NDN Blog

While the chorus of complaints about President Barack Obama’s spending and tax package was dispiritingly predictable, the post-partisan surprise is that its basic structure is evolving to just about where it should be. The legislative process is adding its normal quotient of special interest subsidies on both the spending and tax sides -- think of it as a “congressional tax,” because they really can’t help themselves. And compared to the last decade of limitless tolerance for the unregulated escapades of Wall Street financiers that’s now pushing many of the world’s economies over a cliff, the partisan outrage at this conventional if distasteful part of the legislative process seems pretty hollow.

The important matter here is that at its core, the package should do roughly what we want it to, given the gravity of current conditions and our equally serious, longer-term problems with wages and jobs. (There is one gaping exception: nothing serious yet to address the foreclosure and housing crisis). In effect, the Administration has cleverly packaged some broadly useful, longer-term economic and social initiatives with some traditional “stimulus,” and it’s selling it as the answer to the crisis. It provides some of that answer -- unfortunately, not all of it by a long shot -- but it also offers the Administration’s first responses to other legitimate matters on which President Obama happened to win his election.

First, there are at least $230 billion dollars in clear economic stimulus -- notably, some $65 billion for more food stamps and an extension of unemployment benefits and $30 billion in other assistance for low-income households, all of which will directly support consumption; and another $80 billion in large grants to states dealing with fast-falling revenues and balanced budget requirements, which will save jobs and so also support consumption. There also are about $50 billion out of a larger pot of infrastructure projects that can properly count as stimulus -- for schools, highways, transit, public hospitals, and so on – because they can get started fairly quickly and absorb idle resources (that’s mainly idle construction and machine workers, and equipment). Then there’s nearly $90 billion for state Medicaid programs. That’s not stimulus precisely, but it will relieve states from having to choose between cutting medical treatment for poor and elderly people or cutting other jobs and purchases to maintain those treatments. Given our circumstances, there are no sensible, post-partisan arguments against these provisions.

The second tranche of the package provides some $250 billion in tax cuts, most of it the first stage of the President’s promised tax relief for the now-famous “95 percent of Americans,” plus another year of relief from the Alternative Minimum Tax’s slide down the income scale. There’s no point calling this stimulus. The fix in the AMT is an annual ritual which would happen with or without the package. A small package of business tax cuts (maybe $20 billion) also will do little economic good or harm. And the same can be said of the personal tax cuts. The best guess of economists is that 75 to 80 percent of those tax cuts will be saved with no stimulus effect, since 60 percent of last spring’s rebates were saved and anxieties over falling incomes, job losses, or worse have all intensified since then. But they’re still worth doing as progressive, post-partisan down payments on using the tax code to respond to the sharp increases in inequality under our recent, unlamented conservative regime. It certainly would be better to adopt these kinds of changes as part of a broader reform of the tax code. But as tax changes go, they have the unusual virtue of actually helping most people.

Finally, there’s a third group of some $220 billion in new public investments -- in education, training, broadband, clean tech, environmental cleanups, modernizing the electricity grid, energy efficiency, health care IT and medical research, and, yes, more as well. The current Great Recession is brutal, and it’s getting worse; but one reason it’s so painful is that it followed an economic expansion in which, the income data tell us, most Americans barely held their own ground. These investments are close enough to a post-partisan agenda for raising the productivity of the overall economy as well as millions of workers, plus a small down-payment on addressing climate change. And the productivity pieces, at least, could begin to address the remarkable, recent stagnation in most people’s incomes. It will take much more than that to restore the strong wage and job gains we saw in the 1990s, notably serious cost containment in health care and a lot more energy efficiency than is in sight right now. But it’s a useful first step, and one for which NDN has long argued.

So it’s not just “stimulus,” but also the heart of the President’s first year agenda – and on balance, that’s a good thing. The missing piece remains what we have lamented for six months now (check NDN's Keep People in Their Homes page) – there’s still no new policy to stem the rising foreclosure rates driving the freeze in the capital markets, which in turn propelled the worst global downturn in 75 years. Without that, the stimulus and the new investments will have little lasting effect. So that remains the most important, unfinished business of the President's first 100 days.

