Thinking about the various problems with the economy, and looking at the various ideas that people have, it appears to me that overall, what people want most is the liquidation of the financial system and elimination of debts by one way or another, so that we can start clean again.
Up until now, I have been pretty skeptical of this idea, because I've always it would be too painful, and it'll bring a lot of hardship on people. But the more I read, the more that it's clear that this is the overwhelming consensus of most people.
If there's one thing that trumps economics, it's politics. That is true in the modern world because our societies are basically abundant. We have the capacity to be quite prosperous. The key question is how we choose to act politically. And as democracies, it's the will of the majority of people that matters. If the majority of people want to liquidate the present financial system, regardless of the cost to pain, then ultimately this outcome must prevail.
The process of liquidation will first involve the repudiation of all bailouts. The EFSF will be withdrawn, the ECB will fold up its operations except for normal market operations. Greece will default on its debts and preferably exit the euro zone.
Spain, Italy, Ireland, Portugal, Belgium will default and exit the euro zone. France may or may not exit the euro zone before it is forced into the choice. The remaining northern European countries will have to decide whether they still want a common currency.
In the US, the Federal Reserve will withdraw all supports to the financial system as Bank of America and Citigroup fail, probably the rest of the investment banks fail, and the financial system collapses, guaranteeing only bank deposits.
As the economy enters into a period of liquidation, President Obama will address the nation urging calm and explaining to the American people that many mistakes of past years and decades are being rectified, and that it will be hard but that eventually this too shall pass.
At this point the main question will be the US Treasury bond market. I do not have much of an idea of what is preferred by most people on this question, and it is unclear what would happen. One possibility is that investors will rush to buy Treasuries as relatively safe assets as they did in 2008. Another is that they will expect the US to default as tax revenue dries up. A third possibility is that the Fed can monetize the debt and buy it up itself, limiting the deficit.
If the Treasury bond market remains stable, then after some time the government can come in and fill the gap in the economy for many years as the private sector gradually recovers.
A final and significant worry is that at this time the economy will be very bad and someone like Mitt Romney or Rick Perry will come in to manage the recovery. It will take a long time for the Democrats to recover from this but perhaps we can as the British Labour Party recovered from 1931 to 1945. Obama will be remembered as a Carter figure who basically failed but in the end, just as Carter appointed Volcker, he set the ultimate path that was followed by his conservative successor.