For of all the financial instruments that have tumbled from the cornucopia of modern finance – options, futures, forwards, repos, swaps, synthetics, exotics – the CDS market may be the one most worth knowing something about. Credit default swaps played a major role in precipitating the subprime mortgage meltdown in 2008. Last week they were in the news again, following the Greek sovereign debt crisis, with the leaders of Germany and France calling for a ban on their speculative trading. How you feel about credit default swaps is a pretty good litmus test for how you feel about financial innovation in general.

As it happens, three books about the CDS market have appeared recently, each of them in the form known in the trade as a “character-driven narrative” (meaning that they have been written to read like novels), two of them by newspaper reporters and the third by a well-known magazine writer. Together they form a triptych that reveals a great deal about the process of financial innovation – and only slightly less about the news business. But few who are not duty-bound will read all three.

Gillian Tett, of the Financial Times, was the first to market. Fool’s Gold: How the Bold Dream of a Small Tribe at J.P. Morgan Was Corrupted by Wall Street Greed and Unleashed a Catastrophe is an origin story wrapped in a morality tale. It has much in common with Tracy Kidder’s The Soul of a New Machine, which introduced readers to real-time computers in the 1980s, or G. Pascal Zachary’s Showstopper, which did the same for operating system software in the 1990s. Tett explains how a handful of innovative thinkers, led by a pair of attractive expatriate Brits, were charged with finding new ways to make J.P. Morgan grow its commercial lending business.

Peter Hancock, Blythe Masters and their colleagues came up with a product that is part insurance, part speculative vehicle, and built a market for it – beginning with a transaction in which the European Bank for Reconstruction and Development in 1994 contracted for a modest sum to assume the risk that Exxon wouldn’t repay a $4.8 billion line of credit it had borrowed from Morgan in order to pay the fine for its Exxon Valdez oil spill. Fat chance of that! EBRD made a small but tidy profit, Morgan got the risk off its books and was able to make more loans. From these blue-chip beginnings, a major market was born. Morgan did the hard work, standardizing contracts, persuading regulators of the legitimacy of the transaction, explaining the utility of its new product to customers. Before long Morgan’s competitors were writing CDS insurance on every kind of credit imaginable – including subprime mortgages. Along the way, Tett explains clearly the various other concepts necessary to understand what happened next – value-at-risk accounting, structured investment vehicles, collateralized debt obligations, the ABX bond index, and so on

Who wanted to buy? That’s where Gregory Zuckerman comes in. Zuckerman, who writes the Heard on the Street column for The Wall Street Journal, is author of The Greatest Trade Ever: The Behind-the-Scenes Story of How John Paulson Defied Wall Street and Made Financial History, an astonishingly interesting story about how a low-compression good-time Charlie smartened up, got married, and struck it rich – very rich. Paulson had finished first in his class at Harvard Business School, but after nearly twenty years in merger arbitrage he had never made a killing. Early in the book he asks his chief analyst, Paolo Pellegrini, is there a bubble we can short? Not only was there one – the housing frenzy – but the perfect vehicle for shorting it had just been invented and was very poorly understood. Shorting stocks – betting that they will fall – was dangerous, because if they went up instead, he could lose an essentially uncapped amount of money. Buying CDS insurance was much less risky: all he stood to lose was the annual premium he paid, and the upside was enormous. Zuckerman’s book is the story of how Paulson and a handful of others figured out how to bet against the housing bubble, with varying degrees of success. It was Paulson who did it best, earning $15 billion dollars for his firm, and more than $4 billon for himself, in a single year.

More vivid if less clear is Michael Lewis, best-selling author of Liar’s Poker and The Blind Side, who is surely the best storyteller in the business. The Big Short: Inside the Doomsday Machine tells the same story as does Zuckerman, but he does it without Paulson. Instead Lewis elevates a one-eyed physician-turned-hedge-fund operator named Michael Burry to a starring role, along with stock analyst turned hedge-fund manager Steve Eisman and a handful of others who discovered credit default swaps and used them to bet against the housing marker. Burry plays a subordinate role in Zuckerman’s account, because he gets the timing of his trade wrong. Such is the joy in Lewis’s telling of the story that it doesn’t matter – hubris is everywhere. The book ends with an account of lunch with John Gutfreund, for whom Lewis worked twenty years before when Gutfreund, as head of Salomon Brothers, was the most powerful man on Wall Street.

The point is credit default swaps turned out to be an excellent vehicle for a ventilating a difference of opinion – not about a horse race, but about the housing bubble and the subprime mortgage bender that fueled it. They are how we got the bad news, once mortgage defaults began to rise and, if they had been more familiar and better understood, might have communicated the bad news earlier, perhaps even soon enough to prevent the meltdown that ensued. Gillian Tett has a short-seller in her book, Andrew Feldstein, but he is there mainly to give advice to regulators, who try to do their job but fail. (This is, in fact, the way regulation has always worked, when it has worked: the best guys in the market educating regulators in market practices.). Certainly Tett chose the right regulators, Gerald Corrigan and Timothy Geithner, both former presidents of the Federal Reserve Bank of New York, and William White and Claudio Borio, economists at the Bank for International Settlements, in Basel.

But she was writing a morality tale. Early on she sets up Mark Brickell, of J.P. Morgan, as the fall guy, a Hayek-quoting free-market extremist who asserts that “markets can correct excess better than any government.” He becomes head of the International Swaps and Derivatives Association, successfully lobbies against regulation, and as late as the spring of 2008 is seen to be arguing that “market discipline has guided the derivatives business better than regulation has steered housing finance.” The Zuckerman and Lewis books bear him out, up to a point. Credit default swaps were essentially prediction markets. They gave force to those differences of opinion. (As Warren Buffett puts it at one point in Michael Lewis’s book, “Writing a check separates a commitment from a conversation.”) Angry bears had no more powerful means of raising an alarm than the traditional Cassandra tools: planted newspaper stories and phone calls to regulators.

