I am simply pointing out that the big problem that everyone seems to ignore is the fact that this crisis was created by the Fed and the government. Every time the economy overheated and was ready to correct the Fed stepped in and added liquidity to the system to prevent the necessary liquidations of malivestments in the system. At the same time the federal government was using the GSEs to inflate the system and was protecting the ratings agencies from competition. Eventually the unsustainable activities came to an end and the system contracted as it should have. Sadly, the Fed stepped in and kept pumping up the money supply to keep the failed institutions alive. That is a path to hyperinflation and the Fed knows it. I suspect that it will either have to sacrifice savers by allowing the USD to fall by at least 50%-75% from here or will have to crank up interest rates to protect the currency. In either case the prudent will be hurt by the arbitrary use of government power to save the reckless.

I reckon Marshall agrees with your basic point: propping up insolvent companies engaging in risky behaviour makes things considerably worse. And on that point, you should read my post, AIG: Bankruptcy would have avoided the bonus debacle.

When Marshall talks nationalisation, I understand him to mean a government-controlled bankruptcy process. We’re talking about bankruptcy that avoids the uncontrolled situation we saw with Lehman.

If AIG had been bankrupted, with the necessary unwinding of contracts, none of this would have happened. Sure, we should be sceptical of how government is involved in this process; look at IndyMac, a loss of $10.7 billion for the FDIC.

But, this policy of bailing out companies like AIG and Citigroup because they are systemically important must come to an end.

That is a good thing because governments should stop meddling and let the markets do their job. What we have seen so far is a failure of government and there is no reason to believe that more government action will fix the crisis.

“But if Congress proves equally recalcitrant, are there other mechanisms that could be deployed to circumvent Congress as was the case in 1994? The Exchange Stabilization Fund is clearly too small, but could one of the Fed’s new entities, such as the TALF, play such a role? Lawrence Summers clearly has experience in terms of doing end-arounds Congress, so I wouldn’t put anything past him.”

I think that you are missing the point. The crisis we are experiencing was caused by actions that kept rewarding bad behaviour and did not allow failure that would cause the markets to liquidate malinvestments. More of the same will not help the situation.