Posner’s peculiar essay on Milton Friedman

Richard Posner has an essay arguing that the influence of Milton Friedman is declining, partly because the recent crisis showed weaknesses in laissez-faire ideology.  He specifically cited the deregulation of the financial markets as a cause of the crisis, even though the most persuasive studies suggest otherwise.

In fact, the profession is only beginning to catch up to what Friedman understood in 1998:

Low interest rates are generally a sign that money has been tight, as in Japan; high interest rates, that money has been easy.

.   .   .

After the U.S. experience during the Great Depression, and after inflation and rising interest rates in the 1970s and disinflation and falling interest rates in the 1980s, I thought the fallacy of identifying tight money with high interest rates and easy money with low interest rates was dead. Apparently, old fallacies never die.

Most of the profession thought money in Japan was easy, and that monetary policy was effective ineffective at the zero bound.  Friedman knew better.  Now in 2013 we are finally seeing what happens when a central bank does adopt a 2% inflation target—the currency depreciates sharply in the forex markets, in contrast to those (like Posner?) who believed in liquidity traps.  Friedman was one of the few to correctly diagnose the Japanese deflation, and to provide effective solutions.  It’s nice to see the world beginning to come around to his views.  ”Expectations traps” are about as real as “confidence fairies.”  (Funny how some believe in one but not the other.)

I found this to be even more puzzling:

Although economic libertarians advocate a number of sensible reforms, such as ending the war on drugs, authorizing physician-assisted suicide, allowing the sale of kidneys and other organs, deregulating the adoption market, abolishing tax deductions for employer-provided health insurance, liberalizing immigration, privatizing the postal service, and abolishing agricultural subsidies, many of these and other libertarian reforms are politically infeasible.

Yes, it’s politically infeasible to achieve pure libertarian solutions in the political realm.  But surely a pragmatist like Posner does not view perfection as the relevant measure of influence.  In fact, libertarianism is making very important gains in many of the areas cited by Posner:

1.  Two states recently voted to legalize marijuana.  Given the strong support for legalization among the young, and the strong opposition among voters too old to have been hippies in the 1960s, support for legalization of marijuana will continue to spread, one funeral at a time.

2.  Two states have now legalized physician-assisted suicide.  And as with marijuana legalization, this trend is almost certain to spread.

3.  The Obama health care bill has a provision that gradually phases out the tax deductibility of health insurance.  Although I was very disappointed by many provisions of ObamaCare, this provision is a huge win against the medical-industrial complex.  It will eventually raise the cost of health care bought by insurance from 60 cents on the dollar, to the full cost of provision.  This will provide enormous incentives to hold down health care costs.  Yes, there are other provisions of ObamaCare that boost costs, but in the long run this provision is a big win.  Academic economists (liberal and conservative) beat an industry controlling 18% of GDP.

4.  I don’t know if the immigration liberalization plan will pass Congress, but the vote is so close that Posner can’t possible claim it is “politically infeasible.”  It might well happen.

5.  With the advent of email the younger generation is losing all interest in snail mail.  At some point they will view the Post Office as a dinosaur, and it will be privatized.  Matt Yglesias recently suggested it be turned into an employee-run company, with no subsidies.

And that’s not to mention all sorts of other ideas of Milton Friedman that have already happened (end the draft, lower MTRs on the rich, privatize SOEs, remove price controls and barriers to entry in fields like transportation), or are very much a part of the current political debate (education vouchers, HSAs, etc.)

Milton Friedman will remain relevant when other “giants” of his era (like Bob Solow) are long forgotten, or perhaps just a name attached to a growth model that has long since lost its relevance.

HT:  David Henderson


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35 Responses to “Posner’s peculiar essay on Milton Friedman”

  1. Gravatar of Posts I like today | TVHE Posts I like today | TVHE
    28. May 2013 at 18:49

    [...] no Friedman today – I am surprised at the strength of some of Solow’s comments.  Also here is Sumner – who I largely agree [...]

  2. Gravatar of Garrett M Garrett M
    28. May 2013 at 18:59

    “Most of the profession thought money in Japan was easy, and that monetary policy was effective at the zero bound.”

    I think you mean ineffective.

  3. Gravatar of ssumner ssumner
    28. May 2013 at 19:01

    Thanks Garrett, I’m going too fast.

