fiscal stimulus in the 1990s. It did nothing for long-term growth in that country.
What about the actions taken so far? The $700 billion TARP, the various federal guarantees, the Federal Reserve's extraordinary actions? The outgoing administration has plausibly claimed that these have worked—in the sense that the financial system has not imploded. Paul Krugman, no fan of the Bush administration's approach to the crisis, acknowledges, "Without the bank bailout, the whole system would have collapsed." But the bailout has not solved the problem; banks are still buried under mountains of bad assets. And while the Bush administration has made mistakes—most of them clearer in hindsight—the Obama economic team knows that there is no simple answer to this extraordinarily complex situation. Britain, which was widely lauded for its first set of bank bailouts, appears to have stumbled in a second set of policies last week. This might be the time to recall screenwriter William Goldman's cardinal rule about Hollywood: "Nobody knows anything."
And yet the government has to do something. President Obama faces a terrible dilemma. He needs to act quickly and on a massive scale. Part of what has unnerved markets has been the incremental nature of the government's response. Will it bail out this bank or that one? On what terms? A broad systemic approach commits the government to one course—one solution—and does not allow for experimentation. It is also enormously expensive. And yet without large-scale action, the financial system will keep bleeding. The politics of this are even worse. The American public believes that we have already spent far too much money on bailing out the banks. But the economic fact is that we have not spent enough. Without several hundreds of billions of dollars, these organizations will remain zombies and the economy will remain paralyzed.
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