All three books show the limitations of the character-driven narrative, which inevitably leads authors to focus on one set of players at the expense of others. Thus Tett, despite her scorn for the ease with which lobbyists tipped over regulators, has nothing to say about the Robert Rubin-Lawrence Summers Treasury Department, which in 1998 so effectively throttled efforts by the Commodity Futures Trading Commission to rein in the growth of derivatives. Zuckerman has almost nothing to say about J.P. Morgan’s success in backing away from the CDS debacle, at one point painting Jamie Dimon, the trader who as chief executive kept J.P. Morgan Chase out of the mire, as a glad-hander who understood little about credit default swaps. And Lewis not only fails to weave Paulson into his tale, but passes up the even more illuminating ending to his book proposed last week by Michael Osinski in Business Week:

Even when default rates initially started rising, bond prices held firm. It wasn’t until January 31, 2007, that the index of subprime bonds, suffered its first ever one-point drop. According to Lewis, that was “the day the market cracked.” What Lewis fails to note is that the day prior, Lewis himself had filed a column for Bloomberg News from Davos mocking Nouriel Roubini’s warning “that the risk of a crisis happening is rising.” Such forecasts of doom came from “people with no talent for risk-taking gather[ed] to imagine what actual risk-takers might do,” Lewis wrote. The headline described them as “Wimps, Ninnies and Pointless Skeptics.” In The Big Short, Lewis recognizes he was wrong. The ninnies have inherited the earth.

But life is not fair. The film rights to The Big Short have already been sold to Paramount, with Brad Pitt producing. As if he knew he was bound to be eclipsed, Paulson permitted Zuckerman to begin The Greatest Trade Ever with a photograph of his subject, the hedge fund proprietor, no longer just another merger arb, looking as thoroughly relaxed and happy as a man can be. Tett is headed for New York, as managing editor of the Financial Times US edition. Take your pick of these three quite different books, depending on your tastes. There will, of course, be more.

EP spent a good deal of time reading most of three remarkable books about the mechanics of the subprime crisis:

Fool’s Gold: How the Bold Dream of a Small Tribe at J.P. Morgan Was Corrupted by Wall Street Greed and Unleashed a Catastrophe, by Gillian Tett, of the Financial Times;

The Greatest Trade Ever: The Behind-the-Scenes Story of How John Paulson Defied Wall Street and Made Financial History, by Gregory Zuckerman, of The Wall Street Journal;

and The Big Short: Inside the Doomsday Machine, by Michael Lewis, author of The Blind Side, Liar’s Poker and so on.

That’s nearly nine hundred pages of superb journalism, each book somehow better than the others – in other words, too much. EP came away, for the moment, unable to organize its thoughts.

EP expects to resume the straight and narrow path again next week.

Allen Sanderson is a familiar figure on the campus of the University of Chicago, a lecturer in economics and a prolific popular writer, especially on the economics of sports. Last summer the university magazine asked him to make some sense of the many competing explanations for the financial crisis.

Adopting as a metaphor the annual NCAA basketball tournament, he came up sixteen competitive factors judged to have contributed to the global financial crisis and matched them up as in the graphic below. A few months later the American Economic Association printed the brackets in the program of its annual meeting and invited members to vote for their regional favorites and for a national champion.

The outcome is depicted here:

For a description of the various teams, and a sense why voters concluded that the Hazards edged the Watchdogs in the tournament final, click on the graphic. The game may not yield much real information, but it’s a good exercise, a fine example of economists at play.

EP, meanwhile, continues work on its own explanatory tournament, reading through the accumulating stacks of books and papers. Nothing heavy-hearted about that, but it does take time – EP’s to write and yours to read.

This week the topic was to have been financial innovation. Even from a comparatively narrow angle, there was more new material than EP could digest. But that’s where we’ll resume next week.

A Columbia University conference last week showcased some of the most promising new attempts to explain what happened: A Macroeconomic Model with a Financial Sector, by Markus Brunnermeier (Princeton) AND Yuliy Sannikov (Princeton); Financial Intermediation and Credit Policy in Business Cycle Analysis; by Mark Gertler (New York University) and Nobohiro Kiyotaki (Princeton); Two Monetary Tools: Interest Rates and Haircuts, by Adam Ashcraft (Federal Reserve Bank of New York), Nicolai Gârleanu (Berkeley) and Lasse Pederson (NYU); and Collective Moral Hazard, Maturity Mismatch and Systemic Bailouts, by Emmanuel Farhi (Harvard) and Jean Tirole.(Toulouse).

Synthesizers of various sorts seek to bridge the gaps.

John Lanchester, of the London Review of Books, is the most recent magazine journalist to produce a broad overview of the crisis. Others include John Cassidy, of The New Yorker (How Markets Fail); Justin Fox, of Harvard Business Review (The Myth of the Rational Market ); and Robert Samuelson, of Newsweek (The Great Inflation and Its Aftermath, revised and with a new introduction in paperback). Lanchester is a distinguished novelist, and in I.O.U. Why Everyone Owes Every One and No One Can Pay, he explains how he stopped gathering material for another novel more than two years ago in order to cover the crisis full time. He is a quick study (and a careful and appropriately grateful reader of Tett, Simon Johnson, Nicholas Nassim Taleb and Paul Krugman). There are lucid descriptions of many technical matters: of bank accounting, the logic of options, futures and swaps, the enthusiasm for value-at-risk accounting.