  4. Gravatar of Charles Charles
    28. May 2013 at 19:22

    If Milton Friedman were alive today he would recommended a draconian fiscal austerity with a radical monetary stimulus replaced the FED with a computer or something like Lars called “a monetary constitution” because Friedman argued the the FED should be abolished because it depends of the right guy,

    Abolish all the regulations, abolish minimum wage laws, replace the income tax with a progressive consumption tax and privatized public schools and everything else…

  5. Gravatar of Charles Charles
    28. May 2013 at 19:34

    In student loans he would recommended an something like an equity investment arrangement, a student who realizes a big return on her education investment shares it with taxpayers by repaying more than was originally invested in her (socialized gain), but if she never earns much, she won’t even pay a fraction of what taxpayers originally invested in her (socialized loss).

  6. Gravatar of OhMy OhMy
    28. May 2013 at 19:36

    The “most persuasive studies” that you say suggest deregulation had nothing to do with the crisis do no such thing, click at your own link. Why am I not surprised? Yes there were conditional forecasts, it has zero to do with who and how can write mortgages and how leveraged can you get. And what accounting standards firms have to follow.

  7. Gravatar of Benjamin Cole Benjamin Cole
    28. May 2013 at 20:19

    Friedman’s influence is likely to be sustained, as his arguments were founded on classic logic.

    I just wish the American right was not so selective in their admiration of Friedman.

    Friedman–

    Thought a progressive consumption tax was the way to fund military ventures.

    Hated the gold standard.

    Would laugh at the ethanol program.

    Would dismiss the homeowner mortgage interest tax deduction.

    But, people cite Friedman the way they cite the Bible–very selectively.

    Next time you are in a GOP group, quote Jesus Christ: “It is easier to get a rich man through the eye of a needle than into heaven.”

    You will be asked to leave.

  8. Gravatar of Suvy Suvy
    28. May 2013 at 20:27

    One of the major problems that caused the 2008 meltdown of the financial sector was the leverage resulting from the implicit and explicit bailouts. The banks were bailed out many different times since the 80s and 90s without the financial system ever being allowed to fail. The bank bailouts, the subsidization of leverage, governments trying to egg on the boom, etc were critical in causing the financial crisis; Friedman hated all of those things.

  9. Gravatar of Larry Larry
    28. May 2013 at 20:32

    “Low interest rates are generally a sign that money has been tight”

    Heard this on CNBC today. Soldier on!

  10. Gravatar of Nicholas Glenn Nicholas Glenn
    28. May 2013 at 22:44

    Wouldn’t the libertarian position be for all health insurance to be tax deductible? Do you have a link to somebody explaining the effects of this? Was Friedman one of the people who influenced your decision to pursue economics?

  11. Gravatar of Benjamin Cole Benjamin Cole
    29. May 2013 at 00:23

    Question:

    There seems to be a sense in the markets that the Fed, when ending QE, at some point has to sell its booty-hoard of bonds, $3 trillion worth. This isn’t helped by Feldstein’s recent quavering about the Fed being “saddled” with $3 trillion in bonds.

    If markets move by expectations, is disposition of the Fed’s $3 trillion booty-hoard a problem?

    Should the Fed say something about this? As in “We don’t have to sell the bonds, ever.”

    Also, should the Fed be required to “book a loss” when they sell the bonds, if the bonds are worth less on sale than when bought?

    This strikes me a bean counter’s fancy, and not real life. The bonds were paid for in cash. The Fed does not lose money when it sells the bonds; it has pure capital gains.

    Yet the reporting of a “loss” could have ramifications for fiscal and monetary policy.

    These are interesting questions…..

  12. Gravatar of marcus nunes marcus nunes
    29. May 2013 at 02:47

    Even more peculiar is Solow´s article, to whom “Milton Friedman´s are bad for the economy and for society”!
    http://thefaintofheart.wordpress.com/2013/05/22/milton-friedmans-are-bad-for-the-economy-and-for-society/

  13. Gravatar of Geoff Geoff
    29. May 2013 at 02:59

    “Yes, it’s politically infeasible to achieve pure libertarian solutions in the political realm.”

    Why do you vote? Or recycle?

    If everyone thought like you did, then yes, it would be impossible to change things. But it’s not impossible as if politics are a law of nature, because people can indeed choose. They can choose differently if they have different ideas. That’s where you as an intellectual come in to play. Instead of pandering to those who don’t understand, you ought to be educating them so that they do understand. That’s the job of an intellectual. Those intelligent people who don’t take on this role are opportunists, demagogues, or worse, parasites.

    This whole “It’s politically infeasible!” idea derives from two main sources. One, the person who says it secretly desires politically feasible (anti-libertarian) solutions for whatever reason, be it for career, money, prestige, social acceptance, or other “external” reasons. Two, the person who says it does not understand, or does not want to understand, politically infeasible (pro-libertarian) solutions for whatever reason, be it laziness, psychological discomfort, resentment, hatred, or other “internal” reasons.

