Milton Friedman & Economic Debate in the United States, 1932–1972: Volume 1

By Edward Nelson

First in a two-volume study of Friedman’s long career: “No previous biographer has Nelson’s deep and sophisticated understanding of monetary economics.” —Economic History

This study is the first to distill Nobel Prize winner Milton Friedman’s vast body of writings into an authoritative account of his research, his policy views, and his interventions in public debate. With this ambitious new work, Edward Nelson closes the gap: Milton Friedman and Economic Debate in the United States is the defining narrative on the famed economist, the first to grapple comprehensively with Friedman’s research output, economic framework, and legacy.

This two-volume account provides a foundational introduction to Friedman’s role in several major economic debates that took place in the United States between 1932 and 1972. This first volume in the two-volume account takes the story through 1960, covering the period in which Friedman began and developed his research on monetary policy. It traces Friedman’s thinking from his professional beginnings in the 1930s as a combative young microeconomist, to his wartime years on the staff of the US Treasury, and his emergence in the postwar period as a leading proponent of monetary policy.

As a fellow monetary economist, Nelson writes from a unique vantage point, drawing on both his own expertise in monetary analysis and his deep familiarity with Friedman’s writings. Using extensive documentation, the book weaves together Friedman’s research contributions and his engagement in public debate, providing an unparalleled analysis of Friedman’s views on the economic developments of his day.

“Magisterial . . . For anyone wanting to understand the ideas that Friedman generated over his research career, this book is, and will remain for some time, the essential guide.” —Financial World

• Language: English
• Publisher: Open Road Integrated Media
• Release date: Nov 6, 2020
• ISBN: 9780226683805

Book preview

Milton Friedman and Economic Debate in the United States, 1932–1972

Milton Friedman

and Economic Debate in the United States, 1932–1972

Volume 1

Edward Nelson

The University of Chicago Press

Chicago and London

The University of Chicago Press, Chicago 60637

The University of Chicago Press, Ltd., London

© 2020 by The University of Chicago

All rights reserved. No part of this book may be used or reproduced in any manner whatsoever without written permission, except in the case of brief quotations in critical articles and reviews. For more information, contact the University of Chicago Press, 1427 E. 60th St., Chicago, IL 60637.

Published 2020

Printed in the United States of America

29 28 27 26 25 24 23 22 21 20    1 2 3 4 5

ISBN-13: 978-0-226-68377-5 (cloth)

ISBN-13: 978-0-226-68380-5 (e-book)

DOI: https://doi.org/10.7208/chicago/9780226683805.001.0001

Library of Congress Cataloging-in-Publication Data

Names: Nelson, Edward, 1971– author.

Title: Milton Friedman and economic debate in the United States, 1932–1972 / Edward Nelson.

Description: Chicago ; London : University of Chicago Press, 2020. | Includes bibliographical references and index.

Identifiers: LCCN 2019046214 | ISBN 9780226683775 (v. 1 ; cloth) | ISBN 9780226684895 (v. 2 ; cloth) | ISBN 9780226683805 (v. 1 ; ebook) | ISBN 9780226684925 (v. 2 ; ebook)

Subjects: LCSH: Friedman, Milton, 1912–2006. | Economists—United States—Biography. | Economics—United States—History—20th century. | Chicago school of economics.

Classification: LCC HB119.F84 N45 2020 | DDC 330.15/53092 [B]—dc23

LC record available at https://lccn.loc.gov/2019046214

This paper meets the requirements of ANSI/NISO Z39.48-1992 (Permanence of Paper).

To my father, Michael Nelson

Contents

Introduction

Conventions Used in This Book

Part 1: Friedman’s Pre-monetarist Period, 1932 to 1950

Chapter 1: 1942 and 1995

I. 1942

II. 1995

III. The Challenge

Chapter 2: Starting Out, 1932 to 1939

I. Events and Activities, 1932–39

II. Issues, 1933–39

The New Deal: Monetary Changes

The New Deal: The Supply Side

III. Personalities, 1932–39

Henry Simons

Simon Kuznets

Chapter 3: Economic Policy on the Home Front, 1940 to 1943

I. Events and Activities, 1940–43

II. Issues, 1940–43

Paying for World War II

The Spendings Tax

III. Personalities, 1940–43

Alvin Hansen

Clark Warburton

Chapter 4: Money Changes Everything, 1944 to 1950

I. Events and Activities, 1944–50

II. Issues, 1944–50

The Emerging Monetarist

The Crusade against Cheap Money

III. Personalities, 1944–50

Paul Samuelson

Oskar Lange

Part 2: Friedman’s Framework

Chapter 5: Friedman’s Aggregate-Demand Framework: Consumption and Investment

Chapter 6: Friedman’s Aggregate-Demand Framework: Money and Securities

Chapter 7: Friedman’s Aggregate-Supply Framework

Chapter 8: Friedman’s Framework: Policy Rules

Chapter 9: Friedman’s Framework: Market Economics and Research Methodology

Part 3: Friedman’s Monetarist Years, 1951 to 1972

Chapter 10: The Accord and the New Regime, 1951 to 1960

I. Events and Activities, 1951–60

II. Issues, 1951–60

The Incomplete Revival of Monetary Policy

Cost-Push Debates

III. Personalities, 1951–60

Senators Paul Douglas and Prescott Bush

William McChesney Martin

Notes

Bibliography

Index

Introduction

The objective of this study is to provide an account of Milton Friedman’s role in several major economic debates that took place in the United States from 1932 through the end of 1972.¹ The debates considered include both those that were largely carried out in the economic-research literature and those that primarily proceeded in the media or in policy forums. But the fact that this book’s coverage extends through 1972 does mean that the book’s narrative encompasses Friedman’s main years of activity in economic research. For, although Friedman continued to be an active participant in economic discourse after 1972 (from his bases of the University of Chicago up to the 1976–77 academic year and of the Hoover Institution, Stanford University, thereafter), a very large amount of this post-1972 participation was via public policy and popular forums rather than via contributions to the research literature.