Within one week of taking office, President Obama has dispelled any doubts on whether he’s serious about tackling climate change. His stimulus plan will direct greater tax and spending subsidies to climate-friendly technologies and fuels over the next 18 months than the Bush administration did over the last eight years, and the federal government will offer itself as a model by bringing federal facilities up to the “Gold Leeds” energy-efficiency standard. Moreover, his EPA will let states that as yet are politically more climate-sensitive than Washington, including California and a dozen others, set more stringent CO2 emissions standards than the federal versions. And other climate-friendly laws and regulations are on their way, including higher federal fuel-efficiency standards for automobiles and trucks.

Sound as these steps generally are, they leave undone the hard work that climate scientists agree must be done – namely, to put in place a policy to embed the cost of carbon in the price of everything our businesses and households use, especially that electrical power which mostly still depends on the most carbon-intensive fuel we have, coal. And there’s a good reason why President Obama isn’t starting with this step, even though it’s the most important one: Making people pay more for carbon-intensive energy and the products and services produced with it means that, well, people have to pay more – and people don’t like that, especially in very hard economic times. And the inconvenient truth is, those are only the beginning of the costs to contain climate change, since retrofitting our factories, offices, homes and our power systems for less carbon-intensive and energy-intensive technologies and materials will cost everyone, well, a lot more than the stimulus package. To his credit, President Obama corrected one of his rivals for the nomination who tried to claim that we could beat climate change at little cost. And there is some other good news here: The costs to redo our lives around more climate-friendly fuels and technologies can be spread over two generations – and paying those costs will save much of planet for our grandchildren.

The current hard economic times hopefully will focus more of the climate change debate on how to contain those costs, both the direct costs to people and businesses and the indirect ones through the larger effects of these policies on the economy. And if we don’t figure that out, any systemic reform that doesn’t contain those costs may not survive long enough to make a difference. Here is where a real divide opens between the two main options for embedding the price of carbon, a cap-and-trade system and carbon-based taxes. On the direct costs, a tax-based system has the advantage: You can tax energy based on its carbon content, and then turn around and return the revenues to everybody through payroll tax cuts or simple disbursement to every household. Cap and trade could do something of the same thing by auctioning off its permits to generate greenhouse gases and then using those proceeds for tax cuts. But so far, every cap-and-trade plan either gives away its permits (businesses wouldn’t have it any other way) or uses the auction revenues to pay for other climate-friendly initiatives. In either case, cap-and-trade leaves everyone’s incomes lower, a pretty nasty outcome for most of us.

Another inconvenient truth here is that carbon-based taxes also have the advantage on indirect costs. The great asset of cap and trade is that it applies an actual cap to CO2 emissions. But whenever demand for the energy that produces those emissions is greater than had been expected when the cap was set – for example, because the summer is hotter than expected, the winter is colder, or the economy grows faster than anticipated – demand will hit the cap, and prices will spike for both the permits and the energy that underlies them. Adding a new layer of national price volatility in energy prices, on top of what we already have to bear from international forces, would be another nasty outcome.

Carbon-based taxes have their own problems. They don’t involve a set, annual cap on greenhouse gases, so keeping us on a safe emissions path would probably entail adjusting the level of the tax on a pretty regular basis. And the prospect of enacting a large, new tax and then choosing what offsetting taxes to cut could itself easily turn into a nasty piece of political business. It’s no wonder that President Obama isn’t eager to referee this fight. Of course, the public’s faith that of all of our national leaders, he alone is best equipped to drive and guide our responses to daunting challenges is also the main reason he’s the president today.

Ulan Bator, Mongolia -- I'd rather be spending this week in Washington, celebrating with friends and my country the politically and spiritually invigorating elevation of Barack Obama to our presidency. These feelings lie very close to the heart of patriotism, and they are an exquisite pleasure to feel again without reserve.

Instead, I find myself in one of the coldest places on earth, Mongolia's capital city of Ulan Bator, giving advice on the process of economic and social modernization. On the way, I stopped off in Beijing, where the extravagant new bones of that ancient city, from the Olympic Village to the new Ritz Carlton on Financial Street (no joke), have the signature taint of the very recent time when money was no object, prosperity seemed unending, and architectural glitz was the national emblem of conspicuous consumption. Here in Mongolia, a country perched atop huge mineral deposits, people are adjusting with difficulty to the end of ballooning commodity prices and an accompanying overconfidence that led to tax and regulatory changes for extracting as much as imaginable from the foreign mining companies developing the resources. Now that those prices have sunk, those changes could force the companies to pull up stakes from Mongolia and head for Africa's mineral deposits. So the global crisis leaves Mongolia wrestling with how to give up its most recent hopes for itself and settle for a slower route to modernization that will cost a lot more.

