Can we face the doomsday scenario?

As we continue on our seemingly unstoppable progression towards S&P ZERO, I have been asking myself what the doomsday scenario is, and whether it can be stopped at this point. Nouriel Roubini seemed to indicate a march to Dow 5000, and a couple of scenarios that spelled further declines from here, including a 36 month long recession. I actually found that prognosis somewhat optimistic, given what has been happening. But I am more concerned about the economy than the markets, so I'd prefer to see jobs, commerce, and real estate recover. The markets will follow suit, and even lead the parade, but it needs something to believe in.

Right now, there isn't the political will to impose a second stimulus, as long as John "the fundamentals of the economy are strong" McCain is going to get everyone riled up about the "ungodly amount" of $7B in pork barrel spending. This means that the only real remedy left may be to go big in the other direction. Companies do this all the time to manipulate their earnings. If they are going to meet earnings expectations, due to a good quarter, companies may take the opportunity to get some things off the balance sheet (goodwill, bad capital project expenditures from past years, etc). If they can't make their numbers, and are facing a bad quarter, companies can sometimes throw everything but the kitchen sink into the bad numbers, and just write off the result as a one time abysmal failure, and use the disaster as a springboard for future success. It's more risky, but we may be approaching this position as our alternative.

What does throwing in the towel look like? How's this scenario.

1. AIG is left to fail, sending shockwaves of liability exposure, and bad investment holdings across the world. Household named Insurers all take crippling hits to their surplus, and some have to simply go out of business.
2. Citibank and Bank of America are "nationalized", which is really more of a Chapter 11 receivership than anything. Further wealth (if anything is left) is wiped out for all shareholders. Smaller banks are taken over by the FDIC at a rate of 5-10 a week.
3. Chrysler is put into Chapter 7 (liquidation).
4. GM is put into Chapter 11 (reorganization), and comes out leaner, and possibly stronger. But as many as two million jobs are lost in the mix.

It's all possible. And as things get worse, these options become more and more of a potential reality. The question is, can we recover from such a scenario? This chain of events could lead to unemployment approaching 13-15%, Dow 2,500, A federal deficit in the $2-3 Trillion range, and that fails to even account for rising crime rates, diminished education options, and geopolitical fall out in places like Afghanistan, Russia, or even Mexico.

There are things the President and Congress can do. They can break mortgages, and offer 4% 30 year options for ALL homeowners. They can guarantee orderly bank reorganizations. They can continue deficit spending, and they probably will start to consider other alternatives, including tax cuts, or holidays. Health care reform probably won't come quickly, or provide an economic benefit right away, but putting the building blocks in place for a health care solution could help to speed the economic recovery, should that happen. And investors with money are starting to scoop up excess housing capacity, and equities. Companies that are truly bullet-proof will start to form the basis of a new economy. The investors who "got it right" will begin to rebuild wealth in the form of invested capital. The government can incentivize these investors and companies to put their money to good use, in the form of tax incentives.

But it is going to take time. My concern is that the train is already running over us right now. And we are just waiting until all of the boxcars finish leaving tire tracks on us. I'd like to see the President do more to try to get us off the tracks.