Will Pittsburgh, with its historical role in two American industrial revolutions, remain a leader in revitalization? Or will it be have to carry the extra burden of uncompetitive national policy?

The first revolution, perhaps a product of geographical chance, made the city and the nation a manufacturing powerhouse. The second, resulting from a tremendous act of will by the people, remade Pittsburgh into a great research and development (R&D) center that could help lead us out of the current recession. These hardworking Americans are going to need smart policy from Washington if their technology revolution, and efforts to emulate it across the country, are to continue.

For many years now, there has been too much talk inside the beltway about pro-innovation economic policies and too little action. Case in point: Congress has yet to take action to extend the R&D tax credit, due to expire at the end of 2009, that is so vital to the U.S. keeping its innovation edge and helping other cities do what Pittsburgh accomplished – achieve economic revitalization.

R&D creates new industries and products, new solutions to our toughest challenges and many new jobs. In Pittsburgh, R&D and testing labs account for the second highest category of high-tech employment, generating thousands of good, high-paying jobs, according to TechAmerica’s latest Cybercities research. Nationwide, at least 70 percent of R&D investments are spent directly on employment.

This tax credit applies only to R&D performed in the United States, and it stands as the only broad incentive offered by the federal government for private-sector investments in R&D. Without it, many companies based here might not chose to make potentially risky R&D investments because the return on those investments would be insufficient. Meanwhile, other countries around the world offer much more robust incentives to lure companies to their shores.

America’s tax credit, once a world-leading policy, is now comparatively modest – especially when you consider that in the long-term, nearly two dollars are generated for every dollar of tax benefit. To bolster the U.S. economy and create jobs, Congress should strengthen the credit and make it permanent.

Certainly at a minimum, Congress should provide companies with a multi-year extension so that companies can consider it when making hiring or investment decisions. The credit has been allowed to elapse time and time again, and there appears to be little chance that it will be reauthorized before it does so again on December 31, 2009.

Just as President Obama has pointed to the re-invention of Pittsburgh, he has recognized the threat posed by our seeming indifference to R&D.

“It is only by building a new foundation that we will once again harness that incredible generative capacity of the American people,” the president said earlier this year. “All it takes are the policies to tap that potential — to ignite that spark of creativity and ingenuity — which has always been at the heart of who we are and how we succeed.”

Strong words. And now bold action is called for – we need those policies in place now, beginning with the R&D tax credit. We are not asking the government for a handout, but the means for ensuring the U.S. global competitive position so that the “ecology of innovation” flourishes in America once again. That’s just smart policy.

An Ernst & Young study found that the credit has spurred $6.4 billion in investments across 18,000 companies in all 50 states. In 2008, that should have led to $18.6 billion in new economic activity. Instead, companies were faced with a nine-month lapse of the credit, jeopardizing as much as $51 million in growth – and 388 jobs – per day.

This is not an America-first rally cry. The world has changed. It is a more inter-connected place. Not long ago there was no G20, just the G8. With the G20 nations from around the world meeting in Pittsburgh to discuss pressing economic issues, now is the time for Americans to re-examine our priorities and ask ourselves how we went from offering the most lucrative R&D tax credit in the world to the 17th most attractive, behind many of the other countries present at today’s summit.

America’s renewed leadership in R&D can help drive the economic recovery. Just as America, in cities like Pittsburgh, worked itself and the world out of the darkness of the Great Depression, a national commitment to R&D can and will allow us to innovate our way out of the current dimness into a new dawn.

The best choice by far would be the creation of a new value added tax -- a "money machine" that can bring in huge sums with relatively little effort. America is alone among rich nations in not charging a VAT, and its continued unwillingness to do so will make it harder to cope with the fiscal challenges ahead.

Giving birth to a new tax will certainly not be an easy sell. The stunning 1980 reelection defeat of Al Ullman, the powerful chairman of the House Ways and Means Committee who had advocated a VAT, is still a warning to American politicians.

The timing of a new tax on consumption may also seem suspect. Aren't we supposed to be getting Americans back into the malls?

VAT, however, is worth the risk. It could yield enough money to pay for healthcare reform, as well as a meaty cut in income tax and a reduction in the deficit. It could also be done without destroying Obama or the Democrats.

Unlike taxing the rich -- which has emerged as a favorite strategy of many Democrats -- a VAT is extremely easy to collect. This is partly because it is gathered from each producer in a chain.

