The situation in the U.S. currently appears to be like this:
  1. Everyone is used to paying for their houses and cars with loans.
  2. The U.S. tax system, in fact, is geared to encourage taking loans and discourage saving up and then buying. (I'd like to learn more about that; this is what I heard.)
  3. Banks have made investments for which they are now not sure to what extent they will be repaid. Each individual bank is therefore compelled to abstain from loaning and to bulk up on capital until they know what their situation is.
  4. Since most banks are in the same situation, however, most banks are abstaining from loans, and people cannot get financing for their large purchases.
  5. In a no-loan environment, it will take years before most people save up enough money to buy houses and cars with cash. When they do, the houses and cars bought this way will tend to be smaller and more economic.
  6. In the meanwhile, as most people have neither loans nor savings, houses and cars aren't getting sold.
  7. Houses and cars not being sold causes prices to fall, people to go out of work, incomes to drop, and therefore even less houses and cars to be sold.
  8. As real estate prices drop, the number of people who will walk away from their mortgages rises.
  9. As more people walk away from their mortgages, there are more foreclosures.
  10. Banks lose money on foreclosures, so therefore, the worse the real estate market gets, the more threatened the banks feel, and the less likely they are to lend.
In this situation:
  • Tax cuts won't help. The state of the economy is such that people will place most of that money into banks, who won't lend it, so it will lay dormant.
  • Stimulus can help a little bit, as long as it is spent paying people who will actually spend most of it, i.e. people who would otherwise be unemployed. Even so, any multiplier effect will be minimal, because after a couple of transactions, the money will just get stuck in banks again. Also, if stimulus is spent on paying people who would otherwise have jobs regardless, it's being wasted; that money will get stuck directly in banks.
But neither stimulus nor tax cuts address the crucial part of the problem, which is that money is getting stuck in banks. What the banks are experiencing is in fact a coordination problem. For any individual bank, it makes sense to wait and see, for fear of a catastrophe. But when all the banks are doing this, the fear of catastrophe is self-fulfilling. In order to avoid this, banks therefore all have to be made to start lending at the same time. There is only one entity that can arrange this, and that is the U.S. government.

Banking shares are already trading at next to zero, and will approach zero along with the rest of the economy if the situation continues.

Therefore, the U.S. government should probably nationalize banks in the short run, make them lend, and then as soon as the economy recuperates, turn the banks around to the highest bidder.