    In no case is the reason due to the person having some mystical mental capacity, a Nostradamus-like insight, of actually being able to predict the future of human choices and actions, such that their capitulation is “scientific”, “pragmatic”, or in some way “rational”. To believe otherwise is a lie.

  14. Gravatar of ssumner ssumner
    29. May 2013 at 05:26

    OhMy, The problems mostly reflected debt that could be and was done even before deregulation.

    Ben and Suvy, Good points.

    Thanks Larry.

    Nicolas, No, libertarians oppose having the government subsidize the cost of health care with tax breaks (especially for the middle class.)

    Ben, They’ve discussed two ways to exit–sell off bonds, or higher IOR.

    Marcus, Yes, I saw that.

  15. Gravatar of flow5 flow5
    29. May 2013 at 06:26

    Maybe you should read the available correspondence between him & Pritchard. You can’t take reserves or money out of the banking system (unless you hoard currency). So why does the Fed remunerate reserves? Why were Reg Q ceilings eliminated? The IOeR policy is not only a credit control device, it also stops money from flowing thru the non-banks (where savings is matched with investment).

  16. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    29. May 2013 at 06:52

    As ahistorical, illogical, and (one suspects) envious as Posner and Solow’s pieces were, Jamie Galbreath outdid them by recycling an old slander;

    ‘We may surmise that Friedman’s affinity for first principles were behind his support for the Chilean dictator Augusto Pinochet, a man who granted freedom—and life itself—only to those who dared not oppose him. Here was a grisly contradiction between “economic freedom” and the real thing. My impression is that Friedman did his best to ignore Pinochet’s crimes, and then made up excuses when he had to. This is perhaps harsh. But it’s a more generous view than the alternative, which is to believe that he thought the socialists, communists, poets and musicians in the National Stadium got what they had coming.’

    All you’d have had to do to know that Friedman was NOT a supporter of Pinochet is read the section on Friedman’s trip to Chile in ‘Two Lucky People’.

  17. Gravatar of Steve Steve
    29. May 2013 at 07:15

    OT, from the EMH violation department:

    Tesla (TSLA) is currently violating put-call parity in a substantial way. You can synthetically buy TSLA (long call, short put, same strike) at ~5% discount to the underlying stock 6 months out. If you short the stock against it, that’s a risk free 10% annualized return (assuming you can get a borrow).

    Of course, if you are bullish, you can simply cash out and buy synthetically instead, and save 5% over 6 months.

  18. Gravatar of Doug M Doug M
    29. May 2013 at 07:33

    “He specifically cited the deregulation of the financial markets as a cause of the crisis, even though the most persuasive studies suggest otherwise.”

    It doesn’t matter whether de-regulation was or was not a cause of the crisis. It is a popular narrative that it was. And as a result we have Dodd-Frank, and the consumer protection act.

  19. Gravatar of Max Max
    29. May 2013 at 08:06

    Steve, that’s a heavily shorted stock so I would assume that borrowing it is not cheap. Institutional holders of the stock (e.g. index funds) can benefit from lending it. They don’t need to mess around with options.

    The violation of EMH isn’t in the puts and calls, it’s in the price of the stock. If sophisticated investors are paying 10%/year to short it, it’s probably overvalued.

  20. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    29. May 2013 at 08:15

    L’esprit de Milton;

    http://www.banque-france.fr/fileadmin/user_upload/banque_de_france/publications/RA-2012-lettre-EN.pdf

    ————quote————–
    For the past ten years, France has had one of the highest levels of public spending in the world. Over a certain threshold, which our country has probably crossed, any increase in public spending and debt has extremely negative effects on confidence. Households perceive the imbalance in public finances, anticipate a future increase in taxes and thus start to reduce their spending straight away. Businesses do the same with their investments and, together, these reactions largely offset the temporary boost to growth provided by an increase in fiscal spending. In contrast, credible fiscal consolidation, sustained over the medium term, has highly positive effects on confidence, consumption,
    investment and, ultimately, growth.

    ….France is one of the biggest spenders on employment policies in the developed world, but it still has one of the highest levels of unemployment, particularly among the younger population.

    ….. Do these subsidies not serve to offset market rigidities that could in fact be addressed directly at a lower cost and with more effective results? France and Germany both saw similar drops in economic activity during the crisis, but whereas in France the downturn was primarily absorbed through job losses, in Germany the economy adjusted through a reduction in working hours and through a sharp, but temporary rise in partial unemployment. Overall, despite the fact that German GDP contracted almost twice as much as in
    France in 2009, German unemployment remained stable while around 500,000 jobs were destroyed in France.
    ————endquote———

    And much more in a similar vein.