Take bread. The farmer, miller, baker and grocer all pay their share of the tax. If the grocer cheats, the government loses only a quarter of its tax. Furthermore, each producer has incentive to make sure its suppliers have paid VAT. The miller becomes liable for the farmer's share of VAT unless he can prove the tax has already been paid. VAT collection polices itself to a large extent. The sums of money that could be raised are immense, making it easier to strike a political compromise. Exactly how lucrative VAT would be depends largely on which goods are exempt.

Canada, for example, gives up about a third of potential revenue by excusing food, drugs and transportation from the tax. Even if the United States did the same, a 10 percent tax rate could raise $500 billion a year, according to Eric Toder, an analyst at the Tax Policy Center.

Raise the rate to 15 percent and you get $725 billion. (In comparison, income taxes are expected to yield $968 billion this year.)

This might be hard to square with President Obama's commitment not to raise taxes on anyone making less than $250,000 a year. VAT is a regressive tax -- eating up a larger share of the income of lower wage groups.

This could be offset through the income tax system. In addition, there would be a natural counterbalance if the tax were used to fund an expansion of healthcare. With current health proposals expected to cost around $100 billion a year, there would be plenty of money to spare.

Obama could also borrow a trick from Margaret Thatcher, who used the proceeds from almost doubling VAT to slash British income taxes. A 15 percent VAT would give Obama tremendous leeway to simplify a Byzantine income tax system and to cut rates.

And introducing a VAT need not derail economic recovery. Indeed, if the tax were introduced with a six-month delay it could even provide Americans with an incentive to bring forward spending.

America cannot temporize forever. The aging population will demand both painful spending cuts and tax increases. If the burden is placed on income taxes alone then any increase in rates will be monumental.

When politicians finally confront the looming fiscal crisis, a VAT would be an invaluable tool.

Cash-strapped politicians are more willing to play Robin Hood than at any time in a generation. Tax rates on the rich may soon hit levels not seen since the 1980s.
The wealthy, alas, are not easy prey. Backed by highly paid lawyers and accountants, no other group is better able to run circles around the taxman. As a result, America’s politicians may get less cash than they bargained for and more economic distortions.

There are many easier and less disruptive ways to get the cash.

Of course, the temptation to launch a direct strike on the rich is understandable. The past three decades have been very good to the affluent. The top 1 percent of earners now account for 19 percent of America’s income, up from 9 percent in 1980. This elite group has also been quiescent, dutifully paying 40 percent of all income tax, according to the non-partisan Congressional Budget Office.

It has been many years since the rich had a powerful incentive to test the limits of the tax code. The top rate of income tax has fallen with only minor interruptions since its vertiginous peak of 92 percent in 1953. But a foretaste of what might be expected was offered by Maryland’s ill-fated creation of a millionaires-tax bracket in 2008.

A year later 1,000 millionaires had disappeared — a third of the total — and revenues from this group had fallen by $100 million. Some may have left the state while others may have found ingenious ways to reduce their reported income.

The U.S. tax code is replete with legal dodges for the wealthy, whether you are a top executive, independent business owner or the lucky recipient of inherited wealth.

Well-paid salaried employees often have considerable leverage over how they are paid. For this group, tax-efficient fringe benefits — including lavish health plans, and use of the corporate jets and other perks — may increase. Stock options may become more popular still, enabling employees to defer tax until they retire and have lower incomes.

Business owners have even more flexibility and can deliberately muddle personal and business consumption. And as income tax surges above corporation tax, business owners may choose to pay themselves risible salaries, locking up their wealth in their companies.

The wealthy may also choose investment strategies that avoid income and maximize capital gains, further reducing potential tax revenues. The capital gains tax is preferable because there is flexibility in when gains can be taken. Tax-exempt municipal bonds could also become more popular.

Significantly higher taxes on the wealthy, then, could reduce tax reduces while encouraging businesses to waste more money on executive perks. Such unintended consequences could undermine efforts to stabilize the financial system. Politicians should avoid this lazy and wasteful solution.

Tidying up the fabulously complex tax system and closing loopholes could raise just as much money and be easier to market politically. Many of these measures have the advantage of extracting cash from the rich in ways they will find harder to avoid.

Scrapping the tax exemption of municipal bonds would eliminate a favorite haven for the wealthy.

Reducing or eliminating the gulf between income and capital gains — as Ronald Reagan’s 1986 tax reform did — reduces sharply the opportunity for hiding money.

A number of other quirks in the code also primarily benefit upper-income groups — including breaks on employer-provided healthcare, mortgage interest and state and local tax.