The perspective provided in this book is that of an author who specializes in the same field of research that Friedman did: that is, monetary economics. This is not a standpoint from which previous books on Friedman have been written. The earlier books have overwhelmingly tended to come from non-economists, from economists who have not engaged extensively in journal-oriented economic research, or from economists who have been specialized in research in the field of the history of economic thought rather than in the field of monetary economics.

It is true that historians of economic thought would seem to be the most natural authors on the topic of Milton Friedman and economic debate. It is also true that valuable work has indeed been done about Friedman by historians of economic thought. At the same time, it is fair to say that, on balance, the state of the existing literature prompts the same question regarding Friedman’s contributions that Harrod (1970, 617) asked in connection with Keynes’s work: But can historians of thought be relied on to get things straight?

A thorough discussion of the prior literature on Friedman is beyond the scope of this introduction—and indeed of this book.² But a number of recurring features of the existing literature pointed to the likelihood that an evaluation of Friedman’s work from a monetary-economics perspective could add value. First, many authors cited unpublished items (such as correspondence) from the Hoover Institution’s Friedman archives to document points about Friedman’s views that could readily have been established by reference to Friedman’s published writings. This practice suggested an insufficient familiarity with Friedman’s body of publications. Second, all too often Friedman’s views were taken as interchangeable with those of his University of Chicago colleagues—and particularly with those of George Stigler. This practice overlooked major differences between Friedman and other figures in the Chicago School. Third, the existing literature contained a good many statements about monetary analysis that would not have been made by those more familiar with that topic.

What follows in this book is therefore a monetary economist’s attempt to provide an analytical narrative of Friedman’s career from 1932 to 1972 (with the narrative organized primarily in terms of key economic debates), together with an exposition of Friedman’s economic framework.

Three major limitations of this book’s scope should be given at the outset.

The first limitation is that, as already indicated, this book covers only the period up to 1972. Post-1972 events are brought into the narrative primarily to make more complete the book’s account of specific debates. A by-product of this limit on the chronology is that this book does not cover two of the most controversial debates in which Friedman was involved. One of these omissions concerns his advocacy of drug legalization. Although Friedman voiced this advocacy in the early 1970s, prolonged engagement on his part in the debate on narcotic drugs began only in the 1980s. The other omission concerns Friedman’s 1975 visit to Chile and the subsequent highly charged exchanges over the topic summarized in a New York Times headline of May 22, 1977: Milton Friedman, the Chilean Junta and the Matter of Their Association. These topics would be among those considered in the event of a continuation volume, which would extend the narrative of volumes 1 and 2 to cover the period from the beginning of 1973 until Friedman’s death in November 2006.³

Second, the book has no specific section or chapter devoted to Friedman’s case for floating exchange rates or to the open-economy aspects of his economic framework. These are matters that are covered—occasionally in detail—at various points in the course of the present book’s discussion. But a more systematic treatment of them is reserved for a projected companion volume that will cover Friedman and economic debate in the United Kingdom. For a number of reasons, the Friedman case for floating exchange rates is more readily discussed in the context of an examination of an economy that is smaller and more open than the US economy.⁴ Indeed, Friedman’s 1953 paper on floating exchange rates explicitly applied the case for floating rates to the UK economy.

Third, Friedman’s interventions in debates on education and conscription are not included here. As these debates were largely separate from the macroeconomic debates that were the focus of Friedman’s research, and key developments in the debates occurred after 1972, it was judged that these subjects could be excluded from the present book while leaving open the possibility of giving them full coverage in an account that took up the narrative beyond 1972.⁵

Acknowledgments

The author is grateful for the guidance and encouragement of current and former editors at the University of Chicago Press, in particular Joe Jackson, who organized the commissioning of the book, and Jane Macdonald and Alan Thomas, who have seen the project through to completion. The author is also indebted to Kathleen Kageff for meticulous copyediting and to Mark Reschke and Alicia Sparrow for their production advice.

The author is grateful also to a number of people for providing comments on drafts of this book. In many cases, the comments pertained to drafts of specific chapters. Accordingly, each of the individual chapters of this book contains an acknowledgments paragraph recognizing feedback received on earlier versions of those chapters. In addition, the author is grateful to Michael Bordo, Charles Goodhart, David Laidler, and David Lindsey for remarks on the whole of the manuscript and to William A. Allen, Russell Boyer, Thomas Humphrey, Douglas Irwin, James Lothian, Ann-Marie Meulendyke, the late Allan Meltzer, Michael Parkin, Charles Steindel, George Tavlas, Roy Weintraub, and the late Donald Winch for supplying comments on a large number of chapters. The late Julio Rotemberg provided much advice and encouragement concerning the writing of this book and also supplied detailed comments on several chapters.

Furthermore, in the years prior to starting this book, the author benefited from extensive discussions with a number of individuals concerning Friedman’s place in monetary economics. These individuals include Michael Bordo, Tim Congdon, Robert Hetzel, Bennett McCallum, the late Allan Meltzer, Christina Romer, David Romer, the late Anna Schwartz, George Tavlas, and John Taylor; as well as current and former colleagues at the Federal Reserve Board, including Mark Carlson, Burcu Duygan-Bump, Neil Ericsson, Jon Faust, Christopher Gust, Andrew Levin, David López-Salido, John Maggs, Ellen Meade, Jonathan Rose, Jeremy Rudd, and Robert Tetlow; former colleagues at the Federal Reserve Bank of St. Louis, including James Bullard, Riccardo DiCecio, William Gavin, and David Wheelock; and former colleagues at the Bank of England, including Christopher Allsopp, Nicholas Oulton, and Geoffrey Wood. In more recent years, the author has benefited from discussions on the matter with former colleagues at the University of Sydney, including Colin Cameron, Daniel Hamermesh, and Colm Harmon.

