center for the history of political economy summer school june 2014
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Milton Friedman Rutgers BA Fellowship at Columbia Homer Jones (quantity theorist) Arthur Burns (NBER business cycles) Fellowship at Columbia Harold Hotelling Chicago Graduate Study Henry Schultz New Dealer University of Wisconsin World War II Treasury statistician Chicago Professor 1946 replaced Viner Milton Friedman (1912-2006), Nobel Laureate (1976) Center for the History of Political Economy Summer School June 2014TRANSCRIPT
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Center for the History of Political Economy Summer School June 2014 1
History of Modern MacroeconomicsLecture 3.6 The Monetarist Counter-
Revolution (1956-1982)
Kevin D. HooverDepartment of EconomicsDepartment of Philosophy
Center for the History of Political EconomyDuke University
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Center for the History of Political Economy Summer School June
2014 2
Milton Friedman Rutgers BA
Homer Jones (quantity theorist)
Arthur Burns (NBER business cycles)
Fellowship at Columbia Harold Hotelling
Chicago Graduate Study Henry Schultz
New Dealer University of Wisconsin World War II
Treasury statistician
Chicago Professor 1946 replaced Viner
Milton Friedman (1912-2006), Nobel Laureate (1976)
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Center for the History of Political Economy Summer School June
2014 3
Chicago – the Older GenerationFrank Knight 1885-1972
Jacob Viner 1892-1970Henry
Simons 1889-1946
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Center for the History of Political Economy Summer School June
2014 4
Chicago – Friedman’s Generation
Stigler, Friedman, Galbraith
Aaron Director (1901-2004)
George Stigler (1911-1991), Nobel Laureate
(1980)
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Center for the History of Political Economy Summer School June
2014 5
Friedman and Consumption
PhD Thesis: Income from Independent Professional Practice with Simon Kuznets (1945)
permanent-income hypothesis
A Theory of the Consumption Function (1957)Simon Kuznets (1901-
1985), Nobel Laureate (1971)
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Center for the History of Political Economy Summer School June
2014 6
Key Works in Friedman’s Revival of the Quantity Theory
of Money “A Monetary and Fiscal Framework for Economic Stability” (AER 1948)
Methodology: “The Marshallian Demand Curve” (1948) “The Methodology of Positive Economics” (1953)
“The Quantity Theory of Money – A Restatement” (1956)
The History of Money (with Anna J. Schwartz): The Monetary History of the United States (1963) Monetary Statistics of the United States: Sources,
Methods (1970) Monetary Trends in the United States and the
United Kingdom (1982)
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Center for the History of Political Economy Summer School June
2014 7
“The Quantity Theory of Money – A Restatement” – 1
Cambridge Quantity Equation: MV = pY Causal claims:
long run theory of price short run theory of nominal income money at deep level independent of V, p, Y
endogenous (e.g., gold standard or accommodation)
exogenous (e.g., fixed policy rule) V independent of M, p, Y
Classical dichotomy
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Center for the History of Political Economy Summer School June
2014 8
“The Quantity Theory of Money – A Restatement” – 2
Downplays causal formulation Allergic to causal formulations see Hoover, "Milton Friedman’s Stance: The
Methodology of Causal Realism,” in Mäki, editor, The Methodology of Positive Economics: Milton Friedman’s Essay Fifty Years Later (2009)
Quantity theory as a theory of money demand (= 1/V) V not constant nor infinitely malleable stable function of a few variables
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Center for the History of Political Economy Summer School June
2014 9
The Transmission Mechanism
↑MS > MD Y, p, r, or other factors until MD = MS: whatever it takes
more specifically, through asset yields investment (including consumer durables)
pace Patinkin: little emphasis on real-balance effects
the “black box” cf. Keynes on transmission:
↑MS > MD ↓r (long bond rate) ↑I
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Center for the History of Political Economy Summer School June
2014 10
The Pragmatic Impulse
Legacy of institutionalism “Marshallian” method in action:
don’t get bogged down in unmeasurable details
choose categories for greatest illumination
Transmission mechanism: complex process, impossible to detail precisely, long and variable lags simple policy rules
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Center for the History of Political Economy Summer School June
2014 11
The History of Money
The Monetary History of the United States, 1867-1960 (1963) – short run
Monetary Statistics of the United States: Sources, Methods (1970) – data
Monetary Trends in the United States and the United Kingdom (1982) – long runAnna J. Schwartz (1915-
2012)
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Center for the History of Political Economy Summer School June
2014 12