On this wondrous day of the inauguration of a serious, intelligent and deep-valued person -- all things relatively new for us and for the world to be looking to us again -- the question is how rude our own awakening will be. Like the Mongolians with their mineral deposits, President Obama has enormous resources. And much as the Mongolians could squander their assets by holding fast to a narrow-minded view that doesn't take into account new conditions, we could squander our own historic moment of extraordinary unity of purpose and faith in our new leader's capacities.

To avoid this trap, we all have to recognize not only the real nature of our deep and dangerous economic and geopolitical problems, but also the pitfalls in our own system that could divert our new leadership from the tasks history will ultimately remember them for.

President Obama's signature governing act in his first year will almost certainly be the paths he charts for the $350 billion bailout fund and the trillion dollar stimulus. The pitfall for both is politics-as-usual, while the path to meaningful, productive change will rest on transparency, accountability, and innovation. The change we need here is an end to giving the most well-connected financial institutions and interest groups whatever they ask for. The change we need for both the bailout and the stimulus are openness about who gets what and under what conditions; accountability that requires those who receive bounties from the taxpayers to actually use them for those taxpayers' benefit, by extending more credit and advancing a 21st century economy and society; and innovations that can address the underlying forces driving our problems, especially the rising foreclosure rates for the financial crisis and the stagnation of incomes that laid part of the foundation for the current Great Recession.

The other pitfall for our new president and the rest of us to begin to think about is the hangover that will hit us from the extraordinary steps we're being forced to take now. Several years of deficits topping $1 trillion, on top of what looks to be a doubling of our monetary base over just six to eight months, could ultimately produce the greatest underground, domestic inflationary pressures in more than a half-century. Moreover, they are likely to come to the surface a few years from now, just as our boomers' demands on government spending begin to add up exponentially. This could create an acute financing crisis for American government, on top of rising inflation, and the second economic crisis of the Obama presidency. Recalling John Kennedy, what we can do for our country is to be prepared to support serious entitlement reforms that will mean less for all of us and even, yes, new taxes on top of it.

But today, wherever we are, let's celebrate our own good judgment and good fortune in Barack Obama.

President-elect Obama says he’ll consider any good idea to address our accelerating economic decline and help stabilize the financial system. In fact, there’s a huge, untapped resource to help do both sitting on the balance sheets of America’s multinational companies: their foreign subsidiaries are holding about $1 trillion in past earnings, because our tax laws defer the U.S. corporate tax until the parent companies bring those earnings back to the United States. If we can get them to do just that, it could finance new jobs and new capital investment, and provide additional liquidity to our strapped financial system. It’s the closest thing to “found money” that Congress and the new Administration will ever find in the current crisis.

And we can make it happen by temporarily cutting the tax rate on earnings brought back here. In fact, we did it once before: in 2004, Congress cut the corporate tax on such “repatriated” earnings for one year from 35 percent to 5.25 percent. Along with a colleague, Aparna Mathur, I’ve looked at new IRS data to see how well the temporary tax cut worked. It increased inflows of foreign-source earnings by some $312 billion, including $252 billion by U.S. manufacturing companies. The 2004 law also told companies how they could use the new funds they brought back; surveys found that that they used $73 billion of those earnings to create or retain jobs, $75 billion for new capital spending, and $39 billion to pay down domestic debt. Without the tax break, companies keep their foreign-source earnings abroad indefinitely, or at least until they can be used to offset domestic losses for tax purposes. That made the 2004 law a free lunch: it produced $34 billion in new federal revenues, including $16 billion in direct corporate tax revenues and $18 billion in personal tax revenues on income the additional jobs and higher wages supported by new funds.

We also have run the numbers to estimate what would happen if the Obama Administration tried this again. We found that it would bring back $420 billion in foreign-source income now held abroad, with $340 billion of that coming into U.S. manufacturing companies. If Congress once again limits how the money can be used, it could mean $97 billion for employment, enough to create or save 2.6 million jobs over two years. It could mean $101 billion for new capital spending, enough to increase the capital stock of U.S. manufacturers by two percent and produce long-term wage gains of 1.3 percent. It also could produce or free up $52 billion for companies to reduce their domestic debt, the equivalent of 21 percent of the bank equity infusions provided by the Treasury TARP program in 2008. Finally, the free lunch: the repatriated funds would produce nearly $45 billion in new federal revenues, split between the corporate taxes on the funds themselves and personal taxes on the additional wage income coming from the job retention or creation and the wage increases linked to the new capital spending.

