Monetarism

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.[1]

Monetarism today is mainly associated with the work of Milton Friedman, who was among the
generation of economists to accept Keynesian economics and then criticise Keynes's theory of fighting
economic downturns using fiscal policy (government spending). Friedman and Anna Schwartz wrote an
influential book, A Monetary History of the United States, 1867–1960, and argued "inflation is always
and everywhere a monetary phenomenon".[2]

Though he opposed the existence of the Federal Reserve,[3] Friedman advocated, given its existence, a
central bank policy aimed at keeping the growth of the money supply at a rate commensurate with the
growth in productivity and demand for goods.

Contents
Description
Opposition to the gold standard
Rise
Current state
Notable proponents
See also
References
Further references
External links

Description
Monetarism is an economic theory that focuses on the macroeconomic effects of the supply of money
and central banking. Formulated by Milton Friedman, it argues that excessive expansion of the money
supply is inherently inflationary, and that monetary authorities should focus solely on maintaining price
stability.

This theory draws its roots from two historically antagonistic schools of thought: the hard money policies
that dominated monetary thinking in the late 19th century, and the monetary theories of John Maynard
Keynes, who, working in the inter-war period during the failure of the restored gold standard, proposed a
demand-driven model for money.[4] While Keynes had focused on the stability of a currency’s value,
with panics based on an insufficient money supply leading to the use of an alternate currency and
collapse of the monetary system, Friedman focused on price stability.

The result was summarised in a historical analysis of monetary policy, Monetary History of the United
States 1867–1960, which Friedman coauthored with Anna Schwartz. The book attributed inflation to
excess money supply generated by a central bank. It attributed deflationary spirals to the reverse effect of
a failure of a central bank to support the money supply during a liquidity crunch.[5]

Friedman originally proposed a fixed monetary rule, called Friedman's k-percent rule, where the money
supply would be automatically increased by a fixed percentage per year. Under this rule, there would be
no leeway for the central reserve bank, as money supply increases could be determined "by a computer",
and business could anticipate all money supply changes.[6][7] With other monetarists he believed that the
active manipulation of the money supply or its growth rate is more likely to destabilise than stabilise the
economy.

Opposition to the gold standard

Most monetarists oppose the gold standard. Friedman, for example, viewed a pure gold standard as
impractical.[8] For example, whereas one of the benefits of the gold standard is that the intrinsic
limitations to the growth of the money supply by the use of gold would prevent inflation, if the growth of
population or increase in trade outpaces the money supply, there would be no way to counteract deflation
and reduced liquidity (and any attendant recession) except for the mining of more gold.

Rise
Clark Warburton is credited with making the first solid empirical case for the monetarist interpretation of
business fluctuations in a series of papers from 1945.[1]p. 493 Within mainstream economics, the rise of
monetarism accelerated from Milton Friedman's 1956 restatement of the quantity theory of money.
Friedman argued that the demand for money could be described as depending on a small number of
economic variables.[9]

Thus, where the money supply expanded, people would not simply wish to hold the extra money in idle
money balances; i.e., if they were in equilibrium before the increase, they were already holding money
balances to suit their requirements, and thus after the increase they would have money balances surplus
to their requirements. These excess money balances would therefore be spent and hence aggregate
demand would rise. Similarly, if the money supply were reduced people would want to replenish their
holdings of money by reducing their spending. In this, Friedman challenged a simplification attributed to
Keynes suggesting that "money does not matter."[9] Thus the word 'monetarist' was coined.

The rise of the popularity of monetarism also picked up in political circles when Keynesian economics
seemed unable to explain or cure the seemingly contradictory problems of rising unemployment and
inflation in response to the collapse of the Bretton Woods system in 1972 and the oil shocks of 1973. On
the one hand, higher unemployment seemed to call for Keynesian reflation, but on the other hand rising
inflation seemed to call for Keynesian disinflation.

In 1979, United States President Jimmy Carter appointed as Federal Reserve chief Paul Volcker, who
made fighting inflation his primary objective, and who restricted the money supply (in accordance with
the Friedman rule) to tame inflation in the economy. The result was a major rise in interest rates, not only
in the United States; but worldwide. The "Volcker shock" continued from 1979 to the summer of 1982,
dramatically both decreasing inflation and increasing unemployment. Monetarist economists never
recognized that the policy implemented by the Federal Reserve from 1979 was a monetarist policy.
Nevertheless, the influence of monetarism on the Federal Reserve was twofold: a direct influence, by the
adherence of some members of the Federal Open Market Committee to monetarist ideas; and an indirect
influence, because monetarist views were taken into account in the determination of US monetary policy:
even the members of the FOMC who were not monetarists took monetarist influence into strong
consideration.[10]

By the time Margaret Thatcher, Leader of the Conservative Party in the United Kingdom, won the 1979
general election defeating the sitting Labour Government led by James Callaghan, the UK had endured
several years of severe inflation, which was rarely below the 10% mark and by the time of the May 1979
general election, stood at 15.4%.[11] Thatcher implemented monetarism as the weapon in her battle
against inflation, and succeeded at reducing it to 4.6% by 1983. However, unemployment in the United
Kingdom dramatically increased from 5.7% in 1979 to 12.2% in 1983, reaching 13.0% in 1982; and
starting with the first quarter of 1980, the UK economy contracted in terms of real gross domestic
product for six straight quarters.[12]

