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Dept. Of Ludicrous-ness (aka, U.s. Treasury Dept.)

Like Paul Krugman, I'm deeply skeptical of Treasury Secretary Hank Paulson's financial-market regulation plan.

I guess I just don't understand how Paulson's proposal does anything other than make the situation worse. According to the Times description of it:

Under the plan, the Fed would receive some authority over Wall Street firms, but only when an investment bank’s practices threatened the financial system as a whole. The Fed would be able to examine internal bookkeeping of brokerage firms, hedge funds, commodity-trading exchanges and any other institution that might pose a risk to the overall financial system.

Great. So we've now told investment banks and other big-risk-taking institutions we'll bail them out if they're about to melt down, but the feds can't step in until things are so bad they threaten the entire financial system.

Am I missing something, or doesn't that exacerbate the current moral hazard problem? At least under the previous status quo (i.e., the circumstances that prevailed before the Bear Stearns fiasco), these people couldn't 100 percent count on being bailed out, which would have presumably sobered them up a bit. Now even that restraint is gone. And the government gets zero additional regulatory authority in return. (After all, as we learned from Bear Stearns, the Fed already can examine a firm's internal books if they're about to bail it out.) Brilliant.

--Noam Scheiber