But Lanchester is also a story-teller of considerable skill; and what emerges is a narrative mainly of nations “yelling woo-hoo and tearing their regulatory clothes off.” Much of this had to do, he says, with the end of the Cold War. Before the Berlin Wall came down, Lanchester writes, “The jet engine of capitalism was harnessed to the ox cart of social justice, to much bleating from the advocates of pure capitalism, but with the effect that Western liberal democracies became the most admirable societies that the world has ever seen.” Afterwards, “the jet engine was unhooked from the ox cart and allowed to roar off at its own speed.” Now the joyride is over now – at least it should be. It’s time to rein in the banks, chuck out the flawed mathematical models, and assure that nothing like the current mess can ever happen again.

Robert Litan takes more or less the opposite view in “In Defense of Much, But Not All, Financial Innovation.” Litan is a senior fellow of the Brookings Institution. He is also vice president of the Ewing Marion Kauffman Foundation, famous for its commitment to entrepreneurship, so presumably he’s got something of an axe to grind. (I am speaking at a Kauffman meeting next month, for which I will receive a fee.) On the other hand, he is a highly regarded regulatory economist.

Condemnations of the role of financial innovation in the near market meltdown of 2008 have become widespread, Litan notes. New York Times columnist and Princeton professor Paul Krugman was typical when he wrote that it was “hard to think of any recent financial innovations that actually aided society, as opposed to being new, improved ways to blow bubbles, evade regulations and implement de facto Ponzi schemes.”

Litan undertook an inventory of innovations since the 1960s and concluded that, on balance, there had been more good ones than bad. Whether they had enabled the economy to grow faster by enhancing productivity was an open question, but, individually and collectively, they had improved access to credit and made life more convenient.

He classified his list of innovations according to the economic purpose that each served – enabling parties to pay one another, mobilizing savings, channeling savings towards productive investments and allocating risks to willing and able bearers – and summarized his findings in the following table, scoring each development under three different headings: access, convenience and contribution to growth.

Some innovations, he allowed, had been poorly designed (collateralized debt obligations, or CDOs; structured investment vehicles, or SIVs). Others often had been misused (credit default swaps, or CDSs; adjustable rate mortgages, or ARMs; home equity lines of credit, or HELOCs). All were susceptible to better design and improved regulation.

Whether you agree with his evaluations or not, the list makes interesting reading. So does the paper.

.                                                 Recent Financial Innovations: A Summary

.                                             Access.            Convenience.        Productivity/GDP

Payments

ATMs                                   ++.                           ++.                                 +

Credit card expansion.          ++.                           ++.                                  +

Debit cards                           ++.                           ++.                                  +

Saving

Money market funds           ++.                             ++.                                  0

Indexed mutual funds          ++.                             ++.                                  +

Exchange-traded funds        +.                                +.                                  0/+

Limited partnerships

Hedge Funds                        0.                                0.                                0/+

Private Equity                       0.                                0.                                   +

TIPS                                   ++.                             ++.                                0/+

(Treasury Inflation Protected Securities)

Investment

Credit scoring                          ++.                      ++.                                  0

ARMs                                     ++.                     N/A+.                               -/–

Home Equity Lines of Credit    ++.                     ++.                                -

Asset-backed securities             ++.                   ++.                       -/+ (see text)

CDOs*                                      ++.                  ++.                                  –

SIVs*                                        ++.                   ++.                                  –

Rise of Venture Capital                +.                     +.                                   ++

Risk-Bearing

Options/Futures Exchanges

And Pricing                                  +.                    +.                                  +/++

Interest/Currency Swaps            ++.                  ++.                                  +/++

Credit default swaps                     +.                   +.                                     +

*The positive scores here were temporary

Source: Analysis in Litan’s text.

Litan boldly concludes that its more financial innovation we need, not less – specifically. “macromarkets,” as advocated by Robert Shiller, of Yale University, designed to permit individuals to hedge against various currently uninsurable risks. Will consumers some day purchase home equity insurance, career risk insurance, the way they routinely buy health and home insurance today? Perhaps. No time soon.

Negotiations continue, in Congress, between lobbyists, among governments, behind the scenes.

Not until 2015 is there a realistic hope of reaching a sustainable level of borrowing – and then only with some combination of benefit cuts and tax increases. The ever-bombastic Niall Ferguson warned in The Financial Times last week that “A Greek crisis is coming to America.”

Perhaps. But five years is a long time to wear a tin pot and a whistle, waiting for a fiscal Pearl Harbor.

But then from Boston, where Ferguson is professor of economic history at Harvard University, and I am an economic journalist, there is no alternative to the long view. EP spent most of a couple of days last week reading Reappraising the Right, a 2009 collection of articles by George Nash; The Road from Mont Pelerin, a collection of papers edited by Philip Mirowski and Dieter Plehwe; and The Right Nation, by John Micklethwait and Adrian Wooldridge, hoping to make a column out of what these various histories of conservative thought might portend about the future. No dice, not when the narrative is as murky as it is today. .

When the times are as confusing as they are just now, I read David Rogers.

Rogers is commonly acknowledged to be the best Congressional reporter in the country – “the 101st senator,” in ABC News’s phrase. A combat medic in Vietnam, he reported on City Hall for The Boston Globe, moved to Washington and covered Capitol Hill for The Wall Street Journal for twenty five years. Politico hired him away in 2008.

Politico? It’s the fifth national newspaper that I look at every day, after the Financial Times, The New York Times, The Wall Street Journal and The Washington Post. Created from a rib of the Post in 2007, when a couple of top reporters there persuaded television magnate Robert Allbritton that the time was ripe for a paper with a new business model, it’s been a solid success – a daily political news boutique.