Monetarists not only sought to

explain present problems; they also
interpreted historical ones. Milton
Friedman and Anna Schwartz in their
book A Monetary History of the
United States, 1867–1960 argued that
the Great Depression of the 1930s
was caused by a massive contraction
of the money supply (they deemed it
"the Great Contraction"[13]), and not
by the lack of investment Keynes had Money supply decreased significantly between Black Tuesday and
argued. They also maintained that the Bank Holiday in March 1933 in the wake of massive bank runs
across the United States.
post-war inflation was caused by an
over-expansion of the money supply.

They made famous the assertion of monetarism that "inflation is always and everywhere a monetary
phenomenon". Many Keynesian economists initially believed that the Keynesian vs. monetarist debate
was solely about whether fiscal or monetary policy was the more effective tool of demand management.
By the mid-1970s, however, the debate had moved on to other issues as monetarists began presenting a
fundamental challenge to Keynesianism.

Many monetarists sought to resurrect the pre-Keynesian view that market economies are inherently stable
in the absence of major unexpected fluctuations in the money supply. Because of this belief in the
stability of free-market economies they asserted that active demand management (e.g. by the means of
increasing government spending) is unnecessary and indeed likely to be harmful. The basis of this
argument is a relationship between "stimulus" fiscal spending and future interest rates. In effect,
Friedman's model argues that current fiscal spending creates as much of a drag on the economy by
increased interest rates as it creates present consumption: that it has no real effect on total demand,
merely that of shifting demand from the investment sector to the consumer sector.
Current state
Since 1990, the classical form of monetarism has been questioned. This is because of events that many
economists interpreted as being inexplicable in monetarist terms: the disconnection of the money supply
growth from inflation in the 1990s and the failure of pure monetary policy to stimulate the economy in
the 2001–2003 period. Greenspan argued that the 1990s decoupling was explained by a virtuous cycle of
productivity and investment on one hand, and a certain degree of "irrational exuberance" in the
investment sector on the other.

There are also arguments that monetarism is a special case of Keynesian theory. The central test case
over the validity of these theories would be the possibility of a liquidity trap, like that experienced by
Japan. Ben Bernanke, Princeton professor and another former chairman of the U.S. Federal Reserve,
argued that monetary policy could respond to zero interest rate conditions by direct expansion of the
money supply. In his words, "We have the keys to the printing press, and we are not afraid to use them."

These disagreements—along with the role of monetary policies in trade liberalisation, international
investment, and central bank policy—remain lively topics of investigation and argument.

Notable proponents
Karl Brunner Allan Meltzer
Phillip D. Cagan Anna Schwartz
Milton Friedman Margaret Thatcher
Alan Greenspan Paul Volcker
David Laidler Clark Warburton

See also
Austrian School of economics
Chicago school of economics
Demurrage (currency)
Fiscalism (usually contrasted to monetarism)
Inflation targeting
Market monetarism
Modern Monetary Theory
General:

Macroeconomics
Political economy

References
1. Phillip Cagan, 1987. "Monetarism", The New Palgrave: A Dictionary of Economics, v. 3,
Reprinted in John Eatwell et al. (1989), Money: The New Palgrave, pp. 195–205, 492–97.
2. Friedman, Milton (2008). Monetary History of the United States, 1867-1960. Princeton
University Press. ISBN 0691003548. OCLC 994352014 (https://www.worldcat.org/oclc/9943
52014).
 3. Doherty, Brian (June 1995). "Best of Both Worlds" (http://reason.com/archives/1995/06/01/b
est-of-both-worlds). Reason. Retrieved July 28, 2010.
4. Mankiw, N. Gregory. "Real Business Cycles: A New Keynesian Perspective". Journal of
Economic Perspectives 3.3 (1989): 79–90. Web.|date=October 2013
5. Bordo, Michael D. (1989). "The Contribution of A Monetury History" (http://citeseerx.ist.psu.
edu/viewdoc/download?doi=10.1.1.736.9649&rep=rep1&type=pdf). Money, History, &
International Finance: Essays in Honor of Anna J. Schwartz (https://archive.org/details/mon
eyhistoryinte0000unse/page/46). The Increase in Reserve Requirements, 1936-37.
University of Chicago Press. p. 46 (https://archive.org/details/moneyhistoryinte0000unse/pa
ge/46). ISBN 0-226-06593-6. Retrieved 2019-07-25.
6. Thomas Palley (November 27, 2006). "Milton Friedman: The Great Conservative Partisan"
(http://www.thomaspalley.com/?p=59). Retrieved June 20, 2013.
7. Ip, Greg; Whitehouse, Mark (2006-11-17). "How Milton Friedman Changed Economics,
Policy and Markets" (https://www.wsj.com/articles/SB116369744597625238). The Wall
Street Journal.
8. "Monetary Central Planning and the State, Part 27: Milton Friedman's Second Thoughts on
the Costs of Paper Money" (https://web.archive.org/web/20121114140436/http://fff.org/freed
om/0399b.asp). Archived from the original (http://www.fff.org/freedom/0399b.asp) on
November 14, 2012.
9. Friedman, Milton (1970). "A Theoretical Framework for Monetary Analysis". Journal of
Political Economy. 78 (2): 193–238 [p. 210]. doi:10.1086/259623 (https://doi.org/10.1086%2
F259623). JSTOR 1830684 (https://www.jstor.org/stable/1830684).
10. Reichart Alexandre & Abdelkader Slifi (2016). 'The Influence of Monetarism on Federal
Reserve Policy during the 1980s.' Cahiers d'économie Politique/Papers in Political
Economy, (1), pp. 107–50. https://www.cairn.info/revue-cahiers-d-economie-politique-2016-
1-page-107.htm
11. "Economy tables: GDP, interest rates and inflation history, unemployment" (http://www.thisis
money.co.uk/money/news/article-1586103/Inflation--Interest-rates--Economic-growth--Une
mployment-Latest-statistics.html). This Is Money. Retrieved June 20, 2013.
12. "Real Gross Domestic Product for United Kingdom, Federal Reserve Bank of St. Louis" (htt
ps://fred.stlouisfed.org/series/CLVMNACSAB1GQUK). Retrieved December 16, 2018.
13. Milton Friedman; Anna Schwartz (2008). The Great Contraction, 1929–1933 (New Edition)
(https://books.google.com/books?id=-lCArZfazBkC&q=%22Regarding%20the%20Great%2
0Depression%20You're%20right%20We%20did%20it%22). Princeton University Press.
ISBN 0-691-13794-3.