The Monetary History of the United States, 1867-1960
Goal 1. Establish causal dominance of money in the short run
Goal 2. Document effective policy
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Center for the History of Political Economy Summer School June
2014 13
Causal Strategy
C E A B D F
If relationship of A to B stable under variations in C and D, but not under variations in E and F, then A B
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Center for the History of Political Economy Summer School June
2014 14
Money Causes the Real Economy and Prices
Careful documentation of stability of quantity equation under changes in money supply regime: 1867-1879 “greenbacks” 1879-1914 gold standard 1914-1933 Federal Reserve under gold standard
(discount policy dominates) 1933-1941 off domestic gold standard 1942-1953 Treasury fixes short and long interest rates
(1945 on Bretton Woods agreement) 1953-1960 Federal Reserve “bills only” policy (open-
market operations and interest-rate policy dominates)
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Center for the History of Political Economy Summer School June
2014 15
Effective Strategy: Monetary Control
Endogenous and exogenous regimes gold standard (= exchange-rate target) real-bills doctrine monetary target
Tight money supply control 100% reserve requirements no feedback rules target M not r or real quantities
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Center for the History of Political Economy Summer School June
2014 16
The Great Depression as the Test Case
Benjamin Strong would have saved us from the Great Depression
Peter Temin, Did Monetary Forces Cause the Great Depression (1976)
Benjamin Strong (1872-1928)
Peter Temin (1937- )
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Center for the History of Political Economy Summer School June
2014 17
Econometric Battles
On the relative efficacy of monetary and fiscal policy Commission on Money and Credit:
Friedman and Meiselman on stability of V Ando, Brown, Solow, and Kareken on the relative lags
of monetary and fiscal policy and on timing artifacts The “St. Louis Equation”:
Anderson and Jordan long lags money predicts GDP better than Federal
expenditures
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Center for the History of Political Economy Summer School June
2014 18
Causality Debate Tobin, “Money and Income: Post Hoc Ergo
Propter Hoc?” (QJE 1970) theoretical models in which M does not cause p with
M leading p theoretical models in which M does cause p with p
leading M timing misleading Kaldor: “money does not cause Christmas”
Friedman’s reply: invariance not timing Granger-causality tests:
Sims, “Money, Income, and Causality” (AER 1972) later work
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Center for the History of Political Economy Summer School June
2014 19
Financial Innovation Kaldor, “The New Monetarism” (Lloyds Bank
Review 1970) stability of velocity an artifact example of the Irish bank strike
Hester, “Innovation and Monetary Control” (Brookings Papers, 1981) and the financial innovations of the 1970s and 1980s
Friedman’s elastic definition of money money = whatever asset has the most stable
velocity Fed’s stable: MB (“high-powered money”), M1, M1A,
M1B, M2, M3, L
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Center for the History of Political Economy Summer School June
2014 20
Monetarism
Origins of the term obscure: oral tradition: due to Karl Brunner (1916-
1988) oldest reference in JSTOR and the OED: H.
Aaron “Structuralism versus Monetarism: A Note on Evidence” (Journal of Development Studies 1967)
Common by 1970 Harry Johnson: “Monetarist Counter-
revolution” to Keynes, 1971
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Center for the History of Political Economy Summer School June
2014 21
Monetarism as a Player: 1970s
Accumulating evidence Stagflation: the acceptance of the natural
rate hypothesis and Friedman’s Phillips curve mythology
Policy skepticism and rules The New Classical Macroeconomics: reflected
glory of Monetarism Mark II The role of the regional Federal Reserve
Banks Sidebar: Mrs. Thatcher and monetarism
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Center for the History of Political Economy Summer School June
2014 22
The Fed’s Monetarist Experiment
Replaces G. William Miller, September 1979
New monetary control strategy October 6th 1979 monetary aggregate
targeting non-borrowed reserve
control Kevin Hoover joins Fed
December 10th 1979 Credit control regime:
January-June 1980 Reserve targeting
abandoned 1982
Paul A. Volcker (1927- )
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Center for the History of Political Economy Summer School June
2014 23
The Fed’s Monetarist Experiment: Outcome
Treasury Yields
0
5
10
15
20
1971 1975 1979 1983 1987
Yie
ld to
Mat
urity
(per
cent
)
3-month Treasury Bill
10-year Treasury Bond
October 1979-December 1982
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Center for the History of Political Economy Summer School June
2014 24
Milton and Arnold
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Center for the History of Political Economy Summer School June
2014 25
Thanks
The End