Out-of-towners think Politico is mainly a website. Indeed, its servers averaged 6.7 million unique visitors a month last summer, down from 11 million at the height of the presidential campaign, but quite respectable compared to the Post’s 9.3 million unique visitors in August. Yet the major portion of the advertising revenues that sustain Politco’s staff of around 100, some thirty of them reporters, come from a conventional newsprint edition that is distributed for free to some 32,000 desks on Capitol Hill and around the city, as often as five days a week when Congress is in session, as seldom as once a week when it’s not. Politico is a small ship, in other words, compared to the Post – expected 2009 revenues of about $30 million, according to an article by Michael Wolff in Vanity Fair, where the Post’s revenues through the first nine months were $486 million – but, with respect to political news, it sails fast.

And what does Rogers say? At the moment, he says keep your eyes on Sen. Judd Gregg (R-N.H) in the days leading up to Obama’s televised meeting with Republican legislators on February 24. Gregg briefly agreed last year to serve as Obama’s Secretary of Commerce, before withdrawing, citing philosophical differences. He has announced he won’t be seeking reelection this year. As the ranking Republican on the Senate Budget Committee, he is a fierce deficit hawk.

The administration is still trying to bring Democrats together for a final push to produce comprehensive health care reform, says Rogers – presumably through the complicated procedure known as reconciliation, which would require a simple majority of 51 votes But if that fails, and the White House is forced to scale back its plan, “Gregg would seem certain to come into play,” writes Rogers, and probably Maine’s two moderate Republicans, Sens. Olympia Snowe and Susan Collins, as well.

Judd’s preferred gambit: apply the nearly $500 billion in Medicare savings contemplated by the House and Senate bills to deficit reduction, instead of plowing into expanded coverage. Perhaps he would settle for half as much, suggests Rogers, in which case the Democrats could pick up another $50 billion for coverage by embracing medical malpractice reform. And so on, through a series of possible compromises Judd packaged under the catchy heading of CPR: coverage, prevention and reform. It’s all there in Rogers’s February 11 story. (The epochal significance of the Democrats’ attempt at reform he set out quite clearly last fall.)

Rogers won’t have all the best stuff in the next few weeks, naturally. The Times, the Journal and the Post have crack teams on the beat as well. It’s clear, though, the battle over health care will be an exceedingly close-run thing, and that its outcome will determine to a considerable extent the field on which the autumn election campaigns play out. David Rogers will be the best overall guide as the story unfolds.

And when things are somewhat more resolved, there will be time enough for EP to return to George Nash; to Mirowski and Plehwe; and Mickletwait and Woolridge, and try to dig down in the story. For journalists, narrative clarity is the root of peace.

In an essay in his just-published Natural Experiments of History, Jared Diamond puts the question the way you want it to be asked – comparatively. He examines the histories of Haiti and the Dominican Republic, the two halves of the island of Hispaniola, the first place Columbus stopped in the New World. Natural Experiments is an exemplary book, short and graceful, conveying a broad swathe of the most interesting work going on today around the world in departments of economics, political science and anthropology, under the heading of comparative political economy. The story of Haiti is especially compelling.

Diamond, a professor of geography at the University of California at Los Angeles, is author of the best-selling Guns, Germs and Steel. His essay, “Inter- and Intra-island Comparisons,” is one of seven in the volume he co-edited with James A Robinson, of Harvard University. The collection is designed to showcase and explicate a little the intricacies of a favorite method of sciences concerned with the study of the past – evolutionary biology, paleontology, historical geology, epidemiology, astronomy and all kinds of social science.

Where scientists can’t conveniently or legitimately manipulate matters themselves, as in the laboratory or clinical studies, the editors say, they search for situations in which history has done the manipulating for them. Perturbation or no perturbation? Compare the development of areas of Africa subject to slaving or not; or areas of Germany invaded by Napoleon or not. (Be sure to ask why the perturbers selected the sites they perturbed!)

Different perturbations? That’s the story of North and South Korea, East and West Germany, or, in the present case, the Dominican Republic and Haiti – one,a functioning democracy with a relatively prosperous growing economy; the other, an international basket-case.

Diamond writes:

From the air, anyone who has ever flown from Miami to Santo Domingo will have seen the obvious border standing out on the landscape 30,000 feet below, as if the island had been cut by a sharp knife. To the west of the knife line, the island is brown and treeless; to the east of the line, it is green and forested. If one actually stands on the border facing north and turns to one’s left, one sees the muddy bare fields of Haiti, while a few dozen yards to the right of the line begin the pine forests of the Dominican Republic. This sight makes it clear that it is impossible to understand Haiti without understanding the Dominican Republic.

The broad outlines of the story are these: After Columbus, disease quickly all but extirpated the indigenous Arawak people. Spanish colonists slowly spread unevenly over the island, threatened by French, English and Dutch pirates. In 1697, Spain ceded the western third of the island to the more powerful French. They renamed the new colony Saint-Domingue.

There were certain natural disadvantages. The rain in Hispaniola comes from the east, so the western end of the island is somewhat drier. Haiti lacks the broad, fertile Cibao Valley of the Dominican Republic. It has more mountains and shallower soil. Deforestation, which set in 250 years ago, is a vicious circle: fewer trees mean less rain but more erosion, which means fewer trees….

Different colonial strategies produced a second set of telling differences. Spain had richer colonies in Mexico and Peru competing for investment, and purchased relatively few slaves for its Hispaniola holdings. France poured slaves into Haiti to work its plantations: half a million of them by 1785, versus 15,000 to30,000 slaves in the eastern half of the island. Rather than return home empty, French slavers took back lumber, and so began the deforestation of Haiti’s steep hillsides. Meanwhile, Haiti’s slave population, verging on 85 percent of the whole, but drawn from diverse African language groups, improvised a language of its own, a Haitian Creole today spoken nowhere else in the world (except among overseas Haitians). Dominican slaves mostly learned Spanish.

