Prof. Roubini today calls for “much more radical” action to include a blanket government guarantee of all bank deposits. Plus he wants to separate good from bad banks, and save only the solvent ones. Roubini thinks the government can and should resolve the ongoing financial declines. He wanted the government to inject money and take preferred shares. He wants a New Deal style Home Owners’ Loan Corporation to handle foreclosures and homeowner debts.He thinks the government can and should take the “right” financial measures to resolve the bankruptcies and insolvencies. I don’t. The government is incapable of stopping the deflation in asset prices and the consequent failures of banks and other companies ill-prepared for it. The amounts involved are too large. The end result if it tries to do this, as it is now doing, will be hyperinflation and/or blanket economic controls over prices and capital. The monetary base went up an unbelievable amount just last week.

Two opposing forces are at work: relentless deflation of asset prices and the government’s half-hearted attempts to inflate them back. The government efforts cannot change the attempts of everyone in the economy to avoid the fallout from further failures. If it continues to inflate, that will set in motion further attempts by the public to avoid the fallout from that policy. In turn, the government will resort to even stronger measures. Hence, the path that the government is now on, which is to hold up the institutions that have failed and hold up the creditors of those institutions, is a path to a prolonged depression with elements of inflation during it.

In the end, following the path the government is now on, it will be forced into blanket controls over the entire economy. And this worldwide. The deflation of asset prices will win. A big depression is inevitable. Stocks can fall a very great deal more in such a scenario. And this can all be accompanied by an inflation in all sorts of other prices. A high degree of stagflation is what the government is leading us into. These are my best guesses in what is a complex situation engulfing all of us.

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