For the less progressively minded, the gradual imposition of value-added tax, as proposed by Bill Gale at Brookings, could raise a great deal of cash in the future while actually encouraging people to spend now.

A clumsy increase in top rate taxes, by contrast, will mainly be a bonanza for tax accountants and lawyers.

It’s April 15, and you’ve finished the arduous task of filing your taxes. You’ve found your W-2 form from your employer, your pennies of interest income from your checking account. If you itemize, you’ve tracked down the acknowledgement of your charitable contributions to the church, the Sierra Club, and the local anti-poverty organization.

The system is so complex that it may have contributed to the tax delinquencies of four Cabinet-level Obama appointees (or their spouses) who had to pay up to win Senate confirmation. At least two other Obama choices withdrew because of their tax problems.

President Obama recognizes the problem. Today he asked his Economic Advisory Board, under the leadership of former Federal Reserve Chairman Paul Volcker, to send him recommendations for tax simplification by the end of the year.

Enter Wisconsin Representative Paul Ryan, a member of Congress for 10 years and now the ranking Republican on the House Budget Committee. In H.R. 6110, entitled “Roadmap for America’s Future” (www.americanroadmap.org), he has proposed a radical simplification of the tax code.

Mr. Ryan describes the tax system as “needlessly complex and burdensome.” In contrast, he writes, “a world-class tax system should be simple, fair, and efficient. The U.S. tax code fails on all three counts.”
Under the Ryan proposal, couples would pay tax at a 10 percent rate on their first $100,000 of taxable income ($50,000 for singles), and then 25 percent on any earnings above that. They would pay a 15 percent tax on capital gains and dividends, and no tax on savings. In exchange, they would give up almost all deductions, including home mortgage interest and charitable contributions.

The only deduction allowed would be a refundable $5,000 tax credit for families and $2,500 for individuals to help with the purchase of private-sector health insurance. Health insurance could be purchased in any state, to encourage more companies and plans to participate.

Many efforts to simplify the tax code have failed because people are attached to their deductions — and because Congress seeks to use tax law to achieve social goals, such as home ownership and helping low-income parents with the earned-income tax credit, a stunningly complex provision.

Moreover, charities and universities fear, probably with good reason, that if contributions are not deductible, people will give less.

To disarm the opposition, Mr. Ryan would give taxpayers a choice. Within 10 years of the passage of the law, they could choose today’s system, with its multiple rates and deductions; or they could adopt the simplified Ryan system, giving up the deductions. To prevent people from switching every year if it would benefit them, they could change only once in a lifetime — except in the case of what Ryan calls “a life-changing event,” such as death, divorce, or marriage, when an additional change would be permitted.

Mr. Ryan’s proposal is a variant of the flat, or one-rate, tax suggested in the Reagan era by some economists and advocated in the 1980s by then House Majority Leader Dick Armey, and later by Steve Forbes in his 1996 and 2000 bids for the Republican presidential nomination.

Then, the main attack on the idea was that it is inequitable. However, Mr. Ryan’s tax contains not one but two rates, and it is progressive because it retains standard deductions and personal exemptions. A family of four would start paying tax only after earning $39,000. Further, many upper-income people benefit from existing deductions, and they would lose this benefit if they adopt Ryan’s two-rate tariff.

No tax proposal offered by a minority member of Congress of either party ever has any chance of passage. Political loyalties aside, the American public might want to take a careful look at Mr. Ryan’s proposal, while memories of filling out their tax forms are still fresh.

- Robert Engle is the Michael Armellino Professor of Finance at New York University Stern School of Business and a Nobel Laureate. His views are his own. -

We have faced energy crises before. The last energy crisis was about running out of oil. This one is about the fear that we might not. The future health of our planet is jeopardized by the greenhouse gases emitted by our industrial society. But can we afford an expensive energy policy in this time of economic distress?

The simplest and best solution to reducing emissions is thought by most economists to be a comprehensive tax on the emission of greenhouse gases. Only in this way will individuals and businesses that avoid the tax be doing what is socially desirable. Only in this way will it become profitable to find substitute energy sources; no longer would it be necessary to subsidize alternatives. The price of oil will rise naturally when we begin to run out, but in this proposal, the price would rise before we reach the bitter end. It is only a matter of timing.