For research assistance on various matters, the author is grateful to Miguel Acosta, George Fenton, William Gamber, Christine Garnier, and Andrew Giffin. For help in finding and obtaining archival material and related information, the author is indebted to Riccardo DiCecio, Andrew Ewing, Johanna Francis, Kurt Gooch, Daniel Hammond, Özer Karagedikli, Stephen Kirchner, Levis Kochin, Terry Metter, Eric Monnet, Charles Palm, Jeremy Piger, Marcel Priebsch, Hugh Rockoff, Glenn Rudebusch, Bernd Schlusche, Tara Sinclair, David Small, Katrina Stierholz, Paolo Surico, Gloria Valentine, Mark Wynne, and the staffs of the libraries of Duke University, the Federal Reserve Board, the Federal Reserve Bank of Dallas, the Federal Reserve Bank of San Francisco, the Federal Reserve Bank of St. Louis, and the University of Sydney. In addition, the following individuals kindly shared material from their own collections: Douglas Adie, James Bullard, Nigel Duck, Claire Friedland, John Greenwood, Christopher Gust, R. W. (Rik) Hafer, Robert Hall, Rudolf Hauser, James Heckman, Douglas Irwin, Michael Keran, David Laidler, Leo Melamed, Ann-Marie Meulendyke, Michael Mork, Charles Nelson, Gerald O’Driscoll, Pascal Salin, Roger Sandilands, the late Anna Schwartz, Christopher Sims, Stephen Stigler, and Lester Telser. The author is also indebted to Milton Friedman’s daughter, Janet Martel, for providing clearances and for making herself available for a conversation with the author in September 2016 about her father. The author extends sincere apologies to any individuals who also provided help for this project but who have inadvertently not been mentioned in the preceding acknowledgments.

Notwithstanding the acknowledgments given above, the views and conclusions expressed in this study are the author’s alone, and the author is solely responsible for errors in this study. In addition, the views expressed in this book should not be interpreted as those of the Federal Reserve Board or the Federal Reserve System.

Interviews

Many people kindly made themselves available for interviews with the author for this project. The interviews conducted since 2012 are listed below. In many cases, the coverage of the interview mainly involved topics that were ultimately reserved for a later book—either because those topics are intended for the project on 1973–2006 US economic debate or because they will be covered in the companion project that concerns Friedman and economic debate in the United Kingdom. However, even those interviews not explicitly cited in later chapters proved extremely helpful in shaping the present book.

In addition to the above, the author interviewed Milton Friedman, Phillip Cagan, John Scadding, and Sir Alan Walters (all in 1992); Anna Schwartz (in 1992 and 2003); and Alvin Marty (in 2008).

Conventions Used in This Book

1. The chronological chapters in this book (those that cover blocks of years, i.e., chapters 2–4 and 10–15) are divided into sections titled Events and Activities, Issues, and Personalities (with the latter two sections in turn broken into subsections). The Events and Activities section covers some of Friedman’s main engagements in economic debate over the years considered in the chapter; this section, however, omits those topics subsequently covered in the Issues and Personalities sections. The Issues sections cover major policy or research issues in which Friedman was involved during the years in question: for example, chapter 3, which covers the years 1940–43, includes under Issues the question of how to pay for wartime government spending. The Personalities section is of the same format as the Issues section, except that it is more closely focused on an individual with whom Friedman interacted (or to whom Friedman reacted) in the years covered in the chapter. In each case, no attempt is made to provide a complete picture of the work of the individual considered in the Personalities section. The aim of the discussion is, instead, to bring out the activities and work of Friedman that reflected his overlap of interests with the individual in question.

The motivation for the Events and Activities/Issues/Personalities division of each chapter is that Friedman’s activities covered several different areas in each block of years considered. Consequently, an explicit demarcation of each chapter by topic seemed preferable to a strictly chronological format.

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2. References are described in the past tense (Romer and Romer [2002a] argued . . .) for publications that appeared during (or prior to) Friedman’s lifetime, and in the present tense (Romer and Romer [2013a] argue . . .) for post-2006 articles.¹ An exception to the latter practice is made for cases in which items published after 2006 were by authors who are now deceased (for example, Anna Schwartz and Gary Becker). In those cases, even post-2006 articles by the authors are referred to in the past tense.

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3. Except when quoting others, or when using standard terminology (for example, the Chicago School), the term Chicago, appearing by itself, refers to the city of Chicago. It is not used as shorthand for the University of Chicago.

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4. Articles cited in this book that appeared in newspapers or news or public-affairs periodicals are referenced in the main text or endnotes by their publication title and date (for example, "New York Times, January 25, 1970"). Fuller bibliographical details for these articles (including article title and, where given, article author, as well as page number, where known) appear in section I of the bibliography, in which the news articles are listed in chronological order. (Section II of the bibliography covers books, as well as articles that were published in research journals. This section of the bibliography gives articles in alphabetical order, arranged by author.)

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5. To limit the extent to which the flow of sentences in the main text is interrupted by bibliographical references, and to contain the number of times that the word Friedman appears in any sentence in the main text, citations of Friedman’s writings appear in notes rather than in the main text. Accordingly, it is in the text of endnotes that one will find citation of the Friedman items to which reference is made in the main text (with such endnotes typically reading See Friedman [(1973a, 1973b] . . .). References to authors, other than Milton Friedman, with the surname Friedman are identified by both the author’s first initial and surname.