That set the stage for Haitian Revolution. Diamond relates the key events with telegraphic (and just-minded) concision:

Haiti’s slaves achieved freedom and independence in 1804, after ferocious struggles against French armies beginning in 1791, the return of a Napoleonic French army in 1801 to restore French rule, France’s treacherous capture of the slave leader Touissant-l’Ouverture at a parley, and French evacuation of Haiti beginning in 1803. Those events led Haitians correctly to distrust Europeans and to fear a return of Europeans could mean yet another attempt to re-impose slavery. Hence independent Haiti killed the remaining whites, and divided and destroyed their plantations. Thereafter the last things most Haitians wanted was European immigration and investment. Conversely, the last thing that many slave-owning Europeans and Americans wanted was to see a revolt succeed, so they refused opportunities to invest in or help Haiti, and that became a major factor behind Haiti’s increasing poverty.

The Dominican experience was very different. Spanish settlers didn’t declare independence until 1821 and then were promptly conquered by the Haitians and governed by them for twenty anxious years before reverting to the Spanish crown for another two decades. Only in 1865 did the Dominican Republic finally emerge. Then, unencumbered by a legacy of successful slave revolt, the newly-independent state began trading freely with European nations and accepting immigrants, “whose economic significance was out of proportion to their modest numbers,” according to Diamond. Haiti, on the other hand, was censoriously shunned by European nations through most of the nineteenth century.

Thus climatic and environmental differences were greatly amplified by social histories. After 1930, political differences became even more important. Dictator Rafael Trujillo took control of the Dominican and operated the nation as a family business, emphasizing exports and encouraging tourism, hiring expert foresters from Sweden and Puerto Rico and protecting large tracts of timber from being harvested by others. In Haiti, “Papa Doc” Duvalier ruled from 1957 until 1971 (and his son “Baby Doc” until 1985) without contributing much of anything to the island’s development – least of all forest management.

Such are the broad outlines of the natural experiment of Hispaniola. Be glad, says Diamond, that his brief essay (far more nuanced, naturally, than this account) set out only three major sets of factors, rather than confronting the reader with a 800-page monograph assigning proper weight to another 73 considerations. Be glad, too, perhaps, that he did not pursue the suggestion with which his essay ends – that the comparison be extended in include the circumstances and histories of the other three neighboring islands of the Greater Antilles, Puerto Rico, Cuba and Jamaica (though surely there is a useful lesson to be gleaned about Cuba’s experience of revolution and subsequent US embargo).

The fact about Haiti that stands out above all others in this telling is the marooning of an African population on a Caribbean island, the uniquely violent war of independence that followed, and its legacy of retribution and mutual mistrust – two centuries of near-isolation and estrangement.

It’s against this backdrop that a catastrophic earthquake last month rocked Port-au-Prince, Haiti’s most populous city, killing more than 200,000 persons, injuring many more than that, demolishing 250,000 residences, destroying important government facilities and disrupting completely inadequate sanitation systems. Its elite died in disproportionate numbers: the headquarters of the United Nations Stabilization Mission collapsed, killing many of its staff.

So what, if anything, can be done for Haiti that is different before? Beyond burying the dead and feeding the living, what adjustments might be made to the overall strategy of aid?

Even this brief history should make it clear that foreign occupation is not an option. The very founding of the nation involved a violent throwing-off of domination. (Americans governed the country for nineteen years after Woodrow Wilson sent a few hundred Marines to Port au Prince in 1915. President Clinton restored Jean-Bertrand Aristide as president with the intervention of 20,000 U.S. troops in 1994.)

Nor is there room for voluntary receivership. Even the UN mission must tread carefully. “We must act quickly to put forward our own vision for Haiti, or else foreigners will impose their own,” Prime Minister Jean-Max Bellerive told his cabinet last week, according to David Gauthier-Villars of The Wall Street Journal. The conviction that Haitians should govern themselves is deeply ingrained in Haitian society.

That leaves aid, which leads, more or less directly, to the anomaly reported by Stephanie Strom last week in The New York Times, under the headline “Haiti Crisis Renews Talk of Pooling Relief Money.” Her dispatch began:

Before the earthquake, the American Red Cross had 15 people in Haiti working on projects like malaria prevention and measles vaccines. Partners in Health, a charity based in Boston, had more than 700 doctors and nurses among a staff of almost 5,000 operating a hospital and multiple clinics around the country.

Yet the Red Cross has raised nearly $200 million for its relief operations in Haiti, and Partners in Health about $40 million.

No one doubts the American Red Cross’s competence in quickly putting food, medicine and shelter on the ground. But brand recognition and marketing skill counts as much, if not more, than “scope, relevance and quality” in disaster relief, wrote Strom. So pressure is growing to pool donations for disaster relief and appoint expert committees to distribute funds to the organizations best poised deliver services. The Red Cross itself adopted the pool approach after the Asia tsunami in 2004.

Development aid is an endlessly complicated subject. Hundreds of organizations exist to somehow or other diminish the gaps between the world’s poorest and richest economies. Among the best of them is Boston’s Partners in Health. The organization was founded by physician and anthropologist Paul Farmer and several friends in 1987, to foster the capacity for health and medical care in Haiti. Since then it added operations in another eighteen nations, and employs around 11,000 persons around the world. It was famously described in 2004 by author Tracy Kidder in Mountains Beyond Mountains: The Quest of Dr. Paul Farmer, a Man Who Would Cure the World. For twenty years, PIH has worked shoulder to shoulder with a growing corps of Haitian health professionals.

And that is the real point of this column. Rebuilding Haiti’s housing stock and physical infrastructure is important. Building its human capital is even more important. So if you want to do something for the earthquake victims and haven’t done it yet, make a donation to the Stand With Haiti project of Partners in Health.