However, a tax is generally considered politically impossible and in this time of deepening recession, it is especially unpalatable. But what about the money - what happens to the money that is raised by this tax? This revenue could be divided evenly among all U.S. residents and sent out in a periodic cheque. This check could even be sent before the tax revenue was received. A substantial emission tax would generate a substantial check. This could be used for anything but might well be used to buy a more fuel efficient car, insulate a house, move closer to work or otherwise reduce the impact of the impending tax.

Because this tax would be returned to consumers, it would stimulate the economy. The sectors that might expect benefits would be automobiles, construction and real estate. These all can use good news. Because of the per capita redistribution, this would be particularly beneficial to low income groups who would pay less than an equal share of the taxes. Because the tax would reduce our consumption of oil, we would be sending fewer petrodollars abroad and instead returning it to Americans.

We already know that high oil prices induced dramatic changes in our economic behavior which had clear benefits for reduced emissions. Driving miles fell, sales of SUVs fell and the only growth areas of automobile sales were in small cars. Housing prices fell more in the distant suburbs than in the central cities, and public transportation rider ship increased. But these gains are now being reversed as the price of oil has dropped dramatically.

In order to achieve the long term climate benefits, it is necessary to insure that there is a permanent shift in the price of emissions rather than a temporary shift. Car buyers, home buyers, builders, public transportation planners and alternative energy producers will reverse their decisions and reduce their investment and research unless they are assured that oil prices will stay permanently high.

When the recession is over, it no longer makes sense to redistribute the tax revenue. Instead, the revenue could be invested in a sovereign fund, passively managed and dedicated to the major unfunded social costs of the upcoming decades – social security and Medicare. The fund should be managed by a semi-independent agency much like the Federal Reserve. This agency would monitor the progress on reduction of greenhouse gasses and recommend adjustments in the surcharge.

One policy will solve both global warming and long run fiscal deficit. Workers several decades from now will not have to be taxed so heavily to support social security and they will not have to be taxed so heavily to solve climate change. The long run risks offset. Essentially the tax on income and payroll is replaced by a tax on carbon. The tax is placed on a “bad” rather than a “good.” Today’s working generation will in part save for its own retirement out of this tax revenue.

What happens if we are wrong? Suppose the planet is able to fix itself. Suppose we find an inexpensive way to sequester carbon dioxide. Then would we have broken the economy for no good reason? The answer is that we would have stimulated the economy in the recession, saved the social security system, improved our balance of payments and increased the time until we exhaust the world’s petroleum. This is not a bad outcome.

Dear President-Elect Obama,

In the final days leading up to your election, we heard a lot about what you were going to do to help small-business owners. Now it’s time to pony up. Not sure where to start? As someone with the audaciously bad timing to launch my website, nameberry.com, on October 14, I have some ideas:

Start a web-based work initiative
Taking a cue from FDR’s bold work initiatives in his first 100 days, you might train people to work on small web businesses like mine. Instead of the CCC (Civilian Conservation Corps), call it the WWW Camp, where laid-off mortgage brokers and moms craving flexible hours can learn software coding and database management and website design. The result: More jobs in northern Vermont and southern Virginia; more accessible and affordable help for the new generation of small web-based business owners like me.

And while you’re at it, improve the Internet infrastructure
You’re planning to spend billions on highway improvements, but what about the Internet infrastructure? Spending money on roads promotes more driving, which uses fuel and increases our carbon footprint, while investing in the next generation of technology encourages people to stay home and spend more time on the web. That’s good for me and all the other web startups.

Bring the Small Business Association into the 21st century
I’d love it if the SBA was dealing with 2009 businesses like mine along with coffee shops and dry cleaning stores. The kinds of issues I faced starting my business – finding a talented and affordable designer, figuring out search engine optimization, driving traffic to my site – aren’t even addressed at sba.gov.

Help the midcareer worker retool
My degree in journalism helped me launch a career as a magazine editor and writer and book author, but I wasn’t sure where to turn for my new educational needs in this economy. Who was going to teach me how to embed video on my blog – and then how to get out there and promote the thing? Where was someone accustomed to working alone going to learn how to motivate and manage a team – especially without money in the picture? I figured it out myself, but education and training efforts aimed at the midcareer worker looking to launch or renovate a small business, or stay vital in a larger corporation, would be wonderful.

Challenge Google
At the risk of angering the Great God Google, I think you should look into wresting back control of the Internet and putting the public interest above secret algorithms or pay-for-play. There are thousands of newly-unemployed journalists ready and able to make editorial judgments on the value of websites based on quality and not on the number of times they can cram certain keywords into their copy. Bring back real intelligence and expertise to everyday research.

