The Fed Is Already Transparent, by Anil Kashyap and Frederic Mishkin: Under the banner of increasing Federal Reserve transparency, Congressman Ron Paul has sponsored a bill that would subject the Fed's monetary policies to an audit by the Government Accountability Office (GAO). The bill is a veiled attempt to undermine the Fed's independence. If it passes, it will cripple policy making...

As many of us have been saying for some time now, more stimulus would speed the recovery -- the jobs outlook is particularly worrisome -- but unfortunately, it doesn't appear that more stimulus is politically feasible:

The Case for More Stimulus, Editorial, NY Times: The consensus among economists is that the recession is over, and, technically, the herd is probably right. ... Immense federal stimulus has jolted the economy.

A spokesman for Goldman Sachs (GS) defends their pay practices:

...[A]ccording to a Goldman adviser, Wall Street’s record pay is necessary “to achieve greater prosperity and opportunity for all”:

Fed Chief Cites Trade Imbalances’ Role in Crisis, by Edmund Andrews, NY Times: Ben S. Bernanke, the chairman of the Federal Reserve, said on Monday that global trade imbalances played a central role in the global economic crisis and warned that the both the United States and fast-growing Asian nations needed to do more to prevent them from recurring.

One class of models within the bank lending channel branch relies upon a difference in the availability of credit for large and small firms. If smaller businesses have fewer sources of credit than large firms (who can issue bonds, stocks, commercial paper, etc.), then a credit shock induced by policy or some other factor will have an asymmetric negative effect on the activity of large and small firms. Since smaller firms have trouble getting credit from non-bank sources, a disruption in bank credit can cause them to contract their activities much more than large firms. (If all firms have perfect substitutes for bank credit, e.g. borrowing from foreigners on the same terms, then monetary policy cannot affect real output through the bank lending channel. The point of this research is that some firms do not have close substitutes for bank credit, and therefore monetary policy can have real effects.) According to this, there's some evidence that these effects are operable:

Will stimulating nominal aggregate demand solve our problems?, by Jim Hamilton: ...[I]n 1988 ... I presented a model in which unemployment arises from a drop in the demand for the output of a particular sector. The unemployed workers could consider trying to retrain or relocate, or might instead decide to wait it out in hopes that the demand for their specialized skills will come back. ...[T]he key kind of unemployment that I think this sort of model describes-- waiting for an opening in the particular area in which you've specialized-- is caused by drops in demand...

"Washington Post Crashed-and-Burned-and-Smoking Watch: ...[The Washington Post's] Fred Hiatt Sunday morning:

Monetary Policy, Fiscal Policy, Capital Markets Policy, by Brad DeLong: Paul Krugman is three doors down the hall right now, but I am going to talk to him through the magic of the internet rather than mosying down:

Robert Shiller defends financial innovation:

In defense of financial innovation, by Robert Shiller, Commentary, Financial Times: Many appear to think that the increasing complexity of financial products is the source of the world financial crisis. In response to it, many argue that regulators should actively discourage complexity. ... They do have a point. Unnecessary complexity can be a problem ... if the complexity is used to obfuscate and deceive, or if people do not have good advice on how to use them properly. ...

David Levine "aggressively argues":

our models don't just fail to predict the timing of financial crises - they say that we cannot.

There has been no shortage of effort devoted to predicting earthquakes, yet we still can't see them coming far enough in advance to move people to safety. When a big earthquake hits, it is a surprise. We may be able to look at the data after the fact and see that certain stresses were building, so it looks like we should have known an earthquake was going to occur at any moment, but these sorts of retrospective analyses have not allowed us to predict the next one. The exact timing and location is always a surprise.

Does that mean that science has failed? Should we criticize the models as useless?

For example, we need a plan on the shelf and ready to go for dismantling large banks that have failed, something that has received a lot of attention. It has received much less attention, but I also think we need a plan for disposing troubled financial assets when the need arises. I still believe that the crisis would have been much less severe if very early, prior to Lehman for sure, the government had moved aggressively to buy bad assets from bank balance sheets. it took far too long, and when they finally decided to do this (i.e. the original Paulson plan), they had no idea how to value the assets, there was considerable political resistance because nobody knew how the program would work (allowing lots of false information to enter the debate), and so on, and this program never really got off the ground. The assets are still there waiting for the miracle of rising asset prices to restore their value.

Disclose the fair value of complex securities, by Robert Kaplan, Robert Merton and Scott Richard, Commentary, Financial Times: Banks and other financial institutions are lobbying against fair-value accounting for their asset holdings. They claim many of their assets are not impaired, that they intend to hold them to maturity anyway and that recent transaction prices reflect distressed sales into an illiquid market, not what the assets are actually worth. Legislatures and regulators support these arguments, preferring to conceal depressed asset prices rather than deal with the consequences of insolvent banks.

One question I am asked fairly often is how we will know when the economy turns the corner and we are on our way to a solid recovery. My answer is that we will be able to detect upticks in the data, though this may come with a bit of a lag, the important but harder task will be to understand why the data are showing improvement.

In order to be convinced that the economy is on solid footing and headed to better times, I will want to see several things. First, though not necessarily foremost, that banks are being recapitalized with private sector funds, and that this is happening without the aid of government guarantees or other such programs that encourage capital infusions (which is hard to determine while the government programs are in place). Second, I will want to see private sector non-residential investment improving, another sign that private sector funds are moving back into circulation. Presently, this hasn't even started heading back upward, though there are signs the decline is slowing (click to enlarge):

Mark A. Thoma, an economist at the University of Oregon, says the financial crisis would have been worse if the government hadn’t rapidly intervened.

The question of how bad would economic conditions be right now if there had been no stimulus package and no financial bailout is receiving considerable attention. There's no way to know for sure, but I believe the economy would have been much worse off without these two policy interventions. But without actually running the alternative scenario - something we can't do - there's no way to know for sure.

But one thing I am fairly certain of, and something I don't think is getting enough attention, is the effect that automatic stabilizers have had in helping to ease the impact of the recession for individual households on and for the overall economy.