No thaw this year! Boston’s Charles River is frozen solid. As if to mock a century or two of folklore, a single uncharacteristically warm day last week brought a considerable rain, enough to wash away the snow, followed by a week of bitter cold.

EP is more discomfited by the intransigence in Washington than by the weather.

Threats pile up. In On the Brink: Inside the Race to Stop the Collapse of the Global Financial System, his just-published memoir, former Treasury Secretary Henry Paulson reports that high-ranking Russian officials approached their Chinese counterparts in August 2008 to propose dumping Fannie Mae and Freddie Mac bonds in order to precipitate a crisis in financial markets and force a US government bailout.

The Russians were about to go to war in Georgia, and a demonstration of fragility in New York would have been a welcome diversion. The Chinese government declined, and told Paulson about the proffer while he was in Beijing for the Olympics. The crisis arrived in New York in September anyway, with the bankruptcy of Lehman Brothers.

Also last week, John Markoff, David Sanger and Thom Shanker of The New York Times, reported on a series of probes, cyberattacks and surveillance efforts in the last few years thought to be associated Chinese nationals, and discussed the evolving US strategy in response – essentially a policy of retaliation. With nuclear deterrence, the problems of diagnosis were relatively straightforward, wrote Markoff.

But in cyberattacks, the damage can range from the minor to the catastrophic, from slowing computer searches to bringing down a nation’s cellphone networks, neutralizing its spy satellites or crashing its electrical grid or its air traffic control systems. It is difficult to know if small attacks could escalate to bigger ones.

To counter such threats, the Obama administration proposes to create a new Cyber Command, the Times reported, to be run by Lt. Gen. Keith Alexander, head of the National Security Agency, if the measure is approved by Congress. Wider discussions are taking place among military leaders about how best to deter economic gambits such as the one the Russians apparently contemplated on the eve of their Georgian war.

But Congress is deadlocked on just about everything else – not just national health care policy, but banking regulation, deficit reduction, climate management, campaign finance, confirmation protocol, to name only the most obvious..

The thirty votes cast against Ben Bernanke’s appointment to a second four-year term as chairman of the Federal Reserve Board, came from an oddball, bipartisan coalition of Senators, most (but not all) from rural states with strong populist and anti-Eastern elite traditions. They included Roger Wicker (R-Miss.), Richard Shelby (R-Ala.), Bernie Sanders (I-Vt.), Al Franken (D-Minn), Russ Feingold (D-Wis.), both senators from Iowa, Chuck Grassley and Tom Harkin (a Republican and a Democrat!), and even Ted Kauffman (D-Del.), the long-time aide who replaced Vice President Joe Biden. This is one further presage of interesting mid-term election campaigns in the fall – no single strong tide but instead a crazy-quilt of local interests.

Meanwhile, the Republican Party leadership’s reaction to the president’s State of the Union speech indicates a willingness to bet everything on the presidential election of 2012.

Obama is temperamentally well-suited to such a campaign. He may have to sacrifice Treasury Secretary Timothy Geithner, a particularly successful field commander who was nevertheless very roughly handled in Congressional hearings last week. A suitable replacement, if he could be persuaded to return to Washington, would be former Treasury Secretary Paul O’Neill. As Obama’s appearance before the Republican House issues conference last week signified, he is prepared for a prolonged period of trench warfare.

Meanwhile, what are the chances that growth, which apparently resumed in the third quarter of 2009 and accelerated dramatically in the fourth quarter, will present a prolonged “jobless recovery,” as in the aftermath of the recessions of 1990-91 and 2001? There are two good reasons to be optimistic, says Robert Gordon, of Northwestern University, a member of the National Bureau of Economic Research, who traces the ups and downs of business fluctuations.

First, he says, the panic during late 2008 and early 2009 was overdone, making a bounce-back more likely. Second, there was no equivalent this time to the late 1990s boom in information and communications technology whose contribution to productivity was so great that it kept job growth down in 2001-04. Even a V-shaped recovery in hours worked doesn’t guarantee a rapid decline in unemployment, says Gordon; first those who were forced into part-time status will be recalled to full-time status. More hours, then more jobs, and eventually the unemployment rate will begin to drop.

The November election is still nine months away. By the presidential election of 2012, the expansion should be well underway. By then today’s Republican strategy of resisting all change will be wearing thin

January thaw or not, when you look up, the buds are there.

The Democrats would have won if they had nominated the candidate who came in second to Coakley in the December 8 primary, Congressman Michael Capuano. Capuano, 58, represents the Eighth Congressional District, the constituency which sent John F. Kennedy and Tip O’Neill to the House of Representatives.

Scrappy, sophisticated, politically experienced, Capuano almost certainly would have recognized the threat posed by the little-known Republican challenger and, in all likelihood, turned it aside through a combination of offense and defense. I can’t prove this, naturally, but my sense is that most political sophisticates around the Bay State would agree (Tea Party enthusiasts excepted).

So why didn’t Capuano get the nomination? A combination of identity politics, a short campaign, and the presence in the race of two other long-shot male candidates: private equity magnate Steven Pagliuca, and City Year founder Alan Khazei.

Coakley inherited the determined support of women’s groups that had campaigned hard for Hillary Rodham Clinton the year before. (Clinton won the Massachusetts primary but lost out at the convention.) In December, Coakley handily won the Democratic nomination with 47 percent of the vote, compared to Capuano’s 13 percent for Khazei and 12 percent for Pagliuca.

A prosecutor for more than twenty years, Coakley turned out to lack strong political instincts, and in any event was unable to  bridge the gap between various traditionally Democratic constituencies.  Former Boston Globe columnist  Mike Barnicle complained on talk radio, “There’s 22 percent unemployment in the construction trades and Martha’s talking about abortion.” Meanwhile Brown ran a strong campaign, comparing himself to John F. Kennedy as a tax-cutter, and last week defeated her, costing the Democrats their supermajority in the Senate and dramatically altering expectations among members of both parties.

