The Rescue Plan: What It Will and Won't Do

Raising Capital and Confidence

In return for its investment in the banks, the government will receive preferred shares – stocks that don't come with voting rights but do get paid out ahead of common shareholders if a company goes bankrupt – from the banks.

According to the plan, banks will pay the government a 5 percent return on the investment – a dividend – annual for five years. At the end of the fifth year, the dividend requirement jumps to 9 percent. The government will also have the option to buy common stocks from the bank.

Participating banks will be subject to executive compensation limits set by the government.

Proponents of the plan say it will make banks more confident about lending to each other because each will know that the other has sufficient capital to cover its debts. And, they say, it will stabilize the banking system enough that banks will feel comfortable lending to consumers and businesses again.

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The government hopes that the moves will aid banks in their search for private investment.

"Our goal is to see a wide array of healthy institutions sell preferred shares to the Treasury, and raise additional private capital, so that they can make more loans to businesses and consumers across the nation," Paulson said in a news conference Monday. "The needs of our economy require that our financial institutions not take this new capital to hoard it, but to deploy it."

As the Treasury Department takes steps to encourage lending, the Federal Reserve is attempting to fill the needs of businesses that have had trouble securing loans: The Fed is buying commercial paper – the short-term debt many businesses use to finance day-to-day operations.

The Federal Deposit Insurance Corporation, meanwhile, is temporarily insuring the loans banks make to each other and has also expanded its guarantee of bank deposits to include all non-interest bearing accounts, including those worth more than $250,000 – a move that also targets businesses.

Rescue Plan Questions

Despite the government's assurances, myriad questions remain about the scope and consequences of the plan. While some experts say they're confident that the plan will ultimately ease the credit crunch, others, including Rogoff, aren't so sure.

"It doesn't necessarily get people lending again," he said. "It keeps the system from collapsing."

Alan S. Blinder, an economics professor at Princeton University and a former vice chairman of the Federal Reserve, said he would have liked to see the government's plan tied to pledges by the banks that they would resume lending.

"These institutions, like many other people, are traumatized by what's gone on," he said. "Since the capital injections didn't have any requirements about expanding lending, maybe the banks won't expand lending or won't expand it much, so the hopes that some people have had that this is really the way to get lending going again might be dashed."

Even if the plan succeeds, some argue that the government won't get the most bang for its buck.

Gerald O'Driscoll, a former vice president at the Federal Reserve Bank of Dallas and a senior fellow at the Cato Institute think tank, compared the government's 5 percent dividend requirement with that recently negotiated by billionaire investor Warren Buffett. Last month, Buffett's Berkshire Hathaway company agreed to provide Goldman Sachs with a $5 billion investment in return for a 10 percent dividend return.