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6. Interviews conducted specifically for this book are indicated in the main text or endnotes by the name of the interview subject and the date of the interview. Interviews quoted or cited in the main text or endnotes that appeared in research journals are cited using the name of the interviewer (not the interviewee).² Thus, John Taylor’s interview with Milton Friedman, published in 2001 in Macroeconomic Dynamics, is cited as Taylor (2001) and not as a Friedman-authored article.

• Part 1 •

Friedman’s Pre-monetarist Period, 1932 to 1950

• Chapter 1 •

1942 and 1995

The views expressed in this study are those of the author alone and should not be interpreted as those of the Federal Reserve Board or the Federal Reserve System. The author received valuable comments on an earlier draft of this chapter from Miguel Acosta, George Fenton, Andrew Giffin, Herbert Grubel, Robert Hetzel, Douglas Irwin, the late Allan Meltzer, the late Julio Rotemberg, David Wilcox, and four anonymous reviewers. See the introduction for a full list of acknowledgments for this book. The author regrets to note that, in the period since the research for this chapter was conducted, Charles H. Brunie, whose interview with the author is drawn on below, has passed away.

I. 1942

Mr. Ruml, come up here and sit down, will you please? And everybody better move in a little closer. Senator Bennett Champ Clark, acting chairman of a subcommittee of the US Senate Committee on Finance, was opening a lightly attended hearing in room 312 of the Senate Office Building at 10 a.m. on August 19, 1942. Only two senators other than Clark were in attendance; they were outnumbered by the six witnesses for the session.¹ The first witness was Beardsley Ruml, of Macy’s.² The second witness was Milton Friedman of the US Department of the Treasury.

Friedman, recently turned thirty, was appearing in his capacity as an economist in the US Treasury’s Division of Tax Research. His location in that division of the Treasury meant that he could keep his distance from what he regarded as the less edifying activities in which the US Treasury was engaging during the war. In particular, Friedman, who had first cited Irving Fisher in print while he was in his midtwenties, looked askance at the debt-management activities of the Treasury, which included marketing bonds at 3 percent interest rates. Friedman would later recall being shocked at the ethics of presenting a 3 percent per year longer-term rate as a good investment when that rate was manifestly below the inflation rate likely to prevail for much of the investment horizon. Indeed, an appreciably positive real return on such an investment could realistically be expected only in the event of a serious postwar deflation—in the event, that is, of precisely the sort of postwar economic downturn that Friedman and his divisional colleagues’ efforts were directed at avoiding. By confining himself to US Treasury activity that did not involve the bond drives, Friedman could, as he put it in one retrospective, by my standards, be an honest man.³

Friedman had been asked to testify at the subcommittee’s hearing, whose formal title was Data Relative to Withholding Provisions of the 1942 Revenue Act but whose content was better encapsulated by the shorthand title for the hearing, Withholding Tax. Friedman and the higher-ranked Treasury official present, General Counsel Randolph Paul, were attending to give the Treasury’s analysis of the Ruml Plan—a tax reform proposal that incorporated a move to withholding-at-source arrangements for income tax collection. The US Treasury would indeed come to introduce tax withholding during World War II. Friedman later noted that he played a part in the United States in designing our system . . . and I may say my wife has never forgiven me.⁴ But, as between different methods for withdrawing income at source, the Ruml Plan was not the Treasury’s preferred template, and Friedman had been assigned the legwork of undertaking a detailed analysis of the Ruml Plan. Friedman’s function at the hearing was to offer a critique of the Ruml Plan based on this analysis. Well before Friedman had been formally called as a witness, he jumped the gun with critical interjections during Ruml’s testimony, leading Ruml to complain that Friedman’s characterization of the plan was making it sound more complicated than it is.⁵

Once Ruml had been excused as a witness, Senator Clark turned to the senior Treasury representative. Mr. Paul, will you tell us about the effect on the revenue? We are all very much concerned about that. Paul replied, Well, I think this estimate that has just been made by Mr. Friedman is pertinent, and I think he might be in a better position to summarize it than I. . . . Suppose you summarize that, Mr. Friedman.⁶

That was Friedman’s cue to discuss the revenue effects of the Ruml Plan and to lay out the Treasury’s proposed modification of it. The Treasury version of withholding, according to Friedman’s projections, would yield more revenue than Ruml’s proposal. Friedman’s preamble to the presentation of numbers underscored the uncertainties involved in making projections: it is awfully hard, now, to estimate what income will be in ’44 and ’45.⁷ In subsequent decades, the degree of uncertainty associated with forecasts would be a recurring theme in Friedman’s work on economic policy.

If that aspect of Friedman’s testimony could be said to foreshadow his positions in subsequent years, just the opposite was true of a portion of his testimony that followed almost immediately. This occurred in an exchange with Senator Clark. Friedman clarified that in his estimates of revenue, he was counting income as having been collected as taxes the moment it was withdrawn at source by the employer, even if the funds had yet to be handed over to the Treasury. Friedman argued that so long as the employers have withdrawn it . . . it is practically equivalent to having it in the Treasury. So far as the employees are concerned, anyway, Clark observed. And certainly so far as the inflationary problem is concerned, Friedman concurred.⁸ Underlying this reply was the view that tax policy, by altering disposable income and thereby household spending, offered a way of controlling inflation. The reply thus bears unwitting testament to the distance that Friedman’s thinking would later travel. In the years to come, few economists would be less enamored of the notion that consumer spending depends on current disposable income than Milton Friedman. And the position that tax increases were the key to restraining inflation would have no more prominent a critic than Milton Friedman.

