Milton Friedman: A Guide to His Economic Thought
Rising prices are the almost inevitable result of a large expansion of the quantity of money in circulation.
Milton Friedman’s claim to fame was largely based on his attack on many of the orthodox views at the time that failed to explain the rising inflation in the 1940s.
Milton Friedman suggested the demand for money, and therefore its influence on inflation, was relatively stable.
Given there are always people willingly or unwillingly between jobs/looking for work, Milton Friedman rejected the notion of full employment. He argued there was a natural rate of unemployment taking into account these constant structural changes.
As Keynesian economics suggests, the expansion of the quantity of money stimulates new output in employment and business sees a boom.
Milton Friedman supported free and floating exchange rates based on natural market forces rather than fixed exchange rates based on central bank intervention.
The total quantity of money in the economy multiplied by the number of times each unit of that money is used to make a purchase will give you the total volume of transactions (MV = PT).
Inflation is always and everywhere a monetary phenomenon.
An initial increase in the monetary growth prompts an initial increase in business activity with a rise in output and employment, but eventually, output is expanded to its maximum extent and new spending will go entirely to bid up prices.
According to Milton Friedman, a change in the rate of growth of money will, on average, produce a change in the nominal growth of income about 6-9 months later.
Without an expansion of the money supply, it is impossible for consumers to spend more on something (because of inflation) without spending less on something else.
Short-term price changes can be driven by supply and demand, but those changes are not sustainable without a change in the supply of money.
Lower returns (interest rates) on bonds induce people to put their money elsewhere, such as new or more speculative investments.
The economic effects of changes in the money supply are influenced by the ratio of bank deposits to bank holdings, which is related to commercial bank behavior/activity.
Fractional reserve banking allows banks to create money so they aren’t limited to their deposits.
Different forms of money have different characteristics, including velocity.
The total stock of money is influenced by both the government and its country’s respective commercial banking system.
Money causes changes in business activity, not the other way around.
Friedman argues that the price of money is the quantity of goods and services that must be given up to acquire a unit of money, not interest rates.
Interest rates are the price of credit; the cost of borrowing a unit of money that somebody else has temporarily given up, not what that unit can be exchanged for once it is held.
A central bank’s focus on exchange rates often comes at the expense of the domestic economy.
Every severe economic contraction has been accompanied by an absolute decline in the supply of money, and the severity of those contractions has been roughly proportionate to the size of the decline.
Friedman believed consumers operate under a permanent income (a more static view of their income less prone to fluctuations). Accordingly, he believed the changes in income had a small effect on spending.
Rising costs, such as wage payments, can only be sustained if money is created to finance them.
When inflation expectations become entrenched, it can increase the velocity of money. Consumers spend more and drive up incomes, and businesses spend faster/less efficiently, which eventually drives prices up higher than nominal income.
Inflation primarily affects those with fixed earnings, such as wage/salary workers and retirees on fixed incomes. However, it can benefit investors and asset holders, which helps to drive wealth gaps.
Inflation benefits governments by reducing the real value of their debts and moving taxpayers up the tax bracket despite their real income not growing.
Friedman rejected the Phillips curve, believing that inflation and unemployment had no significant long-term impact on each other.
In the long term, monetary measures only affect nominal quantities while the levels of unemployment and other real magnitudes are only influenced by real events.
In the face of inflation, people constantly have to spend time and energy distinguishing between nominal and real changes in prices.
Monetary policy affects the economy with long and variable lags.
Every time people invest, it raises incomes, and every time incomes are raised, there is more investment.
For each dollar a government receives through taxation, it has to borrow a dollar less.
Friedman found that monetary policy, not fiscal, was what influenced long-term changes in income.
Friedman believed in eliminating fractional reserve banking and federal government open market operations, and also setting pre-determined limits on government spending.
Friedman argued for a tax system that minimized exemptions and primarily focused on personal income, increasing during booms and decreasing during downturns to better match the business cycle.
Because governments aren’t spending their own money, they are far less effective at allocating resources than the private sector.
Anyone who discriminates in their business or economic activity imposes costs on themselves by restricting their choice of suppliers/consumers, thus discrimination is economically disincentivized.
Friedman believed the government should limit its role to the protection of fundamental rights, transparent rule-making to facilitate business, the provision of public goods, and protecting the community from irresponsible individuals (insane, negligent, etc).
Governments will frequently support cartel arrangements in various industries to promote a more orderly and regulated market.
Friedman believed in abolishing corporate taxes because they drive corporations to reinvest their earnings and grow beyond what is economically efficient rather than deliver profits to shareholders (and pay taxes).
Minimum wages will price inexperienced workers out of entry-level positions and tend to lead to higher unemployment to pay for those higher wages.
Friedman thought a voucher system where private education would compete for government money would allow the free market to improve the current government-supported monopoly on education.
A substantial change in the quantity of money will inevitably lead to a substantial change in nominal income.
Friedman believed economics could be fully understood through theory like any hard science, and value judgments were not necessary.