The economy is so depressed now that this policy may not work out precisely the way it did in 2004-2005. This terrible recession shouldn’t affect how much foreign earnings come back under this policy, but it could mean that less of those funds will be used for new capital spending or jobs, at least for another year, and more will go to paying down domestic debt. Even so, the stimulus effects would be substantial, and it would actually reduce the deficit a little – and that should make it a genuine priority for the new Administration.

Barack Obama's historic election as a new, national agent of change will face a daunting test as the economic crisis continues to accelerate, and the political pressures arising from what must now be called “The Great Recession” begin to reshape the response.

The latest evidence is today’s unemployment data: one million jobs lost in two months; the sharpest eight-month rise in the jobless rate since 1945, when tens of millions of soldiers and sailors were demobilized; and losses across every sector and every region. Jobs are in freefall along with the markets, investment, consumer spending and household wealth. And economists are now genuinely frightened by the course the Great Recession is taking, because there’s been nothing like it in anyone’s experience.

That’s why long-time advocates of fiscal probity now call for stimulus topping $1 trillion, and why every spending and tax idea floating around Congress for the last decade is back on the table again. The political pressures and real concerns are so overwhelming that there’s talk of large tax cuts, despite the consensus among economists that when people and businesses are as economically downcast as they are today, tax relief has little stimulus power. That’s not only politics at work; it also reflects a sense of grave foreboding among many of those same economists.

We do need unprecedented stimulus – but all of the stimulus in the world won’t change the course of this crisis until we also address its underlying forces. The wealth of American households and the portfolios of American financial institutions will continue to tank until the housing market stabilizes -- or at least until foreclosure rates return to normal. And the most aggressive, easy policy in our history won’t be enough, and financial institutions won’t begin normal lending again, until they’re more confident that the hundreds of billions of dollars in mortgage-backed securities and other derivatives they still own aren’t headed for the drain as well.

The new Administration can take on these challenges directly, as candidate Obama pledged to do with extraordinary foresight. For example, we can impose a 90-day moratorium on foreclosures and use the time to renegotiate the terms of tens of thousands of distressed mortgages held by Fannie Mae and Freddie Mac. One idea promoted by many economists is to convert those mortgages to 30-year fixed at 5.25 percent, which happens to be long-term mean rate for Fannie and Freddie mortgages. It won’t stop foreclosures, but it should bring down foreclosure rates to near-normal levels, which would do more to stabilize the financial system than the bailouts in the Bush Administration’s own Wall Street version of tsunami stimulus. And some tough love from the new Treasury Secretary could help restart the lending process: having done what we can to stabilize the value of their portfolios, we should consider requiring institutions receiving federal aid to use a real share of that assistance to restart their lending.

We need large-scale stimulus, but it will only work if we first address the underlying problems. Otherwise, 18 months from now, we could be $1 trillion poorer and have little to show for it.

The Bush administration, long known for faith-based initiatives, has embraced a new form of faith-based economics to address the financial crisis and cascading recession: We’ll call it an economic version of Christian Science, prescribing modest steps to make the patient comfortable while largely leaving us to heal ourselves.

It’s only an analogy, but play along. A succession of debilitating infections has left the American economy in critical condition. The specialists (the Treasury and Fed) have prescribed the application of salves (the bailouts) wherever the infections break through the skin (financial institutions facing bankruptcy), while the actual infections (rising home foreclosures, lax or absent regulation, and the credit freeze) are left to heal themselves. As the patient deteriorates, the family (Congress and the White House) faithfully hang on every word from the specialists; and like everything in modern medicine, the price tag is astronomical. Months into this regimen, the treatments have done little to control the infections, and the patient’s condition is critical.