II. 1995

Fifty-two and a half years later, Milton Friedman began his final testimony to a congressional committee hearing by observing: I am delighted that the miracle of interactive TV enables me to be with the Committee when I could not be there physically.⁹

The occasion, as well as the committee’s treatment of Friedman, now eighty-two, had a considerably grander scale than the hearing in 1942. In 1942, the session at which Friedman had testified had been of a small subcommittee, and he had been the junior Treasury representative; in 1995, he was testifying on his own at a full hearing of the Joint Economic Committee. His testimony, beamed into Washington from Friedman’s location in the Bay Area, served to cap off the day’s proceedings. This star treatment reflected the reality that a great deal had happened since Friedman’s wartime days as a legman at the US Treasury. He had left the Treasury in 1943 and—consultancy work and positions on commissions and advisory boards aside—had never returned to government service after World War II. But his analysis of economic policy in the intervening five decades had had a profound effect in policy circles, and Friedman’s fame preceded him when at this hearing, on January 20, 1995, he gave testimony on the Balanced Budget Amendment, the latest of many proposed constitutional amendments of that name.

Though ostensibly testifying in favor of the amendment, Friedman in his opening statement provided a clear demonstration of how far his position had shifted, since the 1940s, from a belief in the significance of the budget deficit. The real problem, the basic problem, is not the deficit, Friedman testified. The basic problem is government spending. . . . So the fundamental problem is, how do we get spending cut?¹⁰ In proceeding to answer that question, Friedman transitioned from his position about the economic effects of fiscal policy to his position on the policy maker reaction function. History has shown us that under the present arrangements, government will spend whatever the tax system will raise, plus as much more as they think they can get away with. The only way to stop that is by making it hard to raise taxes.¹¹ Friedman had taken a long time to reach this position—which became familiar as the starve-the-beast view of government-spending determination, although Friedman himself rarely used that term. Until the early 1960s, he had viewed getting community acceptance of lower government spending as a necessary precondition for tax reduction. Since then, the evolution of his views about the relationship between deficit spending and monetary control, and about the dynamics of the fiscal policy process, had led him to a much more sanguine position regarding fiscal deficits.

Having made his opening statement, Friedman said: I should be delighted to answer questions on anything at all.¹² In the spirit of that invitation, the final question posed to Friedman at the hearing, from Representative James Saxton, was not on the Balanced Budget Amendment but instead concerned the role of monetary policy. In his reply, Friedman stated: The role of the Fed should be very simple—to stabilize the price level, prevent inflation.¹³ In a sense, nobody had pushed this recommendation as much as Friedman had, and no one more deserved to be associated with it. Friedman’s answer at the hearing nevertheless represented a step away from his most familiar prescription for monetary policy. It constituted a distinct change in emphasis from that in past statements—such as one in November 1958, when Friedman had characterized the best policy we could follow at the present time as one in which the Federal Reserve was instructed that it has one job and one job only; namely, to see that the money supply or the stock of money in the United States rises by a fixed percentage annually.¹⁴ At that time, unlike in 1995, Friedman had not been willing to have the Federal Reserve directly assigned responsibility for price-level developments.

III. The Challenge

The matter of whether the assignment to a central bank of responsibility for price stability should be regarded as discordant with, or an affirmation of, Friedman’s long-standing position is not one on which economists agree. The disagreement on this matter illustrates the problem of providing a simple characterization of Friedman’s status in the economics profession, and it underscores the dissent that exists about how to view his legacy. Friedman was one of several of his generation who came to be hailed for having made a lasting contribution to the way economists and policy makers view economic policy. But Friedman is the only one of these who has prompted such a distinct countermovement: there exists a very large number of articles downplaying his influence on modern economics and modern economic policy, or trying to establish that Friedman’s economics was not internally consistent—especially if his popular and research writings are considered as a whole—or arguing that, even if consistent, his economic viewpoint should now be considered hopelessly outmoded or proven invalid.

The years highlighted in this chapter, 1942 and 1995, provide a useful contrast that is helpful for an evaluation of Friedman’s contribution, influence, and legacy. In 1942 Friedman, although he had already gone on record with a string of publications, had yet to arrive at most of the positions on economic policy with which he would become associated. By 1995, on the other hand, Friedman had taken a back seat and had largely confined himself to occasional commentaries on current events.¹⁵ In this capacity, he contributed observations that were often pointed and topical but, equally, were rarely a surprise to those familiar with his prior body of public statements. It is in the years between 1942 and 1995 that the development of Friedman’s worldview, the crystallization of his economic analysis, and the heyday of his critique of economic policy are all to be found. A great deal of the challenge in analyzing Friedman’s positions on economic matters lies in tracking the development of his positions over this period and in obtaining an accurate characterization of the economic framework to which Friedman converged.

By the early 1950s, the economics profession surely thought it knew the sort of work Friedman did and the direction in which his research was going. His work had had, by and large, a highly favorable reception—as reflected in the conferring, in 1951, of the John Bates Clark Medal to Friedman by the American Economic Association. On that occasion, the Clark medal had been awarded to an economist who had built bridges between mathematical statistics and economics and who had used statistical theory to generalize the analysis of utility to a world of uncertainty.¹⁶ What caught Friedman’s peers off guard is that, just as he was being awarded for these achievements, his research—together with, in large measure, his overall approach to economics—was changing direction. In effect, he gave up his old life as a distinguished mathematical statistician and contributor to price theory, instead venturing into the unpopular field of advocacy of the strong effectiveness of monetary policy. For good measure, he discarded much of the economic analysis to which he had adhered during his years at the US Treasury and that had been reflected in his research contributions to the Keynesian analysis of inflation. Indeed, he became a strong critic of those who stuck to that approach.