Further references
Andersen, Leonall C., and Jerry L. Jordan, 1968. "Monetary and Fiscal Actions: A Test of
Their Relative Importance in Economic Stabilisation", Federal Reserve Bank of St. Louis
Review (November), pp. 11–24. PDF (http://research.stlouisfed.org/publications/review/86/1
0/Fiscal_Oct1986.pdf) (30 sec. load: press +) and HTML. (http://webcache.googleuserconte
nt.com/search?q=cache:RMxJDIAA2OcJ:research.stlouisfed.org/publications/review/86/10/
Fiscal_Oct1986.pdf=1&hl=en&ct=clnk&gl=us)
_____, 1969. "Monetary and Fiscal Actions: A Test of Their Relative Importance in
Economic Stabilisation — Reply", Federal Reserve Bank of St. Louis Review (April), pp. 12–
16. PDF (http://research.stlouisfed.org/publications/review/69/04/Reply_Apr1969.pdf) (15
sec. load; press +) and HTML. (http://webcache.googleusercontent.com/search?q=cache:v5
rx3Ysw_WEJ:research.stlouisfed.org/publications/review/69/04/Reply_Apr1969.pdf=1&hl=e
n&ct=clnk&gl=us)
Brunner, Karl, and Allan H. Meltzer, 1993. Money and the Economy: Issues in Monetary
Analysis, Cambridge. Description (https://books.google.com/books?id=eGjfH47Roj4C&dq=
 Brunner+Meltzer+%22Money+and+the+Economy:+Issues++in+Monetary+Analysis'&source
=gbs_summary_s&cad=0) and chapter previews, pp. ix (https://books.google.com/books?id
=eGjfH47Roj4C&pg=PR9&lpg=PR9&dq=Brunner+Meltzer+%22Money+and+the+Economy:
+Issues++in+Monetary+Analysis%27.)–x. (https://books.google.com/books?id=eGjfH47Roj
4C&pg=PR10&lpg=PR9&dq=Brunner+Meltzer+%22Money+and+the+Economy:+Issues++i
n+Monetary+Analysis%27.)
Cagan, Phillip, 1965. Determinants and Effects of Changes in the Stock of Money, 1875–
1960. NBER. Foreword by Milton Friedman, pp. xiii–xxviii. Table of Contents. (https://www.n
ber.org/books/caga65-1)
Friedman, Milton, ed. 1956. Studies in the Quantity Theory of Money, Chicago. Chapter 1 is
previewed at Friedman, 2005, ch. 2 link.
_____, 1960. A Program for Monetary Stability. Fordham University Press.
_____, 1968. "The Role of Monetary Policy", American Economic Review, 58(1), pp. 1–17
(http://www.nvcc.edu/home/jmin/ReadingStuff/The%20Role%20of%20Monetary%20Polic
y%20by%20Friedman.pdf) (press +).
_____, [1969] 2005. The Optimum Quantity of Money. Description (https://books.google.co
m/books?id=XVCgcHQS_nQC) and table of contents (https://books.google.com/books?id=
XVCgcHQS_nQC&printsec=frontcover#PPR5,M1), with previews of 3 chapters.
Friedman, Milton, and David Meiselman, 1963. "The Relative Stability of Monetary Velocity
and the Investment Multiplier in the United States, 1897–1958", in Stabilization Policies,
pp. 165–268. Prentice-Hall/Commission on Money and Credit, 1963.
Friedman, Milton, and Anna Jacobson Schwartz, 1963a. "Money and Business Cycles",
Review of Economics and Statistics, 45(1), Part 2, Supplement, p. p. 32 (https://www.jstor.or
g/pss/1927148)–64. Reprinted in Schwartz, 1987, Money in Historical Perspective, ch. 2.
_____. 1963b. A Monetary History of the United States, 1867–1960. Princeton. Page-
searchable links to chapters on 1929-41 (https://books.google.com/books?id=Q7J_EUM3Rf
oC&pg=PR9&lpg=PP1&dq=%22A+Monetary+History+of+the+United+States,+1867-1960%
22) and 1948–60 (https://books.google.com/books?id=Q7J_EUM3RfoC&pg=PR10&lpg=PP
1&dq=%22A+Monetary+History+of+the+United+States,+1867-1960%22)
Johnson, Harry G., 1971. "The Keynesian Revolutions and the Monetarist Counter-
Revolution", American Economic Review, 61(2), p. p. 1
(https://www.jstor.org/pss/1816968)–14. Reprinted in John Cunningham Wood and Ronald
N. Woods, ed., 1990, Milton Friedman: Critical Assessments, v. 2, p. p. 72 (https://books.go
ogle.com/books?hl=en&lr=&id=t4-nLZRU_GAC&oi=fnd&pg=PA72&ots=dO8v2lmxTC&sig=2
6wPsicAWLPP1jZ04tzl6JI5RMM) – (https://books.google.com/books?id=t4-nLZRU_GAC&p
rintsec=frontcover#PPA75,M1) 88. Routledge,
Laidler, David E.W., 1993. The Demand for Money: Theories, Evidence, and Problems, 4th
ed. Description. (https://www.amazon.co.uk/Demand-Money-Theories-HarperCollins-Econo
mics/dp/0065010981)
Schwartz, Anna J., 1987. Money in Historical Perspective, University of Chicago Press.
Description (https://books.google.com/books?id=Oco-yeAJhaEC) and Chapter-preview
links, pp. vii (https://books.google.com/books?hl=en&lr=&id=Oco-yeAJhaEC&oi=fnd&pg=P
R9&ots=OrduCkNTM8&sig=HYSO9w3KuJTb-ECP0N2hEc1AAqk#PPR7,M1)-viii. (https://bo
oks.google.com/books?hl=en&lr=&id=Oco-yeAJhaEC&oi=fnd&pg=PR9&ots=OrduCkNTM8
&sig=HYSO9w3KuJTb-ECP0N2hEc1AAqk#PPR8,M1)
Warburton, Clark, 1966. Depression, Inflation, and Monetary Policy; Selected Papers,
1945–1953 Johns Hopkins Press. Amazon Summary (https://www.amazon.com/gp/product/
0801806550) in Anna J. Schwartz, Money in Historical Perspective, 1987.

