I know it's mostly bull, the hippie management bromide that "in Chinese, the word for crisis is danger plus opportunity!" I don't care. We're gonna go with it here. I see the current financial crisis as dangerous, but also a tremendous opportunity to fix a lot of things that have been broken for a very long time.

The "sophisticated" banking systems and capital markets that we're always flogging to developing countries are like nuclear reactors of the Chernobyl design. Sure, they are very powerful, very sexy. When they work they can light up whole cities, and that's gotta be attractive if you're sitting in the dark. But they have deep weaknesses, structural flaws, inconsistencies that are resolved only with generous applications of duct tape. Everything seems to work most of the time, but they are an accident waiting to happen. When an accident does happen, there is a story, perhaps a true story, about the particular screw-ups that were proximate cause. But focusing on those misses the point. We ought to get the engineering right before trying to operate the plant.

Financial systems are much more massive enterprises than nuclear power plants, and much more important. We need to redesign our financial system not only to be more robust, but to be more effective. Lost in the flamboyant pain of the current crisis is a quieter tragedy. We have misallocated natural and human resources on a vast scale over the past few years, and it won't have been the first time. The real economic meaning of financial losses in the housing sector is that hands and minds were squandered bulding houses when they should have done much better things. Timber was felled and oil wells pumped dry, and what we made turned out to be of less value than what we destroyed. We could have predicted and avoided that. A reasonable financial system would have predicted and avoided that.

Treasury Secretary Henry Paulson has mooted a variety of reforms in response to the present financial crisis. Reading through, those proposals amount to a rationalization of the hodge-podge institutions that regulate financial markets. That's not unwelcome, but it's not what's needed. It's like responding to the Chernobyl meltdown by issuing three-ringed binders filled with better procedures about how to manage the plant. Regulation can compensate for minor flaws. But it can't overcome a design that is structurally unsound. Our financial architecture is structurally unsound, so our task is not to rationalize the regulatory regime, but the financial system itself.

That will require changes far more challenging to incumbent firms than what Mr. Paulson proposes. Institutions that are too big to fail and/or capable of moving market prices unilaterally don't sit well with the theory of financial markets. Financial firms can be regulated utilities that handle essential plumbing but bear little risk, or they can be aggressive risk-seekers looking to play every angle and milk every opportunity. They cannot be both. The gentlemen at Mr. Paulson's alma mater may not like the implications of that, but the principle is correct regardless, and we ought insist that it not be fudged. The "Nationally Recognized Statistical Rating Organizations", and the constellation of professional norms and judicial safe-harbors that link their opinions to the behavior of institutional money are an abomination, a legal discouragement of the independence of judgment upon which accurate prices and market stability are based. Their special status simply has to go the way of the dodo. This has to go a lot farther than merging the SEC and the CFTC. Rather than placing our faith in the Fed as an ever-watchful superhero, saving us all when financial catastrophe strikes from outer space, we can and should better manage our affairs here on Earth to avoid those catastrophes in the first place.

These have been great times to be a cynic. But, at long last, appropriate cynicism is finally getting priced into the market. There's not much intellectual alpha left there. When this all washes out, we do want an informationally efficient, market-based financial system. It's time to start talking specifics about what we need to do to get there. Before very long, all options may be on the table. Let's have some good ones ready to go.