Legal Commentary

Here are some links worth reading concerning the financial crisis:

1. Justin Wolfers, an original signatory of the economists' letter concerning the original Paulson plan, which some have taken to be a compelling argument against the plan defeated Monday. Wolfers writes:

We have failed to explain in clear language just what it is that credit markets do, and hence why it is so important that we fix them. (Dani Rodrik agrees.) This failure is all the greater, given the public?s understandable cynicism about Wall Street, the government, and economics. Our failure helps explain why Congressional populists believe that opposing the rescue plan will help their re-election prospects.

2. David Leonhardt's article in today's NYT. The opening story is a cautionary tale: it concerns former Fed Board member Frederic Mishkin's father and his -- yes, I'll say it -- wrongheaded view that the 1929 crash served the bad guys right. Didn't take long to serve the good guys wrong, as it happened. The rest of the article is also excellent.

3. Tyler Cowen offers a sensible perspective from the right (or wherever it is that Cowen views himself). All of it is good (which is not to say I necessarily agree with all points), but vis-a-vis my earlier posts, I think these two points are of particular note:

10. Libertarians are overrating the moral hazard argument, as many equity holders have been wiped out.

11. If someone is pushing conclusions and not identifying the potential weak points in his or her arguments, be suspicious. Also beware of anyone pretending to offer you simple answers.

On point 11, virtually everyone offering any conclusion has some potential weak points to defend. Mine are: (a) there is no guarantee Monday's bill, or its slight modification, will work, though I'm quite confident that doing nothing will work worse; (b) Monday's bill no doubt involves some risks, including moral hazard ones, though I believe the short-run debt-deflation and adverse selection risks justify taking the moral hazard risk, esp given the second part of Cowen's point 10; (c) as I understand its language, the bill still leaves a lot of stuff up to the Treasury Secretary's discretion (though my understanding is that there is now real oversight built in), whereas I would much prefer to see language mandating the use of mechanisms likely to minimize the costs of providing liquidity and ameliorating balance sheets -- for an example, see this article by my former Maryland colleagues Larry Ausubel and Peter Cramton, who are among the leading auction scholars and designers in the world.

4. Felix Salmon's post from yesterday, The Dysfunctional Credit Market. The post discusses various measures of problems in the credit market, which have been less discussed than the stock markets by many MSM reporters (CBS World News got it right last night, though) and at least some ill-informed blog commentators. Read the whole thing, but here's Salmon's conclusion:

I'm glad that broad stock-market indices are up 4% today. But looking at the credit markets, things are still very bad indeed. Remember, the equity markets have been overoptimistic during the entire history of this crisis. They're not really to be trusted.

5. Focusing only on cost, and not on design, this NYT article, which discusses actions by various European governments to deal with the trouble spreading across the pond from the US. Of particular note:

The Irish plan guarantees bank deposits and debt for customers and creditors of six banks. That makes the government responsible for $400 billion, twice the country?s economic output.

For the record, twice our annual economic output would be $28 trillion; $700b ain't so much when you think about it that way. For a similar example, see this post.