External links
 "Monetarism" (https://web.archive.org/web/20070821085549/http://cepa.newschool.edu/het/
schools/monetar.htm) at The New School's Economics Department's History of Economic
Thought website.
McCallum, Bennett T. (2008). "Monetarism" (http://www.econlib.org/library/Enc/Monetarism.
html). In David R. Henderson (ed.). Concise Encyclopedia of Economics (2nd ed.).
Indianapolis: Library of Economics and Liberty. ISBN 978-0865976658. OCLC 237794267
(https://www.worldcat.org/oclc/237794267).
Monetarism (http://www.economist.com/economics-a-to-z/m#node-21529789) from the
Economics A–Z of The Economist

Retrieved from "https://en.wikipedia.org/w/index.php?title=Monetarism&oldid=931435211"

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Milton Friedman
Milton Friedman (/ˈfriːdmən/; July 31, 1912 –
Milton Friedman
November 16, 2006) was an American economist
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.[4] 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 and young professors who were
recruited or mentored by Friedman at Chicago went Friedman in 2004
on to become leading economists, including Gary Born July 31, 1912
Becker, Robert Fogel, Thomas Sowell[5] and Robert Brooklyn, New York, U.S.
Lucas Jr.[6] Died November 16, 2006 (aged 94)
San Francisco, California, U.S.
Friedman's challenges to what he later called "naive
Keynesian" theory[7] began with his 1950s Nationality American
reinterpretation of the consumption function. In the Spouse(s) Rose Friedman
1960s, he became the main advocate opposing
Institution National Resources Planning
Keynesian government policies[8] and described his
Board (1935–1937)
approach (along with mainstream economics) as
National Bureau of Economic
using "Keynesian language and apparatus" yet
Research (1937–1940)
rejecting its "initial" conclusions.[9] He theorized
Columbia University (1937–1941;
that there existed a "natural" rate of unemployment
1943–1945; 1964–1965)
and argued that unemployment below this rate would
cause inflation to accelerate.[10] He argued that the University of Wisconsin, Madison
Phillips curve was in the long run vertical at the (1940)
"natural rate" and predicted what would come to be U.S. Department of the Treasury
known as stagflation.[11] Friedman promoted an (1941–1943)
alternative macroeconomic viewpoint known as University of Chicago (1946–
"monetarism" and argued that a steady, small 1977)
expansion of the money supply was the preferred University of Cambridge (1954–
policy.[12] His ideas concerning monetary policy, 1955)
taxation, privatization and deregulation influenced
Hoover Institution (1977–2006)
government policies, especially during the 1980s.
School or Chicago School
tradition
His monetary theory influenced the Federal Alma mater Rutgers University (BA)
Reserve's response to the global financial crisis of University of Chicago (MA)
2007–2008.[13] Columbia University (PhD)

