A Program for Monetary Stability

Last updated

A Program for Monetary Stability is a book by the US economist Milton Friedman. It has been published by Fordham University Press in 1960 with consecutive re-prints appearing in 1961, 1963, 1965, 1969, 1970, 1975, and 1980. [1] In the Prefatory Note Friedman states that the book is a revised and expanded version of the third of the Moorhouse I. X. Millar Lecture Series, which he gave at Fordham University in October 1959. At the same time, he claims that the book has resulted from the joint research with Anna Schwartz under the NBER project. [2]

Contents

Contents

The book comprises four chapters: [1]

  1. The Background of Monetary Policy: [3] In this chapter, Friedman first explains why government should intervene in monetary and banking questions. Although he proclaims himself a liberal, he thinks there are good reasons for not leaving monetary issues entirely to the market forces because with fiduciary money the government should prevent fraud and enforce contracts. Furthermore, he argues that “some external limit must be placed on the volume of fiduciary currency in order to maintain its value”. [4] Also, issuing fiduciary money is a technical monopoly and this activity produces externalities, so all this serves as additional arguments for the role of government, which should provide stable monetary framework on a par with the stable legal framework. As a result, he claims that “there is probably no other area of economic activity with respect to which government intervention has been so uniformly accepted.” [5] He reviews the major depressions before the establishment of the Federal Reserve: the 1837-1843 period, 1873-1879, 1890s, and 1907-1908, concluding that almost all of them were associated with monetary developments, except for the last episode. [6] He reviews the record after the establishment of FED claiming that after 1913 there was larger monetary instability. He states that every major economic disturbance, inflation and contraction, has been accompanied by a significant monetary disturbance. He states “the central problem is not to construct a highly sensitive instrument that can continuously offset instability introduced by other factors, but rather to prevent monetary arrangements from themselves becoming a primary source of instability.” [7]
  2. The Tools of the Federal Reserve System: [8] Here, Friedman discuss the Fed's tools of credit policy and criticizes the controls over margin requirements on security loans, opposes the direct controls on consumer installment credit, and refutes the controls on interest rates on demand and time deposits. He discusses the tools of monetary policy arguing that “open market operations alone are a sufficient and efficient tool for monetary policy. Variations in reserve requirements... share with rediscounting the property of being a technically poor instrument for controlling the stock of money. Both should be eliminated or greatly altered.” [9] He explains how open market operations alone can ensure smoother and more precise control of the high-powered money not withstanding whether monetary policy is implemented via the money stock or the interest rate. [10] He argues that the discount rate introduces confusion between the effects of Fed on monetary policy and its effects on the credit markets. In this way, the discount rate diverges the attention from the main task of Fed – the control of the stock of money. [11] Friedman discusses variations of reserve requirements as a monetary policy tool. He claims that variable required reserves should be eliminated or should be set and kept at fixed level. According to him, the main defect of this tool is that it changes infrequently, which means it has drastic effects on the banks; it is difficult to reverse its changes; it needs to be offset by the open market operations with uncertain effects on the stock of money; and it affects the composition between earning and non-earning bank assets, thus, affecting bank profitability. [12] He concludes that open market operations should be the monetary policy instrument for several reasons: they are impersonal, they can be used continuously on a day-to-day basis, the operations can be reversed within a day, their amount can be varied, they need not be announced publicly so they do not cause any speculation about their future course, they do not affect bank profitability, they enable Fed to determine the amount of high-powered money more precisely, and the link between Fed's actions and the stock of money is more direct and predictable. [13]
  3. Debt Management and Banking Reform: [14] Friedman states that debt management by the Treasury and open market operations by the FED have the same effects on the money stock. [15] He proposes that the Treasury use one kind of accounts – either with the banks or with the FED. [16] He criticizes the legal limitation on the interest rate paid on long-term government securities. He proposes a deep reform that would provide a coordination of the Treasury's debt management operations with the FED's open market operations – FED should be responsible for all transactions with treasury securities. [17] He criticizes the Treasury's debt issuing practice as the one that creates monetary instability. [18] He proposes within the present institutional and administrative structure, issue short-term bills for seasonal needs and moderately long-term bonds; both issues should be made regularly (weekly or bi-weekly); sell them only at auctions; shift from auctions with a single bid to auctions with multiple bids and maximum price for some specified amounts. [19] Friedman states that the fractional reserve system has two defects: the excessive government intervention in the banks’ lending and investment decisions associated with the deposit insurance; and its inherent instability in the sense that the amount of reserves depends on the public's decisions about the form of holding money (currency versus deposits) and the banks’ decisions about the structure of their assets. [20] Friedman proposes that banks hold 100% reserves for deposits, which means that the stock of money would be equal to the high-powered money. This reform implies that banks would be divided in two different institutions: depository institutions, which would receive demand deposits covered by 100% reserves; and investment trust or brokerage firms, which would be able to issue shares and bonds and to lend money and to invest in securities. He proposes that FED would pay interest on the banks’ reserves. [21]
  4. The Goals and Criteria of Monetary Policy: [22] Friedman reviews the US experience with the gold standard during the 19 and 20th century, criticizes the US gold policy and the role of gold in the US monetary system, and proposes abandoning the system of fixed exchange rates along with the fixed official price of gold. [23] He claims that relying on discretion in monetary policy has produced unfortunate monetary consequences, i.e. continuous shifts in monetary policy caused by the political pressures on the central bank or the changes in the personal beliefs and opinions. [24] He refutes price stability as a relevant goal of monetary policy because, in the short-term, the link between money and price changes is loose and imperfectly known. Another problem refers to the long and variable time-lags. Price stability would be a good guide to monetary policy if we knew the effects of non-monetary factors on prices, the exact time lag of present monetary actions, and the size of the effects of present monetary actions. Therefore, he proposes monetary aggregates as a guide of monetary policy, because they are under direct control by the central bank. Specifically, he proposes the fixed growth of the money stock suggesting an annual growth between 3 and 5%. [25]

