Aren’t some of the CDS “policy holders”, (ie, other big banks), carrying some of these polices as assets on their balance sheets?

The straight MBS market loss is in the $6 trillion range as we write. The derivative market overlaying this is much larger, of course, as is the other asset based derivatives.

A “reset” unwinding of original contracts, if practicable, would help simply by “turning back the clock” to a time when the first dominoes fell. But how to do that?

Outside of doing that, there’s no recourse but to take massive writedowns and losses throughout the international financial system. None. The math is clear.

A) a currency adjustment (dollar dropping in value)

B) recognition that some jobs are more valuable than other jobs (due to positive externalities and export opportuniites) regardless of what the market says (through price signals). This is so antithetical to free market doctrine that the entire notion has been written off as leftist propaganda foisted by idiots who just don’t understand “real economics”.

C) recognition that those jobs which had strong price signals (wages) attached to them – notably, finance jobs – either did not materially contribute much to society, and/or benefited from strong price signals due to perverse government policies (like the utter failure to practice sound regulation).

At every turn, I hear economists willing to blame this or that problem, but very few have the courage to stand up and admit that the much of the intellectual basis underlying their discipline has been incomplete for the last 30 years – and that they have been giving society bad advice.

I am an owner of a small manufacturing company, and I have been in manufacturing for 35 years. I can tell you, NAFTA and CAFTA didn’t weaken our manufacturing base, except maybe 2-3% of it. Our manufacturing got shipped first down out of our NE industrial sector down to KY, AL and TN. I remember one company that tried MS, back in around 1980, and they brought it back up north after they found out the MS folks back then had no head for mechanical things. Manufacturers have been trying to find cheaper labor pools since time immemorial. We were already talking with the Chinese back in the early to mid Reagan years, sending over trade missions. Our manufacturers were drooling at the prospect of $1.00/day labor, vs $25/hr labor here. All that preceded NAFTA by a lot. CAFTA is a fly speck, even compared to NAFTA. By the time NAFTA kicked in, Mexico was already losing out to China; Mexico wasn’t cheap enough.

An example of how bad it got: There is (was?) a tech school called the Tool and Die Institute. I don’t remember the numbers I was told, even, but in about 1988 a graduate ff that school told me that 30 years earlier they were graduating 300 tool makers a year, and that the previous year only 6 graduated. There were no jobs for more than that. Those were the cream of the crop of machinists. Jobs gone. Long before NAFTA.

The problem was that there was nobody at the helm to try to stop the bleeding of U.S. jobs by fighting to keep those jobs here. The Reagan-Bush years was all about profits for corporations. Clinton didn’t fight for the jobs, either. And by the time this last Bush got in, most of the jobs were either gone of ready to go.

But you are right, that there is no underlying economy to sustain us going forward. That was the case, all through these years of our glorified “service economy”. It was a bubble with nothing in the middle, just MacDonalds and Walmart on the outside, sucking it all out.

What are we going to do to reestablish a manufacturing base? In my own opinion it will come from small shops making parts for other small companies (companies too small to be buying overseas much). In other words, it will have to be us lifting ourselves up by our own bootstraps. One sale at a time.

…The New Deal rebuilt America physically, providing a foundation (the TVA’s power plants, for example) from which the mobilization of World War II could be launched. But it also saved the country politically and morally, providing jobs, hope, and confidence that in the end democracy was worth preserving. There were many, in the 1930s, who did not think so.

What did not recover, under Roosevelt, was the private banking system. Borrowing and lending — mortgages and home construction — contributed far less to the growth of output in the 1930s and ’40s than they had in the 1920s or would come to do after the war. If they had savings at all, people stayed in Treasuries, and despite huge deficits interest rates for federal debt remained near zero. The liquidity trap wasn’t overcome until the war ended.

It was the war, and only the war, that restored (or, more accurately, created for the first time) the financial wealth of the American middle class. During the 1930s public spending was large, but the incomes earned were spent. And while that spending increased consumption, it did not jumpstart a cycle of investment and growth, because the idle factories left over from the 1920s were quite sufficient to meet the demand for new output. Only after 1940 did total demand outstrip the economy’s capacity to produce civilian private goods—in part because private incomes soared, in part because the government ordered the production of some products, like cars, to halt.

All that extra demand would normally have driven up prices. But the federal government prevented this with price controls. (Disclosure: this writer’s father, John Kenneth Galbraith, ran the controls during the first year of the war.) And so, with nowhere else for their extra dollars to go, the public bought and held government bonds. These provided claims to postwar purchasing power. <b?After the war, the existence of those claims could, and did, establish creditworthiness for millions, making possible the revival of private banking, and on the broadly based, middle-class foundation that so distinguished the 1950s from the 1920s. But the relaunching of private finance took twenty years, and the war besides.

A brief reflection on this history and present circumstances drives a plain conclusion: the full restoration of private credit will take a long time. It will follow, not precede, the restoration of sound private household finances. There is no way the project of resurrecting the economy by stuffing the banks with cash will work. Effective policy can only work the other way around.

If he is correct, 5-10 years sounds about right. There remains one IF:

If Obama has the gumption to LEARN from the GD and not pretend that ours is different. From all I have read in many sources lately are true, and it all appears to be, this crash is very, very similar to that one. And compared to that one, we are only in the middle of 1930.

Wow. What WILL those 5-10 years bring?

On Q2: For what my opinion is worth (not a lot!), I like Bebchuk’s idea of guaranteeing creditors’ liabilities up to a point. It sounds very FDIC to me, and that has worked. The first objection in my mind is that the investors are not just saving for a rainy day, which is what the FDIC guarantees are basically all about. They KNOW they are risking their money! They aren’t just trying to do the mom-and-pop thing; they are trying to do the JP Morgan thing. I would set that guarantee level pretty damned LOW. AS to the repercussions in the marketplace, it would tell everyone, you all need to see that you will have SOME safety net, but just enough to keep you on your toes.

On Q3: This one I will take some credit for seeing the damage: When they let Lehman Bros. go belly up, my first reaction was, “Oh my freaking God!” I got on Der Spiegel and immediately saw the reaction overseas. It was NOT a pretty sight. The reaction was like Götterdämerung – “goddamnation,” as my German brother-in-law tranlates it. I thought it was just the worst thing they could do. PART of that reaction, IMHO, was that it just happened pretty much out of nowhere. The two, Bernanke and Paulson, had bailed Bear out just days before, and letting Lehman go – the world was not prepared for that. I believe that part of the reason people NOW think letting Lehman go was a failure is BECAUSE of the blowback from overseas. I just don’t think B-P even considered the overseas aspects.

Now, letting Citi go at THIS time? They aren’t going to do it, but if they did, it would be much less of a shock. The entire world has had 6 months to get used to this craziness and they’ve all had time to think about Citi maybe not being around. No one had an INKLING that Lehman was going to get thrown under the train.

These initiatives would complement one another, unlike the schizoid policies we have now which run away from one another in every direction.