Friedman was an advisor to Republican President Doctoral Simon Kuznets

Ronald Reagan[3] and Conservative British Prime advisor
Minister Margaret Thatcher.[2] His political Doctoral Phillip Cagan
philosophy extolled the virtues of a free market students Harry Markowitz
economic system with minimal intervention. He Lester G. Telser[1]
once stated that his role in eliminating conscription David I. Meiselman
in the United States was his proudest Neil Wallace
accomplishment. In his 1962 book Capitalism and Miguel Sidrauski
Freedom, Friedman advocated policies such as a
Influences Smith · Marshall · Mill · Fisher ·
volunteer military, freely floating exchange rates,
Paine · Knight · Kuznets · Viner ·
abolition of medical licenses, a negative income tax
Hotelling · Burns · Hayek · H.
and school vouchers[14] and opposed the war on
Jones · H.C. Simons · Stigler ·
drugs. His support for school choice led him to
Schultz · George
found the Friedman Foundation for Educational
Contributions Price theory · Monetarism
Choice, later renamed EdChoice.[15]
Applied macroeconomics
Friedman's works include monographs, books, Floating exchange rates
scholarly articles, papers, magazine columns,
Permanent income hypothesis
television programs, and lectures, and cover a broad
range of economic topics and public policy Helicopter money
issues.[16] His books and essays have had global Volunteer military
influence, including in former communist Natural rate of unemployment
states.[17][18][19][20] A survey of economists ranked Friedman test
Friedman as the second-most popular economist of
Awards Member of the National Academy
the 20th century, following only John Maynard
of Sciences (1973)
Keynes[21], and The Economist described him as
National Medal of Science (1988)
"the most influential economist of the second half of
the 20th century ... possibly of all of it".[22] Presidential Medal of Freedom
(1988)
Nobel Memorial Prize in
Economic Sciences (1976)
Contents John Bates Clark Medal (1951)

Early life Information (https://ideas.repec.org/e/pfr10.html)

at IDEAS / RePEc
Public service
Signature
Academic career
Early years
University of Chicago
A Theory of the Consumption Notes
Function Children
Capitalism and Freedom David D. Friedman, Jan Martel
Personal life
Retirement
Later life
 Death
Scholarly contributions
Economics
Statistics
Public policy positions
Federal Reserve and monetary policy
Exchange rates
School choice
Conscription
Foreign policy
Libertarianism and the Republican Party
Public goods and monopoly
Social security, welfare programs and
negative income tax
Drug policy
Gay rights
Immigration
Economic freedom
Honors, recognition and influence
Nobel Memorial Prize in Economic
Sciences
Hong Kong
Chile
Iceland
Estonia
United Kingdom
United States
Criticism
Visit to Chile
Selected bibliography
See also
References
Citations
Sources
Further reading
External links

Early life
Friedman was born in Brooklyn, New York on July 31, 1912. His parents, Sára Ethel (née Landau) and
Jenő Saul Friedman,[23] were Jewish immigrants from Beregszász in Carpathian Ruthenia, Kingdom of
Hungary (now Berehove in Ukraine). They both worked as dry goods merchants. Shortly after his birth,
the family relocated to Rahway, New Jersey. In his early teens, Friedman was injured in a car accident,
which scarred his upper lip.[24][25] A talented student, Friedman graduated from Rahway High School in
1928, just before his 16th birthday.[26][27] He was awarded a competitive scholarship to Rutgers
University (then a private university receiving limited support from the State of New Jersey, e.g., for such
scholarships).

In 1932, Friedman graduated from Rutgers University, where he specialized in mathematics and
economics and initially intended to become an actuary. During his time at Rutgers, Friedman became
influenced by two economics professors, Arthur F. Burns and Homer Jones, who convinced him that
modern economics could help end the Great Depression.

After graduating from Rutgers, Friedman was offered two scholarships to do graduate work—one in
mathematics at Brown University and the other in economics at the University of Chicago.[28] Friedman
chose the latter, thus earning a Master of Arts degree in 1933. He was strongly influenced by Jacob
Viner, Frank Knight, and Henry Simons. It was at Chicago that Friedman met his future wife, economist
Rose Director. During the 1933–1934 academic year he had a fellowship at Columbia University, where
he studied statistics with renowned statistician and economist Harold Hotelling. He was back in Chicago
for the 1934–1935 academic year, working as a research assistant for Henry Schultz, who was then
working on Theory and Measurement of Demand. That year, Friedman formed what would prove to be
lifelong friendships with George Stigler and W. Allen Wallis.[29]

