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SYNOPSIS:

MADDOW: For the last three weeks, Treasury Secretary Henry Paulson and others have warned that if Congress didn`t pass that $700 billion bailout, we would have an economic disaster on our hands. So the rescue bailout thing passed. The president scribbled it into law on Friday afternoon. And then, it`s not like things got a whole heck of a lot better. On Friday, after the bailout was signed into law, the Dow dropped 157 points. Today, the Dow dropped 370 points, bringing the index below 10,000 for the first time in four years. It could have been worse. At one point today, the Dow was down as much as 800 points. Banks are still not lending to banks. That is prompting the world`s central banks to pour massive amounts of money into a number of countries` financial systems. There`s also a pressure on the Federal Reserve and other major central banks to consider interest rate cuts. That deep sigh of relief on Friday afternoon due to Congress` actions, in other words -- it`s given way again to more wobbly (ph) need dread about what happens next. Tonight, I play proxy for everyone I know or know about. And here to try to talk me and the rest of us down is Paul Krugman, a "New York Times" columnist, professor of economics at the Woodrow Wilson School at Princeton. Paul Krugman, thanks for joining us, again.

PAUL KRUGMAN, NEW YORK TIMES: Good to be on, Rachel.

MADDOW: Do we look at today`s market and say the bailout didn`t work or do we look at it and say, wow, it would have been so much worse without that bailout?

KRUGMAN: You know, it could be both. But, you know, look -- a lot of people are looking at the Dow and that gets them really scared. But the professionals are looking at the credit markets and that have them even more scared. The truth is, what happens to the stock market is not that important. It`s just kind of an imperfect reflection of the platonic truth of what`s really going on in the credit markets which is really bad. They are completely frozen. The passing of the bailout didn`t do anything.

MADDOW: How do we, as non-economist but concerned citizens with or without money, how do we monitor what`s going on in the credit markets? What are the things that we should be paying attention to in order to know what the real indicators are?

KRUGMAN: Well, you know, there are -- it`s getting a little -- we`re all kind of scrambling now because it`s hard. These are -- we`re not used to tracking this stuff. I look a lot at the interest rates on short term U.S. government debt -- one month, three month treasury bills. The lower they are, the worse things are. If people are piling into these things because nothing else looks safe to them, that`s a bad sign. And they are very low. They are about as low as they were, you know, in the worst of the crisis last week. So, naturally they`re really bad. You will get -- I`m going to get too technical here, but, you know, there are a bunch of indicators and they all failed to approve after the bailout was passed. So, I thought we would be back at the drawing board in a couple months -- I`m now wondering if that`s more like a couple weeks or maybe a couple days.

MADDOW: Should the bailout have imparted new confidence to the credit market? Should the bailout have helped more than it did?

KRUGMAN: Well, the trouble with the bailout plan was it never really made sense. And they never explained why it would work. But the story was, well, you know, this is -- trust us, this will work and people will believe in it. And it will be kind of a self-fulfilling prophesy. And none of that happened. Some kind of bailout is needed. I think what they really need to do is go back to the drawing board. But this is a bad scheme. And, you know -- I`m pretty angry because it was clear from day one, when this started being discussed, that they did not have a clear view of why this thing was supposed to help and they stuck us with it. It would have been very dangerous not to pass it on Friday because who knew what would have happened. But it was the wrong bill.

MADDOW: If there is to be a new bailout, if one is needed.

KRUGMAN: Yes.

MADDOW: How would it be different? What would be bailed out differently than what has already passed and apparently not worked?

KRUGMAN: Well, this will have (ph), this was -- we`re going to buy some of these toxic wastes off the banks and that`s how it`s going to solve the problem. It wasn`t clear why that would help. What we really need is we need -- well, capital, the banks -- we need to put money into system. And in effect, what always happens of a financial crisis is a partial nationalization -- partial and temporary nationalization of the financial system. And that is, you know, I predict almost 100 percent confidence, that`s how it will end. But, you know, the Paulson treasury wasn`t willing to talk about that. So that -- something which puts money in. Something where the U.S. government is providing cash and it`s taking partial ownership shares in return. It is the way it`s going to have to go. And the question is: How long before they are willing to do that? And at the rate things are going, it might not be very long.

MADDOW: And how long -- yes, how long before the political reality catches up with what is the economic historical reality, I guess, is the situation?

KRUGMAN: You know, I`m having fantasies right now that as soon as the election is over, we`re going to have to have, you know, we can`t wait until January 20th. We may have to have, in effect, the incoming Obama team move into the treasury and start coordinating the rescue because this is going to be a very, very bad transition period, if we don`t do anything until we actually have a new administration.

MADDOW: "New York Times" columnist Paul Krugman, you have completely not gotten anywhere near Talking Me Down. But, thank you for joining us.

KRUGMAN: Sorry.

MADDOW: I appreciate it.

KRUGMAN: Thanks a lot.

MADDOW: I think it`s becoming a habit. We are a month into the Palin epoch and here`s what the latest poll numbers say. People find here feisty, and mavericky, and nice, and not remotely capable of being the president of the United States. In a little while, Pat Buchanan defends Sarah Palin. We give him the tough jobs because we know he can handle it.

Originally broadcast, 10.6.08