Toxic assets overlaid with toxic bonuses have turned into toxic politics over the last week. The Obama administration, hitherto floating through on a wave of goodwill, is now facing an onslaught. AIG bonuses blew up in the administration's face. An undercurrent of disgust at the behaviour of city financiers has become a vehement rage. Maureen Dowd's column in the New York Times is typical and she asks the cutting question, is the right Obama in the Oval Office?
Obama's Treasury Secretary, Tim Geithner- who grew up a Republican (funny how that's now increasingly mentioned in passing)- comes in for particularly relentless lambast. A brutal attack came from Nobel prize-winning economist Paul Krugman last week. He absolutely abhors the soon-to-be announced bank bail-out plan which basically means using buckets of government money to make a sure-fire bet for institutional investors in those toxic assets which hang around like a stench from a flooded sewer. Krugman despairs that healthy financial institutions get to make a non-recourse bet further feathering their relatively healthy balance sheets while it is the public purse that adopts all the risk. Moral hazard is no longer in the vocabulary of US economics it seems.
At the core of this, one can't help observing, is that Krugman comes from a different tradition of economics- a Keynesian liberalism- that is at odds with the more market orthodoxy instincts of Obama's Chairman of the National Economic Council, Larry Summers, say. One has to assume that Tim Geithner as a Summers protege is similarly inclined.
Krugman believes that a better solution to this is the course pursued by the British government- nationalisation or de facto nationalisation of zombie or collapsing institutions. However, the Obama administration doesn't only have to neatly implement sound economics, it also has to get it through Congress. If it started nationalising banks left, right and centre, it could mean that it becomes mired Congressional gridlock. There is a broader agenda that it is pursuing in relation to national investment as epitomised by its budget which the administration is far from certain of passing through Congress. That will be struggle enough without large scale conflict over its financial rescue package.
Where does that leave the administration? It leaves its Treasury Secretary in a very sticky place and his future is now an open discussion. His role in the AIG bonus scandal is drawing strong criticism and on top of his failure to pay taxes that were due, it places him in a tricky position. Even Jay Leno enquired about Geithner's future when the president was on his show last week. However, the contours of the bank rescue are a mixture of economics- getting liquidity into the system fast- and politics. That is a broader administration issue. As Krugman rightly notes, the administration better hope that this plan works. If it does not then it may have nowhere to go. Then we would be in truly terrifying territory.