Public service
Friedman was initially unable to find academic employment, so in 1935 he followed his friend W. Allen
Wallis to Washington, D.C., where Franklin D. Roosevelt's New Deal was "a lifesaver" for many young
economists.[30] At this stage, Friedman said that he and his wife "regarded the job-creation programs
such as the WPA, CCC, and PWA appropriate responses to the critical situation," but not "the price- and
wage-fixing measures of the National Recovery Administration and the Agricultural Adjustment
Administration."[31] Foreshadowing his later ideas, he believed price controls interfered with an essential
signaling mechanism to help resources be used where they were most valued. Indeed, Friedman later
concluded that all government intervention associated with the New Deal was "the wrong cure for the
wrong disease," arguing that the money supply should simply have been expanded, instead of
contracted.[32] Later, Friedman and his colleague Anna Schwartz wrote A Monetary History of the United
States, 1867–1960, which argued that the Great Depression was caused by a severe monetary contraction
due to banking crises and poor policy on the part of the Federal Reserve.[33]

During 1935, he began working for the National Resources Planning Board,[34] which was then working
on a large consumer budget survey. Ideas from this project later became a part of his Theory of the
Consumption Function. Friedman began employment with the National Bureau of Economic Research
during autumn 1937 to assist Simon Kuznets in his work on professional income. This work resulted in
their jointly authored publication Incomes from Independent Professional Practice, which introduced the
concepts of permanent and transitory income, a major component of the Permanent Income Hypothesis
that Friedman worked out in greater detail in the 1950s. The book hypothesizes that professional
licensing artificially restricts the supply of services and raises prices.

During 1940, Friedman was appointed an assistant professor teaching Economics at the University of
Wisconsin–Madison, but encountered antisemitism in the Economics department and decided to return to
government service.[35][36] From 1941 to 1943 Friedman worked on wartime tax policy for the federal
government, as an advisor to senior officials of the United States Department of the Treasury. As a
Treasury spokesman during 1942 he advocated a Keynesian policy of taxation. He helped to invent the
payroll withholding tax system, since the federal government badly needed money in order to fight the
war.[37] He later said, "I have no apologies for it, but I really wish we hadn't found it necessary and I
wish there were some way of abolishing withholding now."[38]

Academic career

Early years
In 1940, Friedman accepted a position at the University of Wisconsin–Madison, but left because of
differences with faculty regarding United States involvement in World War II. Friedman believed the
United States should enter the war.[39] In 1943, Friedman joined the Division of War Research at
Columbia University (headed by W. Allen Wallis and Harold Hotelling), where he spent the rest of World
War II working as a mathematical statistician, focusing on problems of weapons design, military tactics,
and metallurgical experiments.[39][40]

In 1945, Friedman submitted Incomes from Independent Professional Practice (co-authored with Kuznets
and completed during 1940) to Columbia as his doctoral dissertation. The university awarded him a PhD
in 1946.[41][42] Friedman spent the 1945–1946 academic year teaching at the University of Minnesota
(where his friend George Stigler was employed). On February 12, 1945, his son, David D. Friedman was
born.

University of Chicago
In 1946, Friedman accepted an offer to teach economic theory at the
University of Chicago (a position opened by departure of his former
professor Jacob Viner to Princeton University). Friedman would
work for the University of Chicago for the next 30 years. There he
contributed to the establishment of an intellectual community that
produced a number of Nobel Prize winners, known collectively as
the Chicago school of economics.

At that time, Arthur F. Burns, who was then the head of the National The University of Chicago, where
Friedman taught
Bureau of Economic Research, asked Friedman to rejoin the
Bureau's staff. He accepted the invitation, and assumed
responsibility for the Bureau's inquiry into the role of money in the business cycle. As a result, he
initiated the "Workshop in Money and Banking" (the "Chicago Workshop"), which promoted a revival of
monetary studies. During the latter half of the 1940s, Friedman began a collaboration with Anna
Schwartz, an economic historian at the Bureau, that would ultimately result in the 1963 publication of a
book co-authored by Friedman and Schwartz, A Monetary History of the United States, 1867–1960.

Friedman spent the 1954–1955 academic year as a Fulbright Visiting Fellow at Gonville and Caius
College, Cambridge. At the time, the Cambridge economics faculty was divided into a Keynesian
majority (including Joan Robinson and Richard Kahn) and an anti-Keynesian minority (headed by
Dennis Robertson). Friedman speculated that he was invited to the fellowship, because his views were
unacceptable to both of the Cambridge factions. Later his weekly columns for Newsweek magazine
(1966–84) were well read and increasingly influential among political and business people,[43] and
helped earn the magazine a Gerald Loeb Special Award in 1968.[44] From 1968 to 1978, he and Paul
Samuelson participated in the Economics Cassette Series, a biweekly subscription series where the
economist would discuss the days' issues for about a half-hour at a time.[45][46]

A Theory of the Consumption Function

One of Milton Friedman's most popular works, A Theory of the Consumption Function, challenged
traditional Keynesian viewpoints about the household. This work was originally published in 1957 by the
Princeton University Press, and it reanalysed the relationship displayed "between aggregate consumption
or aggregate savings and aggregate income." [47] Keynes believed that people would modify their
household consumption expenditures to relate to their existing income levels. Friedman's research
introduced the term "permanent income" to the world, which was the average of a household's expected
income over several years, and he also developed the permanent income hypothesis. Milton Friedman's
research changed how economists interpreted the consumption function, and his work pushed the idea
that current income was not the only factor that affected people's adjustment household consumption
expenditures. Instead, expected income levels also affected how households would change their
consumption expenditures. Friedman's contributions strongly influenced research on consumer behavior,
and he further defined how to predict consumption smoothing, which contradicts Keynes' marginal
propensity to consume. Although this work presented many controversial points of view that differed
from existing viewpoints established by Keynes, A Theory of the Consumption Function helped
Friedman gain respect in the field of economics.