In Friedman’s new research pursuits, his way of conducting empirical work eschewed large-scale econometric models and instead focused on reduced-form relationships among small numbers of variables and on inferences from historical episodes. On many occasions, he did not lay out an explicit model at all. An exception to this approach—his work on consumption—was well received in the profession, but it represented a separate enterprise from what he regarded as his main line of research.¹⁷ Many terms were used to describe Friedman’s new status within the economics profession—including iconoclast, intellectual provocateur, and resident critic—but that these terms needed to be used at all was testament to Friedman’s newfound estrangement from his own profession. From being hailed in the Clark award for his most significant contribution to economic thought and knowledge, Friedman had experienced a remarkably rapid decline in prestige among his fellow economists.¹⁸

That prestige would be regained in due course, on the basis of his later body of work, but it would be a long time coming. By the end of the 1950s, Friedman had been publishing for nearly a quarter century and had been working continuously in the monetary field for a decade, but he was perceived as having taken a wayward path and encountered resistance and suspicion. Sam Peltzman, a student in Friedman’s Price Theory class at the University of Chicago in 1960–61, recalls that Friedman’s image at this point was that of a nut (Sam Peltzman, interview, March 1, 2013). Correspondingly, Davis (1969, 119) noted that, as strong proponents of money materialized with Friedman in the lead, economists regarded this group—when they regarded it at all—as a mildly amusing, not quite respectable collection of eccentrics. But, by virtue of stubborn perseverance, reflected in a prolific research output, Friedman’s work maintained some kind of profile in the economics profession, and it did so via a number of routes: by informal circulation of manuscripts after rough-and-ready mimeograph or stencil reproduction, by printed articles in University of Chicago Press publications and a few other outlets, by congressional testimony, and by the hitting of the seminar circuit by himself and a small band of students and associates. Friedman also continued his practice, begun during World War II, of advocating market solutions to popular audiences. A national radio discussion program on which he appeared sporadically had stopped in 1955, but he used other outlets: op-ed writing, television appearances, and public-speaking tours.

A turning point came in the early 1960s with the appearance of Friedman’s Capitalism and Freedom and Friedman and Anna Schwartz’s A Monetary History of the United States.¹⁹ These books, published in 1962 and 1963, respectively, but largely reflecting work done in the 1950s, became essential parts of the Friedman canon on monetarism (in the case of A Monetary History) and market economics (which, despite some coverage of his monetary work, formed the bulk of Capitalism and Freedom). Friedman over the 1960s hit his stride with what one periodical later called a prolific outpouring of books, pamphlets, papers and popular articles (National Journal, January 13, 1973). The 1960s closed with Friedman on the front cover of Time magazine—notwithstanding Friedman being a columnist for the rival magazine Newsweek.²⁰ Friedman’s higher profile was reflected also in the New York Times: having declined to review Capitalism and Freedom in 1962, that newspaper ended up devoting a large amount of column inches to Friedman over the subsequent decades, with a long profile of Friedman appearing in 1970 (New York Times, January 25, 1970). Likewise, a great number of pages of economics journals in the 1960s and 1970s came to be devoted to debating Friedman’s views. And in the quarter century from 1962 to 1986, not a year passed in which a new book by Friedman did not appear.²¹

Friedman wrote prolifically—and yet he produced nothing that consolidated his views into a single definitive statement. This is true even if one leaves to one side Friedman’s monetary work and considers solely his position on free markets. Friedman would irreverently say that Capitalism and Freedom was the Old Testament and the book version of Free to Choose was the New Testament.²² But these books were not by any means the entirety of the Friedman canon on market economics and did not distill all the major messages contained in that larger body of work. Indeed, Friedman’s views on many public policy issues cannot be coaxed out of these volumes. Many important aspects of Friedman’s market economics were scattered across other books and articles, in both popular and research outlets, as well as in interviews and speeches, and an integrated picture of his views on nonmonetary economic issues is obtainable only after pooling and synthesizing these various writings.

Friedman’s statements of his monetary position took an even more scattered form. Although monetary economics was his area of specialty, the only textbook (actually, lecture notes turned into prose) he produced was outside that field—although, consistent with his view of the interconnections between different fields of economics, that text, Price Theory, did trespass on some areas of monetary economics, especially in its revised edition.²³ But Friedman produced no comprehensive statement on his position: no monograph that could be regarded as a compendium of his monetary views.²⁴ An implicit economic model underlay Friedman and Schwartz’s Monetary History, but a systematic theoretical statement was notably absent from their study.²⁵ Friedman’s 1969 book The Optimum Quantity of Money was said on the dust jacket of its first edition to be a comprehensive presentation of the body of monetary thought of one of the world’s leading monetary economists, a description that failed to make clear that the book consisted mostly of reprints, and also a description that conflicts with the fact that key aspects of Friedman’s monetary thought were to be found in items not in the collection.²⁶ The comprehensive-sounding A Theoretical Framework for Monetary Analysis Friedman article of 1970 proved, in fact, to be far from comprehensive, its focus being mainly on a narrow set of aggregate-supply issues and on economic behavior in depression conditions, to the exclusion of a more general presentation of Friedman’s framework.²⁷ Indeed, that 1970 exposition proved so lacking in comprehensiveness that Friedman had to add some new paragraphs to a reprint to make its coverage of aggregate-demand determination somewhat more complete, while Bernanke (2004), in a speech entitled Friedman’s Monetary Framework: Some Lessons, chose a different 1970 Friedman article to stand in as the encapsulation of Friedman’s framework.²⁸

There is no escaping the conclusion that Friedman often made his readers work hard to track down his views on key subjects—a tendency reflected in Harry Johnson’s (1974, 346) reference to Friedman’s lifelong habit of scattering his new empirical results and ideas in unlikely places.