At the end of the book Friedman lists his recommendations as follows: [26]

Reviews

In its review, The Journal of Finance describes the book as "simple and logical, the style extremely lucid and readable... This book... bristles with suggestions, brilliant analysis, and numerous recommendations - some old, some new, some deserving wide support, others that are provocative, radical, even brash. One would have to look far to find so much controversial material in such small compass... Everyone who reads this book will admire the ingenuity and mental acuteness displayed by a very competent economist." The American Economic Review describes the book as "provocative" whereas Review of Social Economy claims that "this excellent, though provoking book... makes us better aware of the fundamental problems... of a modern economic world". According to The Christian Science Monitor Friedman "offers sweeping suggestions for reforming the monetary and banking systems of the United States" and "introduces interesting proposals for altering the monetary instruments currently employed by the Federal Reserve Board". Similarly, The Wall Street Journal calls the book "penetrating" arguing that "it can be recommended for a good look at the real roots of inflation - the look that thus far has not been widespread enough, among enough people." [1]

Notes

  1. 1 2 3 Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960.
  2. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. xi-xii.
  3. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 1-23.
  4. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, p. 7.
  5. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, p. 8.
  6. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 10-13.
  7. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 22-23.
  8. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 24-51.
  9. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 24-30.
  10. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 30-35.
  11. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 35-45.
  12. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 45-50.
  13. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 50-51.
  14. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 52-76.
  15. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 52-53.
  16. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, p. 55.
  17. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 58-59.
  18. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 60-63.
  19. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 63-65.
  20. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 65-68.
  21. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 68-75.
  22. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 77-99.
  23. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 77-84.
  24. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, p. 85.
  25. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 85-92.
  26. ↑ Milton Friedman, A Program for Monetary Stability. New York: Fordham University Press, 1960, pp. 100-101.

Related Research Articles

<span class="mw-page-title-main">Federal Reserve</span> Central banking system of the United States of America

The Federal Reserve System is the central banking system of the United States. It was created on December 23, 1913, with the enactment of the Federal Reserve Act, after a series of financial panics led to the desire for central control of the monetary system in order to alleviate financial crises. Over the years, events such as the Great Depression in the 1930s and the Great Recession during the 2000s have led to the expansion of the roles and responsibilities of the Federal Reserve System.

<span class="mw-page-title-main">Milton Friedman</span> American economist and statistician (1912–2006)

Milton Friedman was an American economist and statistician who received the 1976 Nobel Memorial Prize in Economic Sciences for his research on consumption analysis, monetary history and theory and the complexity of stabilization policy. With George Stigler and others, Friedman was among the intellectual leaders of the Chicago school of economics, a neoclassical school of economic thought associated with the work of the faculty at the University of Chicago that rejected Keynesianism in favor of monetarism until the mid-1970s, when it turned to new classical macroeconomics heavily based on the concept of rational expectations. Several students, young professors and academics who were recruited or mentored by Friedman at Chicago went on to become leading economists, including Gary Becker, Robert Fogel, Thomas Sowell and Robert Lucas Jr.

<span class="mw-page-title-main">Monetarism</span> School of thought in monetary economics

Monetarism is a school of thought in monetary economics that emphasizes the role of governments in controlling the amount of money in circulation. Monetarist theory asserts that variations in the money supply have major influences on national output in the short run and on price levels over longer periods. Monetarists assert that the objectives of monetary policy are best met by targeting the growth rate of the money supply rather than by engaging in discretionary monetary policy. Monetarism is commonly associated with neoliberalism.

The monetary policy of The United States is the set of policies related to the minting and printing of United States dollars, plus the legal exchange of currency, demand deposits, the money supply, etc. In the United States, the central bank, The Federal Reserve System, colloquially known as "The Fed" is the monetary authority.

<span class="mw-page-title-main">Money supply</span> Total value of money available in an economy at a specific point in time

In macroeconomics, the money supply refers to the total volume of currency held by the public at a particular point in time. There are several ways to define "money", but standard measures usually include currency in circulation and demand deposits. The central bank of a country may use a definition of what constitutes legal tender for its purposes.