The current regimen also leaves the economy vulnerable to new shocks to its system, and they’re almost certainly coming. Lucky for everybody, this patient can’t pass away – but the economy could require life support for another year and come out of this with long-term disabilities. This week’s shock came from Bernard Madoff and his accomplices. In normal times, the banks and other institutions that gave Madoff tens of billions of dollars to invest would write down the losses with modest effects on their other activities. Or, if the bailout regimen had included serious measures to stem the housing foreclosures still eroding the value of mortgage-backed securities, the institutions could better absorb the new Madoff losses. But more than half-year into this crisis, the Drs. Bush, Paulson, and Bernanke have still left hundreds of large banks and funds exposed to additional rounds of mortgage-backed-security losses, and thus all the more vulnerable to unexpected losses from sources like Madoff’s schemes. It’s not too late for Congress to address the underlying infection here, with a 90-day moratorium on foreclosures, and a commitment by Fannie Mae, Freddie Mac and the institutions collecting taxpayer bailout money to renegotiate the terms of the distressed mortgages they hold.

The Great Recession we’re all living through will inflict additional, damaging shocks on the economy. For example, the budget deficit is growing at a record pace, fueled by the accelerating decline and stimulus packages that include virtually every idea any member of Congress has considered over the last decade. The new catch is that as the effects of the economic decline spread to the countries which finance most of our deficits, especially China and Japan, the global pool of savings is contracting. On top of that, the recession has taken hold in much of Europe, driving up their deficits. The inevitable result will be intense competition next year for a shrinking global savings pool, which in turn will put upward pressure on our interest rates in the midst of deep recession. And that will further slow the resumption of normal lending – because, once again, the bailout regimen simply applied a salve of taxpayer infusions for financial institutions without addressing their dogged resistance to using those funds to resume normal lending.

The good news in all of this is that the nations that regularly make trouble for the U.S. – Russia, Iran, and Venezuela – all find themselves in terrible straits. The global recession has driven down their oil revenues (and the value of their government bonds) faster than an American 401K. Unfortunately, as Harvard’s Ricardo Hausmann points out, the global crisis also is cutting off foreign capital flows to most developing nations, including stable and friendly places such as Mexico, South Africa, Turkey, Brazil, and Malaysia. President Obama may well find Vladimir Putin and Hugo Chavez much weakened adversaries. But he and Secretary of State Clinton could well also face new problems triggered by economic upheavals in many parts of the developing world. The silver lining for us is that much of the capital that would have gone to developing countries will flow here instead, hopefully moderating the upward pressures on interest rates. In order to take advantage of it, however, Congress will have to go beyond the administration’s salves and attach explicit lending requirements to the next round of bailout funds.

The current regimen of Christian Science economics is working no better in this financial crisis than the medical version would work in a deadly epidemic. The American economy will not get well on its own. Fortunately, however, the architects of this approach will retire in a month, and the country then can turn to more able doctors.

On virtually everything economic, the Bush Administration and much of Congress have become the gang that can't shoot straight -- and their stray bullets could take down a good piece of the nation's economic prospects. They have directed hundreds of billions of taxpayer dollars to financial institutions (and soon, auto companies), and they're getting ready to direct several hundred billion more at the overall economy. In all of these instances, a political drive to display the will and capacity for large actions has overwhelmed deliberate thinking about the specific consequences of those actions. The Obama presidency and the country may pay a big price for this scattershot approach.

The latest example of this dangerous development is the ever-expanding size of the long-awaited next stimulus. We're in a deep and serious recession and a major stimulus was certainly needed -- mainly six months ago, when the Bush Administration and Congress provided tax rebates which were largely saved and had little stimulative effect. Now we know how bad the downturn is turning out to be, and Congress and the Administration-in-waiting is preparing another stimulus of a size commensurate with what's already unfolding, once again, as if this were six or eight months ago. A stimulus providing another $200 billion to $300 billion in new federal spending makes sense, mainly as insurance for another shock to the economy. But a $500 billion to $750 billion package like the one now under discussion will miss its target by many months and mainly indicates that the new rule is that anything goes when you win and damn the consequences.

Congress seems intent on responding to this recession as if everything known about how the business cycle works can be ignored, and the consequences could be serious. The Obama team is focused on long-term investments in 21^st century energy and transportation infrastructure, modernizing health care records, expanding training and education, and extending broadband and IT access for poor children. That's all good news for the long-term health of the economy and for the incomes of many households.  The catch is, long-term investments entail not a one-time boost in spending, but continued funding. So when we raise the ante on those investments from $100 billion or so to $300 billion, $400 billion or $500 billion, we're implicitly choosing either to foreswear any other commitments, such as health care, or to embrace another round of dangerously large, structural deficits.

