The Death of Monetarism

Los Angeles Times ^ | November 20, 2006 | Niall Ferguson

[RWR8189]

'INFLATION IS always and everywhere a monetary phenomenon." I can think of few sentences in economics that have engraved themselves more deeply in my memory than Milton Friedman's famous line in his Encyclopedia Britannica entry for "Money."

Even before I went to university, I had become fascinated by the problem of inflation. No wonder: In 1975, when I was 11, the annual rate hit 27% in Britain. At Oxford, however, I was prescribed John Maynard Keynes and John Kenneth Galbraith. I discovered Friedman only when I began work on my doctoral dissertation on the German hyperinflation of 1923. Suddenly all became clear. I just needed to figure out why the Weimar Republic printed such an insane quantity of banknotes. And, sure enough, it turned out that socialist politicians had been trying, among other things, to spend their way to full employment.

In 1920s Germany, however, just like in 1970s Britain, the notion of a trade-off between inflation and unemployment proved to be illusory — precisely as Friedman argued in his celebrated 1967 address to the American Economic Assn. Gradually, people got wise to what was happening, prices soared sky high and the economy collapsed.

It wasn't just that Friedman rehabilitated the quantity theory of money. It was his emphasis on people's expectations that was the key, because that was what translated monetary expansion into higher prices. In this, as in all his work, Friedman combined skepticism toward government with faith in individual rationality and therefore freedom. He was a libertarian across the policy board.

Nevertheless, the question is: Do people still believe in monetarism, Friedman's most important theory, which argues that inflation can be defeated only by targeting the growth of the money supply and thereby changing expectations? Not too many. From all the host of tributes from politicians, central

[yankeedame]

'INFLATION IS always and everywhere a monetary phenomenon....

Oh, like, wow! That is,like, so profound.

Cheeze! Of course,"INFLATION IS always and everywhere a monetary phenomenon"

Inflation is when the seller wants more "money" -- whatever that money is: coins and paper, wampum, seashells, tree bark, playing cards, etc. etc. [In short, some agreed upon means of exchange] -- for his goods or services. And you don't having him wanting more unless there is something to want more of.

[Toddsterpatriot]

Cheeze! Of course,"INFLATION IS always and everywhere a monetary phenomenon"

Ummmm, they used to think inflation was caused by too much employment.

Inflation is when the seller wants more "money" -- whatever that money is: coins and paper, wampum, seashells, tree bark, playing cards, etc. etc. [In short, some agreed upon means of exchange] -- for his goods or services.

Inflation involves all prices.

[ml/nj]

Ummmm, they used to think inflation was caused by too much employment.

Or anything but the guy turning the crank.

ML/NJ

[Kitten Festival]

If anyone has any doubt that inflation is a monetary phenomenon, please check out this new informative little chart and graph on Hugo Chavez's money-spending practices here.

[Tijeras_Slim]

The Death of Monetarism

And just when I had invested in his paintings.

[wizr]

"It's just a viscuous coicle." - Curley

[Kellis91789]

[Inflation is when the seller wants more "money" -- whatever that money is:]

Not really. A seller can 'want' forever, but if there isn't any more money in circulation, then he won't get it.

The point is literally how much money is available. If the total amount available doesn't increase, then an increased price in one area must mean a decreased price in another area -- hence zero inflation when the entire economy is considered. It is up to a government to decide how much money 'exists' even when it is just a number on paper. (Or the Federal Reserve, in the case of the USA, even though the Federal Reserve is not part of the government.) Regardless, you can't have inflation if the total supply of money is not increasing.

[PGalt]

Thanks for the link. Comments relating to the chart are interesting (as well as the bartering comments above it).

[truth_seeker]

The link between inflation and employment was described by the "Phillip's Curve."

In the 60s this was dogma.

http://en.wikipedia.org/wiki/Phillips_curve

[Kitten Festival]

De nada, amigo!

[nothingnew]

You're just a "victim of soicumstance!"

FMCDH(BITS)

[David]

"Cheeze! Of course,"INFLATION IS always and everywhere a monetary phenomenon"

Ummmm, they used to think inflation was caused by too much employment.

Inflation is when the seller wants more "money" -- whatever that money is: coins and paper, wampum, seashells, tree bark, playing cards, etc. etc. [In short, some agreed upon means of exchange] -- for his goods or services.

