Why did the bailout plan fail? Because it wasn't a good plan. It also stood to benefit Wall Street at the expense of the taxpayer, which was understandably a non-starter for much of the country.

Fortunately, there is another option that 1) will be more effective, and 2) won't piss off the 295+ million Americans who don't work in the financial services industry.

Hank Paulson and Ben Bernanke: Please confirm that you have reviewed this option. If you're not going to pursue it, please explain why not, so we won't be forced to include that you really do care a lot more about Wall Street than the rest of the country.

As we and others have explained, the only way the previous bailout plan would have worked is if the Treasury intentionally paid more for banks' trash assets than they were worth. This would have allowed the Treasury to secretly re-capitalize the banks (by replacing the garbage with a greater amount of cash, thus strengthening the bank's capital ratio). If you want a very simple, clear explanation of this--and why the Paulson/Bernanke plan was flawed--please read this excellent essay by fund manager John Hussman.

And now for the better plan. Again, John Hussman:

A better approach would be for the government to provide capital directly, in the form of a “super-bond,” in an amount no greater than the debt to bondholders. The “super-bond” would be subordinate to customer liabilities, so it could be counted as capital for the purpose of capital requirements, and would be seen by customers as a legitimate cushion of protection.

However, in the event of bankruptcy, it would have a senior claim in front of both stockholders and even senior bondholders. Do that, and you've actually got a mechanism to protect the financial system while at the same time protecting customers and taxpayers. Ideally, the super-bond accrues a relatively high rate of interest so that financials have an incentive to shift to private financing as soon as possible, but you would also defer the interest until the bank meets a minimal level of profitability to make sure that the financing doesn't strain the institution's liquidity.

To this we would only add: Make the superbond convertible into stock--or include warrants as in the case with AIG--in the event the company survives. This way, the government (and taxpayers) will get paid for their trouble and offset the many cases in which the banks go bankrupt.

Why is this a better plan?

It makes the banks deal with their own problems. If they can't, so be it. Their shareholders and bondholders suffer, but their customers don't.

It is eliminates the need for the government to hire fund managers to manage a portfolio of crap assets.

It doesn't bail out banks, stockholders, or bondholders (none of which deserve a bailout).

It protects the financial system: good banks survive, bad banks don't

It eliminates the massive conflict of the original plan: pay too much for the crap assets, hose the taxpayer; pay too little, hose the banks.

Bondholders are exposed to risk, but not likely wipeout: Thus, the ripple effects that killed the credit markets after the Lehman bankruptcy won't likely happen.

It doesn't involve the absurd suggestion that we abandon mark-to-market accounting (as if denial is a better option).

Hank and Ben, this plan just makes too much sense not to pursue. Now that Congress has given you the ability to go back to the drawing board, can you consider proposing it? If not, can you please explain why on earth not?

See Also:

Latest on the Blocked Bailout: LIVE UPDATES

Treasury: We Haven't Faintest Idea What To Do Now, But We're Going To Do It