Since the new politics seems to involve never saying no, the likely result of the current course, on top of the extraordinary infusions of credit by the Federal Reserve, is serious inflation once the downturn begins to resolve itself. This pattern is disturbingly similar to the short-sighted and cavalier approach to long-term risks that got the nation into this mess. And it continues to develop alongside the Treasury and Congress' continuing inability to address the rising foreclosures still driving the financial crisis and the credit freeze accelerating the downturn. Yet real responses are within reach: place a moratorium on foreclosures while Fannie Mae and Freddie Mac renegotiate the terms of millions of troubled mortgages and link financial bailout funds to a commitment to use them to extend credit to businesses. If we do that, the economy won't need so much fiscal or monetary stimulus. 

The current approach presents other serious risks. This pattern of fast-rising spending, on top of the bailouts already done and those to come, as well as more tax cuts, could push the U.S. deficit to levels that even the United States will have trouble financing. The Asian and Middle Eastern governments that provide much of our public financing could stop -- either because they'll see inflation coming, too, or because the global downturn and falling oil prices sharply reduce their savings and thus, their ability to lend them to us. The U.S. Treasury will always find the funds it needs, but it may have to pay a lot more to borrow them, which means higher interest rates. So the current approach risks an interest rate spike on top of everything else, which at best would lead to a substandard recovery. With all of its talent and broad public support, the Obama presidency should be able to do a lot better than that.

The financial crisis and the profound economic reversals reverberating around the globe caught up last week with Citigroup, the world's largest financial institution. Citigroup is still solvent, but it holds several hundred billion dollars of heavily-leveraged, troubled assets – and once the market began to focus on the potential losses, as it did last week, the bailout became a foregone conclusion. But the terms of that bailout -- on top of the deals for AIG, taxpayer infusions for solvent institutions such as Wells Fargo and State Street, and new Federal Reserve loans for any financial firm holding a wide range of assets -- are beginning to look like an American version of crony capitalism. The critical distinction lost or forgotten in much of Treasury and Fed’s dealings is that the government’s proper role in rescuing or bolstering private companies during a crisis is to help them only under specific terms that directly benefit the taxpayers footing the bill.

Crony capitalism is usually associated with the way many governments in Africa, Asia and Latin America conduct public business, where government contracts, budgets and other public activities are routinely channeled to the families, friends and associates of political elites, rather than being allocated through some open bidding or other democratic processes. Variants of crony capitalism occur in the United States, too. In one infamous example, Halliburton “won” billions of dollars in no-bid contracts for Iraq while its former CEO was Vice President; and crony capitalism lurks behind billions in pork barrel appropriations passed every year by Congress. But when it begins to infect huge government operations taken to deal with an emergency, it has more serious and insidious effects. Japan famously practiced crony capitalism in its multi-trillion-yen “rescue” operations for its failing banking system in the 1990s, and bought itself a decade of stagnation and at least another decade as the worst-performing advanced economy in the world.

The terms of the Citigroup deal raise the specter of crony capitalism. The taxpayers will invest $20 billion in the company, receiving preferred stock that will pay 8 percent dividends, and Citigroup will bear the first $29 billion in losses from its current portfolio of $306 billion in troubled loans and assets. After that, the taxpayers absorb 90 percent of any additional losses in exchange for another $7 billion in preferred stock. The likelihood that Citigroup’s losses will far exceed the first $29 billion is disturbingly high. The financial crisis almost certainly will deliver additional shocks, because the current policies have done little to address the forces driving the crisis. The housing market continues to unravel; and with business investment, consumption and jobs all contracting rapidly, foreclosures continue to rise. As they do, more mortgage-backed securities and the derivatives based on them will go bad, and the consequent losses could claim much of the capital infusions that taxpayers have already provided. As the IMF and others have warned, large additional losses also could come from other sources. Most notably, the spreading global recession, on top of national banking crises in other countries, are producing enormous pressures on government financing operations in a number of nations, including some in the Eurozone, which in turn may produce sovereign debt defaults. And most of the sovereign debt that could well default in coming months is held today by financial institutions, especially ours.

While the administration’s program barely acknowledges the implications of these dangerous dynamics in its bailout policies, President-elect Obama has at least pledged to address the underlying foreclosure problem and provide very large stimulus that could begin to ease the U.S. downturn and, with it, the global recession. The larger question is whether the new administration will also reject creeping crony capitalism by requiring that the bailouts almost certain to come next year oblige the financial institutions claiming all that cash to conduct themselves in ways that directly benefit the taxpayers picking up their bills.