Yet despite the seemingly haphazard and scattered fashion in which it was placed into the public record, a clear Friedman position did emerge. And that position in turn changed the views of the economics profession. Consequently, notwithstanding the fact that Friedman never wrote a textbook in the monetary field, his contributions to that field succeeded in rendering obsolete the coverage of monetary matters provided in textbooks written before the 1970s. The textbooks emerging from the economics department of the Massachusetts Institute of Technology (MIT) provide a microcosm of this phenomenon. From its initial edition in 1948 suggesting the powerlessness of monetary policy in Great Depression–like circumstances, Paul Samuelson’s celebrated textbook Economics had in successive editions assigned incrementally greater importance for monetary policy, leading Friedman in the early 1970s to suggest that a comparison of the first edition and the eighth or ninth edition of the leading economic principles book would bring out the scale of the change in Samuelson’s position.²⁹

Samuelson nevertheless tried to hold the line against Friedman’s research: while Friedman’s work on the consumption function was rapidly integrated into the book’s presentations, Samuelson would largely refrain from making other concessions to Friedman’s framework. His textbook in its 1970s editions continued to reject the primacy of monetary policy for inflation determination while also reaffirming the notion of a long-run nonvertical Phillips curve. In 1978, Samuelson’s coverage of monetary issues was left in the dust by the appearance of the first edition of the textbook Macroeconomics by his MIT colleagues Rudiger Dornbusch and Stanley Fischer. Dornbusch and Fischer copiously cited Friedman’s research and popular writings, and they incorporated large amounts of his analysis into their presentation, observing: Much of the analysis of this book would, a few years ago, have been considered monetarist.³⁰ Dornbusch and Fischer’s saturation coverage of Friedman’s work was reflected in their book’s index, for which the entry for Friedman ran ten lines. In contrast, the one-line index entry for Samuelson recorded only a solitary page reference.³¹

As of 1986, Milton Friedman had been publishing research articles for over fifty years and regarded his scope to make further contributions as largely exhausted: people’s capacities to do scientific work decline with age (Los Angeles Times, December 14, 1986, 14). But his influence continued to make itself felt in the agenda of the economics profession, as evidenced by two landmark articles appearing that year. An article by Olivier Blanchard of MIT and Lawrence Summers of Harvard University, Hysteresis and the European Unemployment Problem, was used to launch the new journal NBER Macroeconomics Annual. The opening of Blanchard and Summers’s article noted the premise of most macroeconomic theories that there exists some ‘natural’ or ‘non-accelerating inflation’ rate of unemployment toward which the economy tends to gravitate and at which the level of inflation remains constant.³² In effect, the authors were using as their jumping-off point a consensus grounded in Friedman’s work—and the contribution of that work now so permeated the discourse of economics that Blanchard and Summers did not actually cite or mention Friedman in their article.³³

Another prominent 1986 article, authored by Ben Bernanke of Princeton University and titled Alternative Explanations of the Money-Income Correlation, prepared for the Carnegie-Rochester Conference series, made overt its connections with Friedman’s work. By now it should be unnecessary to motivate a study of the statistical correlation between the money stock and national income, Bernanke observed at the beginning of his article. At least since the work of Friedman and Schwartz (1963[a]), this stylized fact has been considered among the most important in macroeconomics; at times, its explication has nearly defined the field.³⁴

Friedman had also helped shape the terms of the debate even in fields outside his own area of specialty. He was not a specialist in international economics. Yet, in a 1953 article that applied his monetary analysis to the field of international monetary arrangements, he had set out the definitive case for floating exchange rates.³⁵ That paper achieved immortality in the research literature on international economics. Furthermore, as of 1995, floating exchange rates had been part of everyday reality for over two decades—a clear-cut example of one of Friedman’s recommendations being put into practice. By 1995, a number of the arguments Friedman had made for floating rates—that they would not be associated with large short-term capital flows, that they would discourage destabilizing speculation, that they would imply instability of exchange rates only if internal economic policies were unstable—had fallen by the wayside, as experience with floating rates had rendered these arguments fragile if not outright untenable. But the paramount argument in Friedman’s advocacy of floating rates—that they alone gave a country the wherewithal to follow policies directed at domestic economic stabilization—had proved durable, and it underpinned the consensus in favor of floating exchange rates that, by the end of the twentieth century, was entrenched across the English-speaking world.

Friedman was by his own description a rank amateur in the field of labor economics.³⁶ But that did not prevent him from laying out, in two crucial paragraphs of the 1962 edition of Price Theory, the notion of intertemporal substitution in labor that became a cornerstone of the modern literature on labor supply.³⁷ And, in other writings, Friedman propagated and developed terms and concepts that would pervade the idiom of labor economics: human capital; the natural rate of unemployment.³⁸ The latter term became a staple also of monetary economics. So did another word—monetarism. This was not a term that Friedman coined, and it was one that he claimed to dislike. But it became almost synonymous with him.

These terms moved outside academic economics, coming into use in broader public discussion. Friedman himself likewise acquired a fame that eventually stretched outside the economics profession. Anna Schwartz has observed that when she first met Friedman, he had not yet become a world celebrity. What has always fascinated me about Milton’s life is how and why this transformation occurred.³⁹ It is little wonder that Schwartz had cause to reflect on these questions: one of the reasons her final book with Friedman—Monetary Trends in the United States and the United Kingdom, the capstone of their work on money—came out nearly twenty years after Monetary History is because Friedman was so frequently tied up with other activities in the intervening years, including hosting a television series. Friedman’s status as a celebrity was acknowledged in the structure that Alan Walters chose for his entry on Friedman in the 1987 New Palgrave economics dictionary: Walters ended with a section titled The Public Image of Friedman.⁴⁰

That public image was so prominent from the 1970s onward that references to Friedman could be found in the most incongruous locations. In the first half of the 1980s, mentions of Friedman appeared not only in books and journals in the economics field, but also in books with such titles as The Secret Life of Girls and The Year in Rock 1981–82 and in periodicals such as Car and Driver and Professional Engineer.⁴¹ Friedman was interviewed by Playboy magazine and People Weekly in the 1970s, while in the 1980s Penthouse magazine included him in a profile of the twenty-five most influential Americans.⁴² On one surreal evening in Los Angeles in 1977, Friedman shared the platform of an awards ceremony with John Wayne and Frank Sinatra.⁴³ And while James Tobin could claim to have been immortalized in fiction well ahead of Friedman—as Herman Wouk had put a character who was based on, and a near-namesake of, Tobin into his novel The Caine Mutiny—Friedman’s eminence would reach such a degree that he found himself written into the story lines of television series. An early installment of the situation comedy Family Ties, an episode regarded as setting the seal on Michael J. Fox’s status as the star of that program, made Friedman a character in the story line, not seen on-screen but weaved heavily into the narrative.⁴⁴ In the mid-1990s, a recurring on-screen character in Beverly Hills 90210 was clearly modeled after Friedman; and just in case the inspiration for the character wasn’t clear enough, the program’s writers gave the character the name Milton.

