Friday, November 17, 2006

Milton Friedman, RIP

Milton Friedman was one of the three great economists of the last three centuries, measured both by his contribution to the development of economics and by his influence on public policy, in this country and around the world. In the 18th Century, there was Adam Smith; in the 19th Century, it was Alfred Marshall and in the 20th Century, it was Milton Friedman.

Smith, Marshall, Friedman, price theorists all. But, as every good economist knows, especially those who spent time at the University of Chicago in the last eighty years, all of economics, micro and macro, has its roots in price theory. This was the great oral tradition at the University of Chicago economics department in the last century, and especially from about 1930 to 1980, with much of that period dominated by Milton Friedman and his friend, colleague and professional ally, George Stigler.

On the other hand, Friedman was one of the few great economists in recent times who spanned both micro and macro economics, or as we called those fields at Chicago, price theory and “money.” Most academics outside of Chicago know Milton for his work in the area of Monetary Theory or the Quantity Theory of Money, i.e., MV=Py. That equation of exchange, as graduate students at the University of Chicago in the 1960s and 1970s knew it, could be used for all sorts of handy predictions. If V, that is the velocity of money were relatively constant and y, or real gross national product for the economy, was determined by other factors, we could predict that increases in M [the nominal money stock] by the Federal Reserve System would result in commensurate increases in the price level or inflation. Similarly, reductions in the rate of growth in the nominal money stock by the Fed would result in reductions in the rate of inflation.

The above described quantity theory of money led Friedman to advise President Reagan and Paul Volker, Reagan’s Federal Reserve Chief, in the early 1980s, to control and restrain the growth of the nation’s monetary aggregates. They followed Friedman's advice and rampant inflation was brought under control. Following Friedman’s and supply siders’ advice, Reagan successfully argued for tax cuts, and the economy boomed throughout the 80s: The result of sound economic theory and good economic policy.

Unlike his Keynesian competitors, Friedman saw macroeconomics, or Money, through the prism of price theory. He thought not so much about velocity or the “turnover,” of money, but of its inverse—the demand for real cash balances. When the government increased the supply of money, individuals would find their supply of cash balances exceeded their demand for real cash balances, so they would spend their excess balances. As they did so, if real output did not change, they would bid up prices, causing an increase in inflation. When government contracted the growth of the money stock, the reverse ensued and people would cut back on their spending to build back their real cash balances to their initially desired level, causing a decline in the general price level, i.e., a reduction in inflation or deflation.

When government contracted the growth of the money stock sharply as it did in the early 1930s, it would produce not only a reduction in prices, but also a reduction in real output, or y, in the above discussed equation of exchange. Thus the U. S. Government, not the private sector, was responsible for the great contraction in output and employment in the 1930s—and we at Chicago were careful not to refer to the collapse of the economy in the 30s as the depression, but the great contraction.

Much of the above, and much more [including how monetary policy in the U. S. helped contribute to China going communist], is chronicled in Friedman’s [and Anna Schwartz’s] treatise, A Monetary History of the United States, 1867-1960.

Friedman was always the empiricist. He had a collection of notes that he distributed for his class on price theory at the University of Chicago. For quite a while, he declined to publish the notes, stating that he would soon prepare a more formal version of his notes and then have that version published. After a while, he said the empirical evidence was strong that he would not devote the time to publishing that item-- instead focusing on many others—and he relented and agreed to publish the notes as they were, putting a title on the notes: “Price Theory, a Provisional Text.”

That item, along with a book titled, “The Theory of Price,” by Friedman’s colleague and friend at Chicago, fellow Nobel Laureate in Economics George Stigler, became the collective bible for students studying price theory to prepare for Ph. D. prelims at Chicago.

Most of the non-professional economist individuals in the world touched by Friedman felt his impact in what he said and wrote about the applications of basic economic theory, i.e., price theory--- or as he would put it, thinking like an economist. They found this wisdom in Capitalism and Freedom [two sides of the same coin, he said], an Economist’s Protest [a collection of Newsweek essays], Freedom to Choose [the book or the 13 part PBS series of the 80s] or in one of many other items Milton Friedman published or in his speeches given or classes taught around the world.

Friedman was the father of the school voucher-school choice movement, going back at least to his writing of the 1950s. That movement has blossomed in this century, with the Supreme Court confirming the constitutionality of School Vouchers in 2002, and strong voucher programs moving forward in Milwaukee, Cleveland, Florida and Arizona.

Milton Friedman denies it, because of his modesty, but he was the driving force behind Nixon’s and the country’s adoption of our all volunteer military in the early 1970s, an experiment that has worked well in terms of individual freedom, fairness, efficiency and in producing a stronger military.

Although not the only force, Friedman was a major force in the development of freer markets in several Latin American countries, including Chile; Eastern Europe, including Estonia; China, Russia, South Korea and Taiwan.

The most important notion that Milton Friedman staked his academic reputation on and that has been adopted in a variety of countries around the world is that societies that rely on the free market will improve the material well being of their people, much more so than if they relied on government to plan, motivate and guide their economics and the industry within those economies. Moreover, those free markets will be more conducive and compatible to the development of individual freedom and democracy.

So, students and readers of Milton Friedman tended to develop a belief in free markets, less government spending, lower government taxes, stronger property rights, more freedom for individuals, fewer restraints and regulation by government and in general an empowerment of the individual and a curtailment and distrust of government power.

In short, Friedman would say if you want to help people—give them the Freedom to Choose. Don’t spend money on a public school and require the parents to send their kids to that school. Instead, give them a school voucher for a little less than is being spent by the government on the child in the public school and let the parents choose which school is best for their child. Schools will compete for the right to serve that child and that competition will improve the choices of the parents.

If you want to help low skilled labor, don’t impose a minimum wage. Price theory and Friedman tells us that law will drive down the quantity demanded for labor and increase the quantity supplied, causing a surplus of labor or unemployment. Instead, through a negative income tax or earned income tax credit, supplement the low skilled worker’s income from what he can earn in the free market, without pricing him out of the market.

If you want to increase the availability of housing for low income people, don’t impose rent controls or price ceilings. Price Theory and Friedman tells us that will cause the quantity of housing supplied to decrease and the quantity of housing demanded to increase, causing a shortage.

On and on Friedman went, applying and inspiring students at the University of Chicago to apply Chicago School Economics, essentially price theory, to every nook and cranny of the real world. Theories were only as good as their testable implications. And, Friedman required his students to think logically and rigorously, and to always think about testing their theories. If the empirical evidence did not support the theory, it was the theory that was wrong, not the real world.

Always civil, always respectful and always demanding—of himself and his students. Milton Friedman will be missed deeply by his friends, colleagues, students, wife [Rose], children, readers and so many others around the world. Sadly, Milton Friedman, dead at 94, yesterday, in San Francisco, California.
Jeff Berkowitz, Show Host/Producer of "Public Affairs," and Executive Legal Recruiter doing legal search can be reached at