Remarkably, the current administration has imposed no such requirements while doling out hundreds of billions of dollars to insulate our large financial firms from the worst consequences of their own decisions. In fact, even last week, as the Treasury was bailing out Citigroup, the Federal Reserve announced another $200 billion program for financial companies holding securities backed by consumer debt, now threatened by the recession triggered by the financial meltdown. Here’s a notion for the next administration: Since the essential reason to bail out all of these various institutions is to unfreeze the routine lending that keeps the U.S. economy going, tie future bailouts to specific commitments to reboot lending American businesses and households. This is precisely what Sweden did in the early 1990s when its financial sector melted down, and the strategy of tying capital assistance to renewed lending helped produce a genuine recovery.

Crony capitalization may be the signature moral hazard of an administration which continues to believe that, even when taxpayers provide hundreds of billions of dollars to bail out powerful institutions, the government should have as little say as possible in the way they conduct themselves. It shouldn’t be good enough for an Obama presidency. When the next shocks hit our financial system and those institutions come back for more, the new administration should opt for democratic capitalism over crony capitalism, and apply lending requirements to actively open up the nation’s credit markets.

In a remarkable spectacle, an Administration with a sustained record of economic blunders and failures finds itself aghast at the mistakes and mismanagement of U.S. automobile companies. Imagine Confederate General John Pemberton, after leading his forces to an historic defeat at Vicksburg, dismissing his cook for squandering the rum rations.

Yes, America's big three automobile makers (with an assist from the auto workers' union) have been so consistently unimaginative, self-regarding and inept that they've brought themselves to the brink of bankruptcy. Now they find themselves pleading for a bailout which, under normal circumstances, most sane policy makers would dismiss out of hand. But circumstances today are as far from normal as most Americans have ever experienced, and the request requires a serious second look.

The automakers had been in deep trouble for some time; but until the economic crisis hit, their condition was far from terminal. The Bush Administration's inept strategies and incompetent management of the crisis then dealt a weak industry new, serious body blows. First, the sudden upheavals across the financial system, along with the Administration's inability to explain how it happened or how they intended to protect the rest of us from the fallout, bred such extreme caution and even panic among consumers, that most demand for Detroit's products dried up. Moreover, much of the shrinking cohort of Americans still prepared to purchase a new U.S.-made car can't find financing for it. That's because two decades of deep federal distrust of regulating most financial institutions allowed them to speculate so recklessly with borrowed funds, that now, even with the bailout, their balance sheets are so precarious that they won't provide a new loan to anybody who couldn't pay for a new car without one. Finally, the crisis turned off the lines of credit and other routine financing that auto manufacturers need to operate. All three blows are consequences of the remarkable failures by the White House, the Treasury and the Federal Reserve to comprehend the dangers of the sub-prime mortgage market as it began to unravel and address effectively those dangers as the crisis snowballed.

So, the American auto industry now faces a kind of life-or-near-death moment, and if the President and Congress turn their backs, the results could drive down the economy much further. That's the only reason to countenance a bailout for an old industry that doggedly resists modernizing itself -- but under the current circumstances, it's a compelling one.

American businesses and consumers remain dangerously vulnerable to yet another economically-bloody shock which could further shift expectations downward, which in turn could produce a Depression-like state of mind and what economists call a "sub-optimal equilibrium." That's a very unpleasant condition in which markets produce much less wealth, jobs and incomes than they could, because consumers, businesses and banks no longer believe that the conditions to support better times can be sustained.

Since the Bush Administration is at least partly responsible for what now faces the auto industry -- and now faces the rest of us, too - they should put their weight behind new help for automakers and auto workers. But the bailout shouldn't be a handout. The industry needs both a shake-up and a technological shift, and strings tied to the federal assistance can help make both happen. The first part of the shake-up is simple: the current executive teams are out, and everybody takes real pay cuts -- including some workers who at GM reportedly earn an average of $71 per hour (including benefits), compared to Toyota's U.S. workers at $49 per hour. The aid also should be tied to a greater commitment to develop and produce new engines and cars with extremely high mileage per gallon and a small carbon footprint, because that's the market being created by high energy prices and climate change. And to provide additional motivation, the government can conduct the kind of competition the Pentagon carries out routinely, in which the first automaker to produce a 75- or 100-mile-per-gallon, low-carbon automobile wins a 10-year contract to supply the federal government fleet. And the taxpayers providing the aid should not only get an equity share in return for their investments, but public-representative seats on their boards, to keep watch and keep tabs. Finally, the government should commit itself to cajoling or coercing the Big Three's lenders to enter into debt-equity swaps with the auto companies, and so improve their balance sheets enough to attract new private investors (and so avoid a second bailout).

