But the Obama Administration and Congress are starting to grapple through the outrageousness of the problems in the financial system

By Jane Sasseen

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Last year, as the U.S. fiscal system began to unravel, former Treasury Secretary Hank Paulson used to utter about the bazooka in his pocket. It was a metaphor designed to calm investors anxious about the government’s willingness to spend massive taxpayer dollars to save the financial a whole if really needed. But Paulson’s weapon jammed. For despite an marshalling of lending programs by the Federal Reserve and the $700 billion Troubled Asset Relief Program (TARP) passed by Congress for the period of his tenure, Wall Street firms and banks still collapsed left and right last fall.

Now the Obama Administration is effectively declaration: Forget the bazooka, let’sitting bring outright the ponderous ordnance. The President’session economic advisers believe it is time to hit the reset button on existing bailout programs, and think big. There’s not one choice given the deepening recession that’s driving up jobless rates and home and credit-card defaults. All that in turn is contributing to multibillion-dollar quarterly losses at the likes of Citigroup (C) and Bank of America (BAC).

One big piece of that effort, of course, is the controversial $819 billion parcel of expenditure and tax cuts that were approved by the Democratic-controlled House of Representatives on Jan. 28. At the same time, the Fed is ramping up programs to bribe securities backed by car, credit-card, and student loans as source as mortgage-backed dissertation to relieve thaw the credit markets.

Fixing the banks, Obama advisers argue, will require a more innovative approach than the capital injections into lenders that the Bush team settled on. Fed lending and commonwealth cash transfers help, but Bush’s advisers backed away from tackling the disposition of toxic estate that have caused a massive erosion of capital on bank balance sheets and have made extending loans to totally but the most creditworthy borrowers unthinkable. "Money is moving throughout the system, but there is increasing recognition that these institutions don’t have enough capital to withstand the losses from all the broken loans they have," says Frederick Cannon, a banking algebraist by the agency of Keefe, Bruyette & Woods (KBW).

New Treasury Secretary Timothy F. Geithner is exploring the creation of a government-funded "bad bank" to buy up mortgage-backed securities and other troubled effects from banks in hopes of boosting their capital levels so they be possible to begin lending again. Daniel Clifton, Washington policy analyst for Strategas Research Partners, says Treasury is considering starting the bank through $100 billion from TARP, then adding leverage from the Fed and the Federal Deposit Insurance Corp. so $1 trillion in funding is available to buy bad effects. Ultimately, he adds, Administration officials believe they could want up to $2 trillion.

Fixing the banks will within a little certainly require far greater quantity than $700 billion in TARP funds. Goldman Sachs (GS) analyst Andrew Tilton figures U.S. financial institutions will suffer more than $1 trillion in loan losses—about moiety of what one. have been recognized so distant. The problem isn’t simply with residential mortgages. Add in commercial real estate and other poorly performing loan categories, and the banks may hold more $5 trillion in "troubled assets" on their books, he says. New York University’s bearish economics professor, Nouriel Roubini, estimates that additional private and the community capital of $1 trillion to $1.4 trillion will be needed to recapitalize the banks.

Another idea essence considered by Treasury and White House officials would present itself banks federal guarantees that limit their losses steady depressing assets backed by dud loans, as through Citi and BofA. While this ability cost taxpayers as much as buying the banks’ assets, guarantees would allow the Administration to avoid the difficult and politically risky step of potentially overpaying for assets now trading at fire-sale prices. In extreme cases, authorities also could put principal directly into the banks in exchange for common right—pulling off a thinly veiled nationalization of the worst banks.

Analysts say a combination of remedies is likely. "They’ll need to create a mix of options," says Karen Shaw Petrou of Washington research firm Federal Financial Analytics. Prying more money out of Congress for expanded bank bailouts will be tough. Yet it’session hard to see the plan recovering without healthy banks. Getting there won’t come cheap.