  21. Gravatar of Steve Steve
    29. May 2013 at 08:21

    Max,

    If a buyer chooses to pay $105 on the stock exchange when he can buy exactly the same thing for $100 on the options market, that’s a violation of EMH.

    Otherwise, I agree. :)

  22. Gravatar of Edward Lambert Edward Lambert
    29. May 2013 at 08:37

    Would Friedman recommend raising the Fed rate?

  23. Gravatar of TallDave TallDave
    29. May 2013 at 10:17

    Yes, it’s politically infeasible to achieve pure libertarian solutions in the political realm.

    It is always a mistake to assert this. Any solution is always possible politically. It’s just a matter of getting people to believe in said solution.

  24. Gravatar of TallDave TallDave
    29. May 2013 at 10:20

    For instance, a lot of people never believed we’d see real 2nd Amendment protections, legalized marijuana, or legalized gay marriage. Those things all happened because people changed their minds.

  25. Gravatar of Max Max
    29. May 2013 at 13:12

    Steve, “If a buyer chooses to pay $105 on the stock exchange when he can buy exactly the same thing for $100 on the options market, that’s a violation of EMH.”

    Not if the buyer can make $5 from lending out the $105 stock.

  26. Gravatar of W. Peden W. Peden
    29. May 2013 at 14:45

    Didn’t Friedman back 100% reserve banking? What does a bank run look like with such a system?

    Anyway, there has been significant progress in some areas since 1980 and significant failures. In general, libertarian policies have done fairly well, even if usually not for libertarian reasons and with some major problems e.g. the size of the state and the degree of so-called “entitlements”; so-called because you have to keep on voting for particular politicians to get your taxes back: one might even call such a relationship one of dependency or even- whisper it- serfdom.

  27. Gravatar of W. Peden W. Peden
    29. May 2013 at 14:49

    Edward Lambert,

    I’d hope that he’d think in terms of rules rather than policy actions.

    Patrick R. Sullivan,

    “But it’s a more generous view than the alternative, which is to believe that he thought the socialists, communists, poets and musicians in the National Stadium got what they had coming.”

    A false dichotomy from a Galbraith? I’m shocked.

  28. Gravatar of flow5 flow5
    29. May 2013 at 16:17

    What does a bank run look like with such a system?

    CBs with a 100 percent reserve ratio are financial intermediaries incapable of creating new money & credit. A bank run would resemble the S&L credit crisis.

  29. Gravatar of Steve Steve
    29. May 2013 at 16:33

    Max wrote “Not if the buyer can make $5 from lending out the $105 stock.”

    By definition, the number of longs exceeds the number of shorts by the total shares outstanding. Therefore, there are longs comprising equal to the entire shares outstanding who irrationally choose to forgo the $5 discount available in the options market.

  30. Gravatar of TSpencer TSpencer
    29. May 2013 at 20:49

    “Milton Friedman will remain relevant when other “giants” of his era (like Bob Solow) are long forgotten, or perhaps just a name attached to a growth model that has long since lost its relevance.”

    Bravo, saved the best till last

  31. Gravatar of ssumner ssumner
    30. May 2013 at 05:33

    Patrick, Yes, that’s a disgusting lie.

    Steve. So do it!

  32. Gravatar of Jeff Jeff
    30. May 2013 at 12:51

    With 100 percent reserves, there are no bank runs. Everyone knows their bank has reserves sufficient to pay off depositors, so the bank runs never get started.

    The great virtue of a 100 percent reserve requirement is that it makes a few things clear even to obtuse economists. One is that money and credit are not the same thing, and another is that setting an interest rate is a really dumb way to conduct monetary policy.

    A bit more on topic, given that we don’t have a 100 percent reserve system, Friedman did favor deposit insurance. However, he also understood that there will always be attempts to exploit any government guarantees, and I doubt he would have favored as much deregulation of the financial industry as we saw in the run up to the 2007 crisis. At the very least, I think Friedman would have wanted much higher capital standards than we had either then or now.

  33. Gravatar of Geoff Geoff
    30. May 2013 at 13:20

    Jeff:

    Friedman also advocated for 100% reserve as well.

  34. Gravatar of Joe C Joe C
    30. May 2013 at 13:25

    Attended an economic presentation this morning by a phd economist with a wealth of experience and I heard the dreaded phrase: “As you can see by interest rates over the past 30 years; monetary policy has become more and more loose.”

  35. Gravatar of ssumner ssumner
    31. May 2013 at 07:55

    Joe, That’s just sad.

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