Rescuing the auto companies is, of course, a slippery slope, but the alternative may be to skip past the slope and head directly for the cliff. As it is, it still may not be enough. Home foreclosures continue to rise, and the additional losses to mortgage-backed securities and their derivatives may soon absorb much of the current Wall Street bailout. Further, the global recession has pushed a number of emerging-market and transition economies perilously close to sovereign debt defaults, which would deal another serious blow to the financial institutions that today hold the debt of those countries. At a minimum, neither the economy nor the auto industry will tread water while Americans wait for the new President and new Congress to take office. That's why, this time, the extraordinary conditions to justify bailing out a failing industry are present. And if a Republican President and his party in Congress keep their ideological blinders on and ignore those conditions, Detroit's demise could take the GOP with it for a long time.

While nearly everyone recognizes that the current financial crisis is the worst since the Great Depression, the economic challenges and the changes in the political landscape hearken back more to 1980 than to 1932. The distinction matters, because a misplaced metaphor or inapt historical analogy that takes hold of the political imagination can produce serious missteps.

In 1932 and 1980 -- and again less than two weeks ago -- the country strongly rejected an incumbent presidential party, with the White House and substantial majorities in both houses shifting, respectively, to Democrats, then the Republicans, and now the Democrats again. In retrospect, it’s clear that the political realignment of 1980 and the years following was not the political upheaval of 1932 and the decades which followed it. 1932 began a revolution in the federal government’s role in economic and national life that persists today, while 1980 jumpstarted a continuing shift in political preferences from center left to mainstream right, with policy evolving within a familiar framework.

If our times were truly most like the turmoil of the early 1930s, the basic character of government, the basic path for the economy, and the country’s role in the world would all be at stake. Times like that require deep and fundamental changes in both policy and politics, with a realigned electorate eager to back seismic shifts. And that’s what we hear from some members of Congress, urging President-elect Obama to make deep and fundamental changes in the economy, the health care system, the way we use energy, and the Middle East--and do as much of it as possible as soon as he takes office. If this were 1932, we would need such basic changes to head off profound social divisions and political upheaval – and a president like Franklin D. Roosevelt who could recognize that need and take it on.

1980 provides a different model which seems much closer to the country’s present predicament. There’s no popular demand to change the government’s essential role in national life and the nation’s basic role in the world. Instead, much as in 1980, the public demands major improvements in the quality of the President’s economic performance and the success of his foreign policies. Yes, the economic crisis almost certainly will be the most damaging since the 1930s. But still there’s a profound difference between unemployment rates of 7 percent or even 10 percent, and the 25 percent jobless rates of the 1930s. One reason is that today we understand much of the sources of our economic failures–which we didn’t in 1932—and so we can reasonably expect to be able to address them without fundamentally changing the government’s role in our lives. Similarly, we know that we face profound problems with our health care system, especially with the financing to ensure its universality and sustain its quality. If this time were a political and economic reprise of the 1930s, the health care debate would revolve around a government-run, single-payer system with comprehensive price and wage controls. Instead, President-elect Obama –and every other serious presidential candidate this year--could and did promise to address these problems in a serious way without fundamentally changing the government’s role there, too.

If our economic and political conditions recall 1980 and not 1932, what’s the best course for the new administration? The President-elect should be able to draw on an extraordinary level of public and congressional support for some time; and he has said, so many times and in so many ways, that his presidency will tackle the country’s problems from inside the policy discussions the two parties have carried on for the last decade. If that’s the path, the new President’s best strategy is to press for change step-by-step, rather than try to drive a wave of sweeping congressional actions in the storied, first 100 days. For one thing, when a president fails at sweeping initiatives, his political support for another go at it usually disappears. Anyway, step-by-step change doesn’t mean marginal or modest changes. Rather, it can describe a political process where the President’s initial round of reforms in, say, health care, regulation, energy and tax policies over the first year are followed by a second round of reforms the following year. And if the nation is lucky, there can even be a third and fourth round after that. This is the time for an Obama administration and Congress to finally fix the systems we have--and not, as it was for FDR, the moment to invent wholly new ones.