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Three Steps To Address The Economic Crisis

When Barack Obama is inaugurated, one of the first items on his legislative agenda will be an economic recovery package. By all accounts, the current economic crisis is one of the most complicated in American history, and fixing it will be no simple matter. We asked Benjamin Friedman, the William Joseph Maier of Political Economy at Harvard University, for his suggestions on what to include in the package. Here's his response:

First, I would use the leverage that the Federal Reserve and Treasury are gaining over banks and other lenders to encourage them, where the word "encourage" is a euphemism, to encourage them to begin extending credit. And the reason I say the Federal Reserve and the Treasury is that I'm referring not only to the bank capitalization program, but also to the Troubled Asset Relief Program, and also to the various special lending facilities that the Federal Reserve has set up on its balance sheet. And the idea is that through these various facilities, the government is now putting an enormous amount of funds into lending institutions, and my sense it that this level of support ought to give the government the ability to encourage, where again that's a euphemism, these lenders to begin lending again.

Second, I would go forward with another stimulus program. And I would include four elements in it. One, I would include some tax reduction, comparable to what they did earlier this summer. Two, I would include a program of some public works--transportation systems most obviously, but perhaps some others as well. Three, I would extend unemployment benefits. And fourth, I would have some amount of grants to state and local governments to help keep them from having to cut their expenditures as much as they otherwise would. And my suggestion is $200 billion. I would split that approximately half tax cuts and half the other things I've been describing.

One more step I'd take, which would probably be the most complicated of all, would be to take action to give homeowners that have mortgages that exceed the value of their houses incentives to stay in the house rather than default on the mortgage and abandon the property. And there are many different ideas floating around for how to do that, most of which aren't very simple. Obviously, in the case where a lender made a mortgage loan and retained the loan on their books, there's nothing complicated about that at all--having a renegotiation between a lender and a borrower is the bread and butter of what bankers do all day. But so many of these mortgages were not simply kept on the books of whatever institution originated them. Instead, they were sold and the mortgages were purchased by institutions that were putting them in packages and securitizing the packages, and then the securities were in turn used as collateral for CDOs or something else like that. And that's what makes it complicated. There are lots of plans for doing this, and some have merits and lots have demerits. But it's important to do something along those lines.

 --As told to Eric Zimmermann