When President Obama Buys Wall Street

What happens when Uncle Sam gets into the investment banking business.

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Barack Obama has a lot of things he wants to do if elected president: quasi-nationalize healthcare, institute a cap-and-trade climate change plan, invest hundreds of billions in energy and infrastructure and education. What he does not want to do, I would imagine, is deal with an ongoing credit crisis on Wall Street. An adviser to the campaign told me that Obama has "contingency plans" to deal with the problem if it does not seem to be improving in 2009. (Already, he seems to be backing off his tax increases.)

Surely, one of those options may well be for the government to either take bad debt off the hands of the banks or take equity stakes in troubled financial institutions, or both. Former Treasury Secretary Larry Summer has written recently that "consideration should be given to whether the government should establish a mechanism for purchasing assets from stressed banks in return for warrants or other consideration. " And commenting on what Summers wrote, economist and blogger Brad Setser writes: "After the U.S. election, I suspect the debate will shift toward the need for such a systemic solution. If this kind of intervention proves necessary, it would need to be accompanied by a rather wholesale change to the United States' system of financial regulation."

Don't think plenty of folks on Wall Street aren't thinking about such a scenario, even if Hank Paulson and President Bush want no part of it. This from Global Insight (bold is mine):

The downward pressure on asset prices that is likely to flow from the bankruptcy also puts other major financial institutions at risk—and we need not name names here. Suffice to say that further bankruptcies of major financial institutions would be a process that the economy cannot support at this particularly fragile juncture of the business cycle, and we would be looking at further severe deflationary pressure if indeed this does happen. Under this destabilizing scenario , Congress would come under incredible pressure to craft another fiscal stimulus plan, and on top of this , there is a strong likelihood it would have to step in and capitalize a major government financial entity that would purchase distressed financial system assets along the lines of the Resolution Trust Corporation— both outcomes of course at massive taxpayers' expense.

Of course, more government intervention would entail a hard look by investors at Uncle Sam's finances and whether it can afford more bailouts and more "investment" spending and $60 trillion in entitlement debt. Rather than the beginning of a return to big government, the banking crisis might be marking the end of it.