Friedman’s fame also stretched beyond the frontiers of the United States. A London newspaper in the 1980s noted of Friedman and John Kenneth Galbraith that both achieved a superstar status in Europe that far exceeded their celebrity at home (Daily Telegraph, June 30, 1986).⁴⁵ Friedman’s international impact was felt in a string of books cataloguing his various tours—including Milton Friedman in Australia 1975, Milton Friedman in South Africa, and Friedman in China—whose titles might leave the uninitiated under the impression that he was a travel writer rather than an economist.⁴⁶ Friedman spoke on these tours about both monetary policy and on markets, and a University of Chicago faculty member, Sam Peltzman, has judged that Friedman became a better-known advocate of free markets than Hayek as well as the world face of the Chicago School (Sam Peltzman, interview, March 1, 2013).

Friedman’s image on the national and world stage was not only as an abstract thinker and advocate of reform but also as an academic willing to engage in current economic commentary. Friedman’s various economic commentaries utilized and illuminated his economic framework. His opposition to the imposition in 1971 of wage and price controls by the Nixon administration contrasted with the endorsement of that move given by Paul Samuelson and others. In late 1976, Friedman stuck his neck out again when, against a background of placid inflation projections from professional economic forecasters, and with bond market indicators suggesting blue skies ahead on the inflation front, he predicted that inflation would shortly start rising again and that 7 to 9 percent inflation could be expected over 1977 and 1978. In late 1977, again well ahead of the bond market and other forecasts, he further indicated that a return of inflation to the double-digit range was in prospect for 1979 and 1980. These judgments about inflation prospects would, like Friedman’s opposition to wage/price controls, be vindicated. But a string of serious overpredictions of inflation in the 1980s did little to enhance his reputation.⁴⁷

Those well-publicized errors reinforced the difficulties that his fellow economists had always had in reaching an overall assessment of Friedman. His status in the profession was paradoxical and ambiguous, even after his monetary work had given him unquestioned prominence. He was not an economist’s economist, notwithstanding Samuelson’s and John Taylor’s use of that description in their tributes to Friedman, if that term implies that Friedman provided a template that the economics profession could follow.⁴⁸ Quite the contrary: no one who eschewed explicit mathematical modeling so much could claim to be setting the pattern for a profession in which formal models were used by so many. Likewise, Friedman could not claim, despite his empirical orientation and his work on methodology, to have led the way in which the profession carried out empirical work; he had forgone any claim to that mantle via his distrust of large-scale econometric models and his aversion, especially after the 1940s, to formal testing and forecasting techniques. Friedman was one of the most read academic economists among business and financial market economists, and he played a key role in promoting the development of futures markets and markets for indexed government securities. But Friedman had disdain for what he called the jargon of Wall Street.⁴⁹ This perspective, combined with his position that financial markets were often shortsighted—not to mention his contention that research in finance could barely be considered economics—set Friedman apart from the mainstream of economists in the financial markets and in the nonfinancial private sector.

Yet the outstanding fact remains that Friedman had a profound effect on economics, an effect felt not only throughout discussions in present-day textbooks but also in the shaping of the modern economics agenda. He was at the center of economic debates in research and policy circles in the 1960s and 1970s. Subsequently, as already indicated, the Friedman and Friedman-Schwartz positions played a large role in shaping the terms of economists’ debates on real business cycle theory, New Keynesian economics, monetary policy rules, and the vector-autoregression analysis of monetary policy. An upshot of this was that in the 1980s and 1990s Friedman and his writings were mentioned prominently in a large number of leading research articles—the bulk of which Friedman probably never read. By this stage, Friedman did not have to participate to make his presence felt in the debates. His earlier writings had left an enduring imprint.

But deciphering that imprint in detail is not a straightforward undertaking. Naturally, with Friedman having produced such a vast amount of work over a long career, not every contribution he made to the public record proved to be enduring. In some cases, the fading into obscurity of certain contributions no doubt reflects a negative judgment on the merits of those particular efforts. In this vein, McCallum (1990a, 167) argued that with respect to some of the Friedman contributions that are little cited in the modern literature, this neglect is probably warranted. But a corollary of the fact that Friedman’s writings and statements were so voluminous and so widely dispersed is that much of his work has become largely unknown. This was a sore point for Friedman, who cited an example of a paper that he regarded as an important contribution but that had sunk into complete oblivion.⁵⁰ And even in the cases of work of Friedman’s that is unambiguously well known, it seems evident that there remains a large amount of misinterpretation and misunderstanding of that work on the part of the economics profession—a situation that may in part account for the considerable disagreement about Friedman’s legacy.

The scale of the task involved in ascertaining Friedman’s economics and in evaluating his legacy is underlined by considering the seemingly contrasting facts about Friedman and the perceptions to which they gave rise. Friedman was a student of business cycles who was prone to say that he did not believe there was a business cycle. He was a trenchant critic of reserve requirements as a monetary policy tool and a strong advocate of financial deregulation, yet he had many favorable things to say about moving to a regime of 100 percent reserve