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That's a nice overall blueprint for how the markets should work and I agree with much of it. But right now we have a pressing, practical problem.

The largest banks in America are in trouble. Citi and BoA are insolvent. Zombies. There are probably others. AIG also seems to be nothing more than a black hole which is beyond help.

There seem to be three schools of thought as to how we deal with this.

1) Nationalization. The school of which Roubini is a member. In fact, many of our banks including Citi are already effectively nationalized. The arguments against this are that firstly, it will likely lead to a more widespread nationalization. Once one or more banks are nationalized, short selling will completely undermine the rest, their stocks will crater and they will all become moribund. Secondly, the exit strategy. How long will they remain nationalized and who will buy them if and when they are privatized? Anybody?

The pluses to the nationalization argument are that the toxic assets can finally be ripped away, the banks broken down into their working parts, reorganized and given a new lease on life so they can begin working again.

2) Recapitalization. Keep pouring money down the same hole. This seems to be the current strategy. Nobody seems to know how much money will be required nor if it will work and so far, it hasn't. There are several variations on this theme including the "bad bank", buying toxic assets etc. It doesn't involve nationalization, so that's a plus for some but the negatives seem to far outweigh the positives. These banks are too big to fail but also too big to save.

3) Let 'em die. Let the bad banks crater and good banks will emerge to take their place. This sounds fine until one remembers what happened when Lehman went under and the convulsions it caused in the world's financial markets. Citi, AIG and BoA going under simultaneously would dwarf Lehman and would likely deliver a fatal blow to the world economy. Big banks account for about two thirds of our banking system right now.

I posted this thread in the interests of the furtherance of this debate. I'm not a socialist, nor a Roubini shill, nor am I necessarily sold on option #1. There's a real debate going on in government, the media and the finance world about how to do this and we should be able to toss around ideas on FR without calling each other names.

Citi and BoA are insolvent. Zombies. There are probably others. AIG Let them be broken up and sold off. Let investors come along and find value. This is a created crisis. We've yet to be told the truth. By fact, the administration comes up with a new plan all the time. They don't know what they are doing. They are too big to fail because too many important people would lose their wealth. I don't accept the premise that AIG is going to destroy the world if it unwinds. If they hold both sides of the insurance contract it is a wash, just like holding both sides of an option, no? Does anyone have more data on AIGs real positions and reinsurance situation?

Mike Shedlock had a good suggestion - use that second $350 billion from the first bailout to capitalize ten brand new national banks with perfect balance sheets. They would be able to start lending immediately, keeping to no more than 10-1 leverage, and would instantly become the most trustworthy institutions around because they wouldn't be hiding billions in fake level three assets like the others. Then allow B of A and Citi to fail, as they inevitably will, and the new, good banks and smaller existing banks which have remained well-managed can buy up the parts that have actual value.

Major bank shareholders cannot be indemnified by the taxpayers against the consequences of their bad investment decision-making. And yes, that means major pension funds and Obama's union allies are going to take it in the shorts, to a certain extent.