Champion more entrepreneurs
You got a lot of political mileage out of Joe the Plumber, and made him famous in the process. But how many sinks can one plumber plunge? Referring to me as “Pam the Baby Namer” would drive millions of parents in search of excellent names for their babies – Barack, anyone? – to my small business.

Make government relevant to small business owners again
I’m not worried about my taxes; I’m worried that my business won’t make any money at all and, even with minimal expenses, we’ll have to close shop. I’m worried that, even if we can afford to pay a salary, the cost and trouble of paying social security and medical insurance will mean we can’t hire someone. I’m worried that, without affordable sources of money – including my diminishing home equity and my own IRA – my business will stay small forever.

Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke have been behind the curve in dealing with the breakdown in the banking system and financial markets. All of their initiatives have had only limited impact as they persist in treating the symptoms and not the cause. We are in the early stages of a severe global recession. It is critically important to take more aggressive steps.

The most vexing variable in this entire crisis has been the value of underlying collateral. Any remedy, therefore, is ineffective unless we acknowledge first that the fate of the collateral lies in the hands of the borrowers. Thus, it is imperative that triage measures be taken without delay to ensure the survival of the mortgagors.

Recent government decisions assume that the banking system and financial markets are the center of the universe. Thus all efforts are focused squarely on these areas to the gross disadvantage of our citizenry. Paulson and Bernanke have clearly opted to address the current crisis by pouring ever-increasing amounts of money into the banks with a view towards boosting lending activity. With other financial entities, such as AIG, they have enacted similar liquidity enhancements in a gambit to forestall the forced dumping of illiquid securities, which they believe would threaten the entire global financial system. A functioning banking system is required; but so far official efforts have failed to seize an opportunity to shore up both the mortgagees and the mortgagors.

Personal income tax relief offers a solution that would benefit both targets. The tax-deductible allowance on all home mortgage interest on principal residences should be meaningfully expanded beyond the amount of the interest for a period of at least three years, with the greatest multiple awarded to households in the lowest tax brackets. For a family in the 20 percent bracket, a deduction of four times its mortgage interest would effectively cut their mortgage interest cost by 80 percent. This tax incentive would serve to keep families in their homes from a pure financial-relief viewpoint. It would also entice prospective buyers to buy a home without further delay.

Housing prices would start to stabilize and “bad” mortgages could ostensibly be nursed back to health, having an immediate, positive impact on lenders’ balance sheets. This Mortgage Interest Relief Plan would eliminate the need to transfer risk unnecessarily and unjustly to the back of the U.S. taxpayer. By implementing this plan instead of yet another Washington-originated, one-by-one refinance initiative, any fear-mongering suggestion of an expropriating action by the US government would be silenced permanently. Washington would also be able to recoup some of the credibility it has lost, as both homeowners and Wall Street will be in a position to offer kudos instead of scorn.

There are, of course, significant details to be worked out. But key here is that the plan be executed with a blanket approach. This broad scope removes from the equation the complaint that only bad behavior is rewarded along with other perverse conditions as set forth in earlier government programs. It has the forward benefit, too, of acting as a deterrent to the spread of foreclosure fever further up the socio-economic ladder; in a protracted global recession prime loans also fall under pressure.

Non-mortgagor taxpayers can be compensated with enhanced stimulus checks from Treasury, further facilitating the equitable nature of the proposal with a view towards jump starting consumption across the board. And by using the IRS to effectuate and monitor the process, it can be implemented expeditiously and relatively simply.

There would be substantial benefits to the financial system also. Rather than having Treasury or the Fed buy or lend against distressed mortgage-backed securities (much of which will turn out to be worthless), keeping people in their homes and current on their mortgages will raise the value of those securities and bolster cash-flow to their holders. The effect would be enormously positive, directly and indirectly, to the entire financial system and would substantially raise confidence levels. Instead of trying to control the smoke, we could start to put out the fire.

The cost of this program in lost tax revenues would be enormous. However, the amount of money that the Fed and Treasury are pouring into the financial system is already huge. While these recent initiatives are producing a tremendous amount of resentment as the costs to the taxpayer mount, they are producing very little bang for the buck. This Mortgage Interest Relief Plan may turn out to be both less costly and more productive than the current economic “rescue” program.

Financial systems run on confidence, and confidence has vanished abruptly. People are afraid to buy a home and they are panicking out of the markets. Speed is critical. We cannot wait for the current program to produce results, if it ever will.