So what’s the moral? Obama should recognize the role that chance played in the event. If the nomination somehow had gone the other way, the election could just as easily have been a victory for him. Certainly he must now make a number of adjustments. But rather than make a slew of concessions, he should seek to stay the course on health care in Congress, where the Democrats still have solid majorities in both houses.

For citizens of Massachusetts, it means staying alert. Conservative Republicans have won several state-wide elections in the last thirty years, as political consultant Mark Horan pointed outlast week in The Boston Globe. Perhaps the most interesting election in the present instance occurred in the Democratic primary in 1978, when supply-sider Edward J. King upset first-term Gov. Michael Dukakis in the early stages of what came to be known as the Tax Revolt. The state then voted narrowly for Ronald Reagan in 1980, but Dukakis returned to oust King in 1982, towards the end of a deep recession. King became a Republican after leaving office.

Brown must stand for re-election in 2012 (two and a half years is the remaining portion of Kennedy’s term). Like Ed King before him, Brown is not an old-style moderate Republican, like former Sen. Edward Brooke; nor does he present himself as social liberal in the mold of Mitt Romney and Bill Weld, each of them repudiated by voters in Senate campaigns, in 1994 and 1996.

The unexpected up-for-grabs conditions that governed this year’s Democratic primary campaign won’t obtain in 2012. It will be a very interesting year.

.                                   xxxxx

Sometimes you only have to ask.

Barely had last week’s piece on the opposition between the guardian and commercial sensibilities moved out into the world before former Federal Reserve chairman Paul Volcker was standing there next to Barack Obama at the White House, as the president announced plans to separate commercial banks from their trading arms — the “Volcker Rule,” he dubbed it, after the world’s foremost financial guardian.

The administration says it has ben working since the fall with the House Financial Services Committee on plans for legislation that would prohibit banks from investing in or sponsoring hedge funds or private equity groups. The idea is to prevent the formation oof financial behemoths considered too big to fail.

Jonathan Weisman, of The Wall Street Journal, n Policy Pivot on Banks Followed Months of Wrangling, pursued the behind-the scenes maneuvering that led up to last week’s announcement. And Krisha Guha and Gillian Tett, of the Financial Times, gave a lively account of Volckler’s ups and down in the Obama administration in The Scourge of Wall Street.

Such was the alarm in Congess engendered by the news from Massachusetts that the nomination of Ben Bernanke to a second four-year term as chairman of the Fed appeared or several days to be in trouble, despite widespread recognition that in October 2008 he prevented a bad situation from becoming much worse. Two Democratic senators up for relection joined the opposition to him and markets sold off on the news.

By the weekend, however, the Obama administration said it was confident that he would be confirmed.

There must bee therefore an other state and profession of men, whose power and prudence must comprehend, the maintainence and defence, not only of the Seate of Justice, but also of the Cowe and Plowe, of the Bed and Cradle, yea of the Alter and the sovereigne state: which resteth in the profession neither of the Priest nor Lawyer, nor the occupation of the Housbandmen, Artisans nor Merchants: but lieth in the prowesse and value of them that professe Armes.

Not bad, I thought. Four centuries later, we assign ultimate responsibility for the web of trust that underpins the social order to democratically-elected leaders of constitutional governments, not to soldiers. Otherwise, the sentiment today probably is pretty much the same as it was in the time of Kit Marlowe, William Shakespeare and the Spanish Armada. We want capable leaders who are in touch with interests larger than our own selfish ends, leaders who are far-sighted and steady, cunning and ruthless in pursuit of their goals.

Indeed, if you believe Jane Jacobs, the conviction hasn’t changed much since the ancient Greeks. In her 1992 book, Systems of Survival: A Dialogue on the Moral Foundations of Commerce and Politics, the author of The Death and Life of American Cities, argued that two great ethical systems identified by Socrates and his pupil Plato still dominate the human order, often in opposition to one another.

A guardian sensibility is the province of political parties and organized religions; kings and war-lords; legislatures and courts; armed forces and police; government ministries and their bureaucracies; union councils and deans; regulators, watchdogs and critics of all sorts, including the press. (A fascination with the contradictions of the guardian life is, I think, what the story of government agent Jack Bauer, of the Fox television series 24, is all about.)

A commercial sensibility, according to Jacobs, governs most everyone else, those engaged in trade and the production of goods, services and knowledge. Two very different casts of mind are required to make a smoothly functioning society, one of them disciplined, generous and aloof; the other collaborative, open and honest. Back in October 2008, when the current crisis broke, EP provided a lengthier gloss on Jacobs’ ideas.

This week seemed like a similar moment of crisis. The Senate seat from Massachusetts held for nearly fifty years by Edward M. Kennedy is up for grabs. A Republican candidate has come out of nowhere to run neck-and-neck with a Democratic prosecutor who lacks broad political experience.Without that vote in the Senate, the health care bill could fall apart. The symbolism is vast.

Meanwhile, Federal Reserve Board chairman Ben Bernanke is under fire from his fellow Republicans for his defense of Alan Greenspan’s Fed. And the The Financial Crisis Inquiry Commission, a Congressional investigation that seeks to patterns itself on the 9/11 Commission that investigated the World Trade Center and Pentagon attacks, appears to be zeroing in on Treasury Secretary Timothy Geithner, who is the linchpin of President Obama’s economic policy.

“Maybe he can’t,” writes Edward Luce in the Financial Times, of Obama, a president who he says is coming up against the limits of his power. “Time to Get Tough,” headlined The Economist.