<span class="mw-page-title-main">Panic of 1837</span> 19th-century United States financial crisis

The Panic of 1837 was a financial crisis in the United States that touched off a major depression, which lasted until the mid-1840s. Profits, prices, and wages dropped, westward expansion was stalled, unemployment rose, and pessimism abounded.

Monetary economics is the branch of economics that studies the different theories of money: it provides a framework for analyzing money and considers its functions, and it considers how money can gain acceptance purely because of its convenience as a public good. The discipline has historically prefigured, and remains integrally linked to, macroeconomics. This branch also examines the effects of monetary systems, including regulation of money and associated financial institutions and international aspects.

<span class="mw-page-title-main">Monetary policy</span> Policy of interest rates or money supply

Monetary policy is the policy adopted by the monetary authority of a nation to control either the interest rate payable for very short-term borrowing or the money supply, often as an attempt to reduce inflation or the interest rate, to ensure price stability and general trust of the value and stability of the nation's currency.

<span class="mw-page-title-main">Causes of the Great Depression</span> Overview of the causes of the Great Depression

The causes of the Great Depression in the early 20th century in the United States have been extensively discussed by economists and remain a matter of active debate. They are part of the larger debate about economic crises and recessions. The specific economic events that took place during the Great Depression are well established.

<span class="mw-page-title-main">William McChesney Martin</span> Chairman of the U.S. Federal Reserve from 1951 to 1970

William McChesney Martin Jr. was an American business executive who served as the 9th chairman of the Federal Reserve from 1951 to 1970, making him the longest holder of that position. He was nominated to the post by President Harry S. Truman and reappointed by four of his successors. Martin, who once considered becoming a Presbyterian minister, was described by a Washington journalist as "the happy Puritan".

This history of central banking in the United States encompasses various bank regulations, from early wildcat banking practices through the present Federal Reserve System.

<span class="mw-page-title-main">Criticism of the Federal Reserve</span>

The Federal Reserve System has faced various criticisms since it was authorized in 1913. Nobel laureate economist Milton Friedman and his fellow monetarist Anna Schwartz criticized the Fed's response to the Wall Street Crash of 1929 arguing that it greatly exacerbated the Great Depression. More recent prominent critics include former Congressman Ron Paul.

<span class="mw-page-title-main">Friedman's k-percent rule</span> Economic policy regarding increases to the money supply

In macroeconomics, Friedman's k-percent rule is the monetarist proposal that the money supply should be increased by the central bank by a constant percentage rate every year, irrespective of business cycles.

The following is a list of works by the prominent American economist Milton Friedman.

Phillip David Cagan was an American scholar and author. He was Professor of Economics Emeritus at Columbia University.

<i>A Monetary History of the United States</i>

A Monetary History of the United States, 1867–1960 is a book written in 1963 by Nobel Prize–winning economist Milton Friedman and Anna J. Schwartz. It uses historical time series and economic analysis to argue the then-novel proposition that changes in the money supply profoundly influenced the U.S. economy, especially the behavior of economic fluctuations. The implication they draw is that changes in the money supply had unintended adverse effects, and that sound monetary policy is necessary for economic stability. Orthodox economic historians see it as one of the most influential economics books of the century. The chapter dealing with the causes of the Great Depression was published as a stand-alone book titled The Great Contraction, 1929–1933.

Market monetarism is a school of macroeconomic thought that advocates that central banks target the level of nominal income instead of inflation, unemployment, or other measures of economic activity, including in times of shocks such as the bursting of the real estate bubble in 2006, and in the financial crisis that followed. In contrast to traditional monetarists, market monetarists do not believe monetary aggregates or commodity prices such as gold are the optimal guide to intervention. Market monetarists also reject the New Keynesian focus on interest rates as the primary instrument of monetary policy. Market monetarists prefer a nominal income target due to their twin beliefs that rational expectations are crucial to policy, and that markets react instantly to changes in their expectations about future policy, without the "long and variable lags" postulated by Milton Friedman.

<span class="mw-page-title-main">David I. Meiselman</span> American economist

David I. Meiselman was an American economist. Among his contributions to the field of economics are his work on the term structure of interest rates, the foundation today of the implementation of monetary policy by major central banks, and his work with Milton Friedman on the impact of monetary policy on the performance of the economy and inflation.

The National Emergency Employment Defense Act, aka the NEED Act, is a monetary reform proposal submitted by Congressman Dennis Kucinich in 2011, in the United States. The bill has failed to gain any co-supporters and was not introduced to the floor of the house.

The real bills doctrine says that as long as bankers lend to businessmen only against the security (collateral) of short-term 30-, 60-, or 90-day commercial paper representing claims to real goods in the process of production, the loans will be just sufficient to finance the production of goods. The doctrine seeks to have real output determine its own means of purchase without affecting prices. Under the real bills doctrine, there is only one policy role for the central bank: lending commercial banks the necessary reserves against real customer bills, which the banks offer as collateral. The term "real bills doctrine" was coined by Lloyd Mints in his 1945 book, A History of Banking Theory. The doctrine was previously known as "the commercial loan theory of banking".

This page is based on this Wikipedia article
Text is available under the CC BY-SA 4.0 license; additional terms may apply.
Images, videos and audio are available under their respective licenses.