Capitalism and Freedom

His Capitalism and Freedom brought him national and international attention outside academia. It was
published in 1962 by the University of Chicago Press and consists of essays that used non-mathematical
economic models to explore issues of public policy.[48] It sold over 400,000 copies in the first eighteen
years[49] and more than half a million since 1962. It has been translated into eighteen languages.
Friedman talks about the need to move to a classically liberal society, that free markets would help
nations and individuals in the long-run and fix the efficiency problems currently faced by the United
States and other major countries of the 1950s and 1960s. He goes through the chapters specifying a
specific issue in each respective chapter from the role of government and money supply to social welfare
programs to a special chapter on occupational licensure. Friedman concludes Capitalism and Freedom
with his "classical liberal" (more accurately, libertarian) stance, that government should stay out of
matters that do not need and should only involve itself when absolutely necessary for the survival of its
people and the country. He recounts how the best of a country's abilities come from its free markets while
its failures come from government intervention.[50]

Personal life

Retirement
In 1977, at the age of 65, Friedman retired from the University of Chicago after teaching there for 30
years. He and his wife moved to San Francisco, where he became a visiting scholar at the Federal
Reserve Bank of San Francisco. From 1977 on, he was affiliated with the Hoover Institution at Stanford
University. During the same year, Friedman was approached by the Free To Choose Network and asked
to create a television program presenting his economic and social philosophy.
The Friedmans worked on this project for the next three years, and during 1980, the ten-part series, titled
Free to Choose, was broadcast by the Public Broadcasting Service (PBS). The companion book to the
series (co-authored by Milton and his wife, Rose Friedman), also titled Free To Choose, was the
bestselling nonfiction book of 1980 and has since been translated into 14 languages.

Friedman served as an unofficial adviser to Ronald Reagan during his 1980 presidential campaign, and
then served on the President's Economic Policy Advisory Board for the rest of the Reagan
Administration. Ebenstein says Friedman was "the 'guru' of the Reagan administration."[3] In 1988 he
received the National Medal of Science and Reagan honored him with the Presidential Medal of
Freedom.

Friedman is known now as one of the most influential economists of the 20th century.[51][52] Throughout
the 1980s and 1990s, Friedman continued to write editorials and appear on television. He made several
visits to Eastern Europe and to China, where he also advised governments. He was also for many years a
Trustee of the Philadelphia Society.[53][54][55]

Later life
According to a 2007 article in Commentary magazine, his "parents were moderately observant Jews, but
Friedman, after an intense burst of childhood piety, rejected religion altogether."[56] He described himself
as an agnostic.[57] Friedman wrote extensively of his life and experiences, especially in 1998 in his
memoirs with his wife, Rose, titled Two Lucky People.

Death
Friedman died of heart failure at the age of 94 years in San Francisco on November 16, 2006.[58] He was
still a working economist performing original economic research; his last column was published in The
Wall Street Journal the day after his death.[59] He was survived by his wife (who died on August 18,
2009) and their two children, David, known for the anarcho-capitalist book The Machinery of Freedom,
and bridge expert Jan Martel.

Scholarly contributions

Economics
Friedman was best known for reviving interest in the money supply as a determinant of the nominal
value of output, that is, the quantity theory of money. Monetarism is the set of views associated with
modern quantity theory. Its origins can be traced back to the 16th-century School of Salamanca or even
further; however, Friedman's contribution is largely responsible for its modern popularization. He co-
authored, with Anna Schwartz, A Monetary History of the United States, 1867–1960 (1963), which was
an examination of the role of the money supply and economic activity in the U.S. history. A striking
conclusion of their research regarded the way in which money supply fluctuations contribute to economic
fluctuations. Several regression studies with David Meiselman during the 1960s suggested the primacy of
the money supply over investment and government spending in determining consumption and output.
These challenged a prevailing, but largely untested, view on their relative importance. Friedman's
empirical research and some theory supported the conclusion that the short-run effect of a change of the
money supply was primarily on output but that the longer-run effect was primarily on the price level.
Friedman was the main proponent of the monetarist school of economics. He maintained that there is a
close and stable association between inflation and the money supply, mainly that inflation could be
avoided with proper regulation of the monetary base's growth rate. He famously used the analogy of
"dropping money out of a helicopter",[60] in order to avoid dealing with money injection mechanisms and
other factors that would overcomplicate his models.

