"Ben Bernanke should publicly bet $1 trillion dollars that the US economy will recover quickly from deflation and recession."

Nick Rowe likes a good wager. Say, a Trillion Dollars:

"Central Banks should bet on recovery - literally

Ben Bernanke should publicly bet $1 trillion dollars that the US economy will recover quickly from deflation and recession. He should make that bet on the Fed's behalf. The Treasury should publicly disavow all responsibility for bailing out the Fed if Bernanke loses the bet. If he loses the bet, it would be paid for by printing money.

This is how people would react to the bet.

If they expect deflation and recession to continue, so they expect Bernanke to lose the bet, they will expect the Fed to print an extra $1 trillion, which would be highly inflationary.....which is a contradiction.

If they expect the economy to recover quickly, so they expect Bernanke to win the bet, they expect the Fed will not print an extra $1 trillion, so they will not expect hyperinflation, just a normal recovery, which confirms their expectation.

By making such a bet, and making it publicly, the Fed creates the very expectations it wants to create: that deflation and recession will not continue, and that the economy will recover, and return to the normal rate of inflation.

We need to refine the bet a little. It shouldn't be an all-or-nothing bet. It needs to vary continuously with the speed and extent of the recovery, so that the quicker GPD and inflation and financial markets recover, the less money the Fed will have to pay on Bernanke's bet. This creates a benign negative-feedback loop, helping people's expectations, and the economy, self-equilibrate.

The bet introduces considerable uncertainty into future money creation. But we are equally uncertain about how much money the Fed will need to create to promote recovery. The bet makes those two things, each uncertain, correlated with each other. That's good, just as the uncertain payoff of my home insurance policy is good, since it is correlated with the uncertain damage that fire will do to my home.

One way to implement such a bet would be for the Fed to buy a large amount of risky assets, where those assets would have a very high value if the economy recovers quickly, and a very low value if the economy did not recover.

Oh, wait....."

So Nick likes TARP in its original form, I assume. First, I believe that the prices on these toxic assets will rise if the government intervenes, just as they fell when the government didn't. It is true that John Paulson and a few other hedge fund managers are buying the Toxic Assets now, as I've posted, and that's my second concern. These savvy investors will snatch up a lot of the best deals as the market because more liquid, or priced and available. There is also the conflict of interest problem, as to who will purchase these assets for the US Government. William Gross has said he'll do it for free, but then there's the problem that PIMCO will be involved in the process. Finally, there is the problem of the quality of these assets. I don't know that anyone has a real grip on their quality. Nick's solution seems to answer that, but I still would rather that we left them to private investors. I believe that the market is getting easier to buy into because sellers are no longer convinced that the government will intervene, and so they are no longer holding out as much. They're starting to fear that they've held these Toxic Assets too long.

Here's my solution: Have Paulson and Gross surreptitiously buy these assets for the government. Of course, that plan would go nowhere. I can't say that I totally discount the proposal.