A Book Only Economics Nerds Would Like
Economist George Tavlas has written a very long,
deeply researched intellectual history of the Chicago monetary tradition. In
the late 1920’s and early 1930’s a group of economists at the University of Chicago
outlined a series of policy measures that would become the basis of modern-day
monetarism. At its core would be the Fisherian equation of MV=PT, or money
times velocity equals price times transactions along with the importance of
real interest rates as opposed to nominal rates. The group fully supported a rules-based
system over discretionary monetary authorities with the view that discretion
can only lead to uncertainty.
The thought leader were Frank Knight, Aaron Director,
Lloyd Mintes, Harry Simons, Jacob Viner, and Paul Douglas, the first of risk
and uncertainty fame and the last the coinventor of the Cobb-Douglas production
function and later a distinguished Senator from Illinois. They believed that economic
instability was caused by the fractional reserve-based banking system and hence
they called for 100% reserves, or in today’s parlance narrow banking. They
opposed the gold standard, supported flexible exchange rates, and money
financed deficits to jump start the economy out of the depression. They later
walked away from 100% reserves because of the end of the gold standard, deposit
insurance and allowing the Fed to discount government securities. However, we
do note that an over-leveraged banking system loaded with bad paper almost
triggered Great Depression 2.0 in 2008.
They stood athwart the new Keynesian consensus that
money didn’t matter, and only fiscal policy could stabilize the economy. As
such they remained in the economic wilderness for over two decades.
To me the most interesting member of the group was
Paul Douglas. He was a political activist and supported labor unions. At the
age of 50 he enlisted in the Marine Corps and saw combat in the Pacific where
he was awarded two purple hearts. As a senator, from his perch on the Joint
Economic Committee, he led the charge in support of the Treasury-Fed Accord of
1951 and was a firm believer in the role of money in the economy. Indeed, as a
New York Times editorial noted at the time, Douglas was the most influential
senator on banking policy since the passing of Carter Glass in 1946. As an aside,
much of the group in the 1940’s supported progressive income taxation to
equalize the distribution of income and strong enforcement of the antitrust
laws. Those beliefs would soon go by the wayside.
Milton Friedman would come on the scene in 1946 and
become the intellectual leader of the new monetarism. His 1956 “Quantity Theory
of Money: A Restatement” would establish his as a force in economics where he
called for the money supply to grow at a consistent rate to accommodate the
growth in real output. He spread the
gospel with his Workshops on Money and Banking bringing in scholars from all
over the country. MV would equal PY instead of PT, with Y standing for real
output. That along with other research with Anna Schwartz would lead up to his
classic “A Monetary History of the United States, 1867-1960” which placed the
blame of the Great Depression squarely on the Federal Reserve’s failure to keep
the money supply from collapsing. However, I did learn from the book, that a little-known
FDIC economist Clark Warburton had much of this figured out in the late 1940’s
and early 1950’s.
I came into contact with monetarism as an
undergraduate at Baruch College in the early 1960’s. There I had professors Alvin Marty, Eugene
Lerner and Robert Weintraub who were all Friedman acolytes. In fact, we used “A
Monetary History” as a text. I then went on to graduate school at UCLA in the
then business school which was very close to the economics department. At the
time the UCLA economics department was known as Chicago west, with professors
Robert Clower, Karl Brunner, and Benjamin Klein. In the business school I had
Professors Neil Jacoby and But Zwick, both of the Chicago tradition.
As a result, when I got involved with the UCLA Anderson Forecast in the 1970’s, monetarism was second nature to me, and it enabled me to better understand that tumultuous era of high inflation. Of course, by the early 80’s the hard fast money growth rule would succumb to monetary innovations that made money hard to define. Soon the Taylor Rule would substitute for the money growth rule.
Tavlas has written an important intellectual history,
but as I said at the outset, it is not for the lay reader and for economics
nerd the book could have used a better editor.
For the full Amazon URL see: A Book Only Economics Nerds would Like (amazon.com)
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