A radical expansion of the mortgage-tax deduction is a blunt tool, but so is a sledge hammer. This forceful, proactive initiative puts the money where it is most needed – in the hands of individuals. It could be the shock treatment that both the economy and the financial system desperately need right now.

That was the message from the Republican presidential hopeful Wednesday as he focused again on the differences in his tax proposals and those of Democratic rival Barack Obama.

The Arizona senator has hammered Obama in recent days for a philosophy of spreading Americans' wealth around, articulated by the Illinois senator in a now famous exchange with an Ohio man dubbed Joe the Plumber.

McCain promised at an outdoor rally with an enthusiatic crowd he and his running mate, Alaska Gov. Sarah Palin, would not make people or businesses send more money to the federal government.

"Sarah Palin and I will not raise your taxes, my friends," he said. "We want you to get wealthy."

Palin weighed in on the theme, too, calling Obama "Barack-the-wealth-spreader" and warning the crowd: "You have to really listen to our opponent's words because he's hiding his real agenda of redestributing your hard-earned money."

The Obama camp was unmoved. At a press conference, the Illinois senator brushed off the charges as just another attack strategy by his rivals. "They have been trying to throw whatever they can up against the wall to see what sticks, and this is their latest version," Obama said.

Click here for more Reuters 2008 campaign coverage:

Photo credit: Carlos Barria (McCain, with wife Cindy, reacts to supporters in Harrisburg, Pennsylvania

The past month’s turmoil in U.S. and global financial markets has spawned several articles tolling a death knell for capitalism. Some said that the crisis is proof that capitalism never worked, others opined that the solutions to the problems will end capitalism.

To paraphrase Mark Twain, reports of capitalism’s death are greatly exaggerated. Although Washington is using non-market solutions in an attempt to unfreeze the credit markets, they have not succeeded, and are unlikely to be permanent. The next administration, Republican or Democratic, might take over more of the economy. But if one country in our global economy proceeds down an unsuccessful socialist road, others will demonstrate the effectiveness of capitalist measures—just as America led the way with tax cuts in the 1980s.

The present crisis started not because capitalism was allowed to run its selfish course, but because the government interfered with the operation of private businesses and allowed excessive growth of money and credit.

Take housing, where the crisis began. The government interfered with private decision-making by requiring banks to make loans to people who could not afford them, through the 1977 Community Reinvestment Act. It forced banks to improve lending and service to borrowers in poorer neighborhoods, including people with poor credit histories. Some of these borrowers only qualified only for subprime mortgages, which had introductory low rates that eventually rose.

In another example of government interference, Fannie Mae and Freddie Mac were given implicit government guarantees, letting them borrow at favorable rates. The rationale given by both mortgage companies was that this was the way that less-affluent Americans could get homes of their own—housing that they could not afford under otherwise. While the government was pressuring financial institutions to increase lending, the Federal Reserve was lowering interest rates to try to avoid a recession after the terrorist attacks of September 11. This vast expansion of money and credit had to go somewhere—and it went into an inflation of housing prices of horrendous proportions, the real estate bubble that eventually burst.

The mission of the central bank is to keep a sound currency. The Fed failed.

The cause of the problems was not capitalism, so it cannot be said that capitalism was unsuccessful.

The remedial actions that the government is taking are not capitalism either. The collapse of the bubble and the effects on subprime mortgages and the economy led to additional government intervention of another type. Some institutions, such as Bear Stearns and AIG, were propped up; others, notably Lehman Brothers, were allowed to fail. The Federal Reserve opened its discount window to investment banks, an unprecedented step, and now stands ready to buy commercial paper. The Treasury’s recent insistence that nine major banks accept an infusion of official capital—government money—is extraordinarily dangerous. It’s one matter to have credit available if private institutions choose to draw on it, and yet another to require them to make the government part-owners, even if temporarily.

If the recent government actions had solved the problem, and the Treasury planned to continue as the owner of preferred bank stock, then capitalism could perhaps be said to be dead. But neither of these is true. Global markets have signaled over the past two days, despite today’s 400 point rise in the Dow, that confidence has not been restored. And President Bush has emphasized that the Treasury measures are temporary. Professor Allan Meltzer of Carnegie Mellon University has proposed a capitalist solution—just let the defunct firms fail, and the healthy ones purchase the assets, along the model of the Wells Fargo takeover of Wachovia (despite Uncle Sam’s attempted Citibank deal). This would be capitalism. Perhaps it’s time to give it a try.

You can contact the author at dfr@hudson.org