Inflation involves all prices."

The media typically covers the subject in the context of prices of specific goods and commodities or in terms of the Consumer Price Index, both of which are market price driven numbers. We read that because oil prices are up, inflation is up.

Not so. Inflation is that part of the aggregate price level increase attributable to the increase in money supply. But for the fact that the money supply went up, the price increase in oil would have been less.

In our fed driven money system, the only way any material volume of new money gets created and into the system is through the process of borrowing it from a bank. Way we control the increase in money supply and bank borrowing that results in the increase is to raise interest rates.

[Oberon]

Oh, like, wow! That is, like, so profound.

Your sarcasm is misplaced. The idea in question is not a given, and wasn't always the prevailing theory.

[JLS]

Cheeze! Of course,"INFLATION IS always and everywhere a monetary phenomenon"

Inflation is when the seller wants more "money" -- whatever that money is: coins and paper, wampum, seashells, tree bark, playing cards, etc. etc. [In short, some agreed upon means of exchange] -- for his goods or services.

Actually no. The seller wanting more money might well be a change in relative prices, ie values. Inflation is a rise in the general price level. Such a general rise in all prices on average can only take place if their is more money around as you say. This is a great part of Friedman's insight and you can often see/hear MSM types making errors about this and confusing a rise in oil prices or prices in some sector with inflationl which it is not.

[LowCountryJoe]

You did not research enough before your reply. What Dr. Friedman meant by his "monetary phenomena" comment was that an introduction (or growth) of money is what causes the inflation. This is because inflation is really best defined as the erosion of purchasing power of a dollar. In fact, if not for the introduction of new money -- whether it is physically printed or it is just introduced through the Federal Reserve system, through computer keystrokes -- productivity gains throughout the economy would actually create deflation or rising purchasing power of a dollar.

[fortheDeclaration]

You did not research enough before your reply. What Dr. Friedman meant by his "monetary phenomena" comment was that an introduction (or growth) of money is what causes the inflation. This is because inflation is really best defined as the erosion of purchasing power of a dollar. In fact, if not for the introduction of new money -- whether it is physically printed or it is just introduced through the Federal Reserve system, through computer keystrokes -- productivity gains throughout the economy would actually create deflation or rising purchasing power of a dollar.

Exactly correct.

The problem with the Monterist school is that they sought 'stable' prices by interjecting a steady amount of inflation into the system.

However, what occurs from this is the dreaded 'boom and bust' business cycle.

The 'money' placed into the system by the gov't, suppresses real interest rates to give a false sense of prosperity, resulting in malinvestment.

When that dose of inflation wears off, then the interest rates return to their real market rates and a contraction occurs in the market due to the previous artifical lowering of inflation rates.

The 'Austrian' school of Menger, Mises, Hayek and Rothbard put it all together.

[LeGrande]

The problem with the Monterist school is that they sought 'stable' prices by interjecting a steady amount of inflation into the system.

Some inflation is a good thing (i.e.less than the GDP growth rate), because it is an incentive to put your money to work. If the money supply does not increase the incentive is for everyone to hold onto their money because they can buy more in the future with it, not less. That is what happened with the great depression, people horded their money.

If the money supply is increased too rapidly, you are correct, it leads to boom and bust cycles. The problem is that the money supply indicators M2, M3 are not accurate, because they do not include the money supply growth created by investments, stocks, property, etc. The growth can rapidly accelerate out of the central banks control. That is why we have the Feds trying to predict the future and raising and lowering interest rates pro actively.

[fortheDeclaration]

No, inflation is always a negative. He creates a false sense of prosperity by artifically lowering interest rates.

Investors assume with the lower rates that consumers are able to buy and thus invest in consumer product production.

When the effect of the inflation wears off, then the interest rates go back to their market levels and cause a contraction.

The Fed was created to stop the 'boom and bust' cycle, yet has been the biggest cause of it.

For the best historical book on it, see Rothbard's, 'Great Depression'.

[RobRoy]

>>Inflation is when the seller wants more "money" <<

Not true. Inflation is when the seller wants more money - and gets it.

Which means there is more money to be gotten. Which means the quantity of money available is what fuels inflation.

On a side note, I think the minimum wage should be $75 per hour. Then EVERYBODY could afford a nice house and a Porsche and we'd all live happily ever after. Well, unless prices went up to match...