I am shocked at the behavior of my fellow economists during this crisis. They are claiming to know much more than they do about causes and solutions. Rather than trying to understand and explain what is going on, they are engaged in a fierce battle over narrative.
(UPDATE: Mark Thoma raises issues with the Minneapolis Fed paper cited below. I would dismiss neither the paper nor his critique. I think the question of how badly off the financial markets would have been without intervention is going to be very hard to answer, particularly in a short period of time.
Some commenters below cite instances of startups having trouble with funding. I would expect that, based on the crash in the stock market. If you invest in startups, your exit comes either from going public or being acquired, neither of which looks very likely with stock prices in the toilet. To the extent that there is any venture funding going on at all right now, the assumption must be that in two or there years the market will come back. I hope the market does come back, but efficient markets theory says that the best guess about where it will be three years from now is where it is now, plus a few percent. Venture funding is a whole lot riskier today than it appeared to be a month ago.
Unfortunately, we'll never see the controlled experiment where we go back two months and Paulson and Bernanke say, "Let the chips fall where they may. No bailout." We'll just have a never-ending argument over whether that would have been better or worse.)
[UPDATE 2: The debate on the Minnesota paper continues, with a rejoinder by Alex.]
For example, many economists breathlessly cited high short-term interest rates in interbank lending markets as an indicator of credit markets "freezing up." However, as some Minneapolis Fed economists point out, the volume of lending does not indicate such a freeze. In fact, very short-term interest rates are a ridiculously melodramatic indicator to use, because even a small increase in default probability can cause the annualized interest rates to soar. (Thanks to Alex Tabarrok for the pointer to this article.)
Where are the stories of businesses canceling projects because of lack of funding? Yes, I am sure that there are homebuilders who want to do their part to contribute to the excess of housing stock and are being told to get lost by banks, but are there economically sensible projects being canceled?
Speaking of dogs that are not barking, where are the stories of struggling homeowners? The struggling homeowner is the staple of political speeches ("we have to help struggling homeowners") but the media are not exactly filled with stories of people who lost a lot of money on their homes. Maybe because they didn't put any money down to begin with, so they have not lost anything. I suspect that news organizations are trying to find struggling homeowners to profile, but instead they are finding mostly struggling speculators.
Another point of issue in the narrative battle is the percentage of subprime loans made by Freddie and Fannie. Because they accounted for less than, say, 1/5 of all subprime loans, we are supposed to say, "Phew! It wasn't their fault! It was the private sector's fault!"
If Freddie and Fannie undermined their safety and soundness by only insuring 15 percent of all subprime loans, wasn't that enough? After all, the way I understood the Freddie Mac charter when I worked there over ten years ago, they were not supposed to back any loans that were not of investment quality. Zero. Nada. Zilch. I just don't see how my fellow economists (Thoma, Chinn, and others) can work up such passion over the fact that Freddie and Fannie accounted for less securitization of subprime loans than did the private sector.
My main beef with economists is that standard macroeconomics does such a poor job of describing what is going on. The textbooks models are pretty much useless. Where in the textbooks is "liquidity preference" a demand for Treasury securities? Where in the textbooks does it say that injecting capital into banks is a policy tool?
Graduate macro is even worse. Have the courses that use representative-agent models solving Euler equations been abolished? Have the professors teaching those courses been fired? Why not?
I have always thought that the issue of the relationship between financial markets and the "real economy" was really deep. I thought that it was a critical part of macroeconomic theory that was poorly developed. But the economics profession for the past thirty years instead focused on producing stochastic calculus porn to satisfy young men's urge for mathematical masturbation.
Economists ought to admit that we do not know much about what is going on today. Neither do the Fed Chairman and the Treasury Secretary. Of course, the market demand is for "strong" leaders and for "strong" economists, who can fool the public into believing that they have great knowledge. The ones who do this best are those who have fooled themselves.