It is a good time, in other words, to wait and see. EP is traveling and will return to the fray next week. Meanwhile, keep in mind the latest specimen of the wisdom of Martin F. Nolan, who for many years was Washington bureau chief of The Boston Globe (and who these days he can be found on the website of The Huffington Post): Polls are the last refuge of a scoundrel.

The similarities between Barack Obama’s first term in office and that of Franklin Roosevelt have often been noted: the atmosphere of dire emergency; the sense of new beginnings; the conviction that the most serious problems began with the banks. In 1933, Congress acted swiftly to separate the banking system from the securities business. Today, slower action is required for a very different world.

Three broad camps exist. Populists, AKA progressives, of whom the most engaging may be Simon Johnson, of the Massachusetts Institute of Technology, want to break the big banks into smaller units so that none is too big to fail, or at least separate them into lending utilities, their deposits insured by government, and high-flying capital market players who work without a safety net. There are meliorists,  practical-minded reformers representing a broad array of banking, financial and economic types (for whom, Paul Krugman, of The New York Times, is often an effective spokesman), who believe that American banks must be large in order to compete in global markets. They think that efficiency and safety can be achieved through a combination of higher capital ratios, greater transparency, and improved consumer protection. Then there those who reflexively expect that changes in the existing order will be futile, or produce unintended consequences, or sacrifice some other interest to an unacceptable extent.  The latter are conservatives.  All contribute to the debate.

Caught in the middle is President Obama, between the progressives of his own party, who rag him for “kid-glove treatment” of the bankers, and the Republicans, who are eager for him to fail no matter what. Thomas Mann, of the Brookings Institution, says that the president is “a very well-informed and open-minded policy wonk who will continue to disappoint those who have it all figured out.” David Rogers, veteran Congressional correspondent of Politico, the Washington free newspaper and website, describes Obama’s predicament this way: “[W]rapped in the bubble of the Oval Office, and surrounded by Ivy-educated budget and economic advisers, this detachment is magnified and hurts him with lawmakers and voters alike, looking for more of a connection amid tough times. For all he shares with FDR, ‘Mr. Fireside Chat’ Obama is not.”  He is, however, a thorough-going meliorist.

The ASSA meetings, which include the proceedings of the American Economic Association, the American Finance Association, and another fifty-odd smaller professional societies, were the second to occur since the crisis went critical in September 2008. Last year, in San Francisco, the effects of panic were all but invisible in the city’s buoyant downtown. This year in Atlanta, they were unmistakable. Peachtree Street, the city’s famous boulevard, looks as though a tank battle might have been fought there, with abandoned buildings, empty storefronts, churches, an army surplus store, a hospital and a homeless shelter connecting the office towers at its opposite ends.

A striking fact was the lack of administration participation among the dozens of sessions – a sign perhaps that its economists were too busy working to preach to the choir. Only Federal Reserve Board chair Ben Bernanke accepted an invitation to speak – he blamed lax regulation, not faulty monetary policy, for the subprime bubble. The biggest sessions – on deficits, development, growth, why economists failed to see the looming crisis – drew crowds, and an evening program of stand-up economic comedy filled the room. But the most interesting session this year was presaged last year, by the American Financial Association presidential address that Jeremy Stein, of Harvard University, delivered in San Francisco.

Stein began by noting the extensive changes that had taken place in capital markets in recent years. Professional asset managers were taking over. Direct individual ownership of equities had declined from nearly 48 percent of the stock market in 1980 to 21.5 percent by 2007. Hedge funds’ global assets had grown from $39 billion in 1990 to $1.93 trillion in the second quarter of 2008. Hedge funds, in particular, deployed their assets in highly leveraged fashion – meaning they routinely borrowed as much as they could to place their bets.

At least two complicated strategies had arisen. One was “crowding,” meaning that institutional investors relying on quantitative modeling – rocket science, in common parlance – had no way of knowing how many other rocket scientists were simultaneously entering into the same trade. The second was leverage, and the fire-sale scenario that can arise when one highly-leveraged player after another is forced to liquidate holdings on short notice. Such goings-on had been observed in the collapse of Long Term Capital Management in 1998, and in the “quant crisis” of August 2007; perhaps they were at the heart of the 2008 panic. It was possible, Stein concluded, that, in some cases, “capital regulation may be helpful” in dealing with the leverage problem.

This year in the ‘tweendecks of the meetings, a group of leading financial economists reported on their latest attempts to incorporate in policy-oriented models real-world features such as down payments, collateral and haircuts (meaning the amount arbitrarily subtracted from the face value of assets held as collateral, to reflect their perceived degree of riskiness). Ana Fostel, of George Washington University, reported on joint work with John Geanakoplos, of Yale University, that sheds light on managing the leverage cycle. Lasse Pedersen, of New York University, explained why capital-asset pricing models should be liquidity-adjusted, the better to understand what happens When Everyone Runs for the Exits, and, in joint work with Markus Brunnermeier, of Princeton University, how it may help to manage leverage. Tobias Adrian described some further work with Hyun Shin, of Princeton University. And Emmanuel Farhi, of Harvard University, presented joint work with Jean Tirole, of the Toulouse School of Economics, on how collective moral hazard can lead to systemic bailouts. (For a new look at the interaction of credit and monetary policy over the past century and a half, see this gloss on “Credit Booms Gone Bust: Monetary Policy, Leverage Cycles and Financial Crises, 1870-2008,” a recent working paper by Alan Taylor, of the University of California at Davis, and Moritz Schularick, of the Free University of Berlin.)

Some of the new work will find its way into this year’s legislation. Most of it is years away from the simultaneous closing and opening of doors that signify completion. Only experience, however, will resolve the fundamental question of safety. For all that has been learned recently – or perhaps precisely because of it – it is a good idea to proceed with caution. The cool, deliberate Obama is as temperamentally well-suited to these fast-paced times as was the warm, impulsive FDR to a somewhat slower age.