Friedman's arguments were designed to counter the popular concept of cost-push inflation, that the
increased general price level at the time was the result of increases in the price of oil, or increases in
wages; as he wrote:

Inflation is always and everywhere a monetary phenomenon.

— Milton Friedman, 1963.[61]

Friedman rejected the use of fiscal policy as a tool of demand management; and he held that the
government's role in the guidance of the economy should be restricted severely. Friedman wrote
extensively on the Great Depression, and he termed the 1929–1933 period the Great Contraction. He
argued that the Depression had been caused by an ordinary financial shock whose duration and
seriousness were greatly increased by the subsequent contraction of the money supply caused by the
misguided policies of the directors of the Federal Reserve.

The Fed was largely responsible for converting what might have been a garden-variety
recession, although perhaps a fairly severe one, into a major catastrophe. Instead of using its
powers to offset the depression, it presided over a decline in the quantity of money by one-
third from 1929 to 1933 ... Far from the depression being a failure of the free-enterprise
system, it was a tragic failure of government.

— Milton Friedman, Two Lucky People, 233[62]

This theory was put forth in A Monetary History of the United States, and the chapter on the Great
Depression was then published as a stand-alone book entitled The Great Contraction, 1929–1933. Both
books are still in print from Princeton University Press, and some editions include as an appendix a
speech at a University of Chicago event honoring Friedman[63] in which Ben Bernanke made this
statement:

Let me end my talk by abusing slightly my status as an official representative of the Federal
Reserve. I would like to say to Milton and Anna: Regarding the Great Depression, you're
right. We did it. We're very sorry. But thanks to you, we won't do it again.[64][63]

Friedman also argued for the cessation of government intervention in currency markets, thereby
spawning an enormous literature on the subject, as well as promoting the practice of freely floating
exchange rates. His close friend George Stigler explained, "As is customary in science, he did not win a
full victory, in part because research was directed along different lines by the theory of rational
expectations, a newer approach developed by Robert Lucas, also at the University of Chicago."[65] The
relationship between Friedman and Lucas, or new classical macroeconomics as a whole, was highly
complex. The Friedmanian Phillips curve was an interesting starting point for Lucas, but he soon realized
that the solution provided by Friedman was not quite satisfactory. Lucas elaborated a new approach in
which rational expectations were presumed instead of the Friedmanian adaptive expectations. Due to this
reformulation, the story in which the theory of the new classical Phillips curve was embedded radically
changed. This modification, however, had a significant effect on Friedman's own approach, so, as a
result, the theory of the Friedmanian Phillips curve also changed.[66] Moreover, new classical Neil
Wallace, who was a graduate student at the University of Chicago between 1960 and 1963, regarded
Friedman's theoretical courses as a mess.[67] This evaluation clearly indicates the broken relationship
between Friedmanian monetarism and new classical macroeconomics.

Friedman was also known for his work on the consumption function, the permanent income hypothesis
(1957), which Friedman himself referred to as his best scientific work.[68] This work contended that
rational consumers would spend a proportional amount of what they perceived to be their permanent
income. Windfall gains would mostly be saved. Tax reductions likewise, as rational consumers would
predict that taxes would have to increase later to balance public finances. Other important contributions
include his critique of the Phillips curve and the concept of the natural rate of unemployment (1968).
This critique associated his name, together with that of Edmund Phelps, with the insight that a
government that brings about greater inflation cannot permanently reduce unemployment by doing so.
Unemployment may be temporarily lower, if the inflation is a surprise, but in the long run unemployment
will be determined by the frictions and imperfections of the labor market.

Friedman's essay "The Methodology of Positive Economics" (1953) provided the epistemological pattern
for his own subsequent research and to a degree that of the Chicago School. There he argued that
economics as science should be free of value judgments for it to be objective. Moreover, a useful
economic theory should be judged not by its descriptive realism but by its simplicity and fruitfulness as
an engine of prediction. That is, students should measure the accuracy of its predictions, rather than the
'soundness of its assumptions'. His argument was part of an ongoing debate among such statisticians as
Jerzy Neyman, Leonard Savage, and Ronald Fisher.[69]

However, despite being an advocate of the free market, Milton Friedman believed that the government
had two crucial roles. In an interview with Phil Donahue, Milton Friedman argued that "the two basic
functions of a government are to protect the nation against foreign enemy, and to protect citizens against
its fellows.”[70]. He also, admitted that although privatisation of national defence could reduce the overall
cost, he has not yet thought of a way to make this privatisation possible.

Statistics
One of his most famous contributions to statistics is sequential sampling. Friedman did statistical work at
the Division of War Research at Columbia, where he and his colleagues came up with the technique. It
became, in the words of The New Palgrave Dictionary of Economics, "the standard analysis of quality
control inspection". The dictionary adds, "Like many of Friedman's contributions, in retrospect it seems
remarkably simple and obvious to apply basic economic ideas to quality control; that, however, is a
measure of his genius."[71]

Public policy positions

Federal Reserve and monetary policy

Although Friedman concluded the government does have a role in the monetary system[72] he was
critical of the Federal Reserve due to its poor performance and felt it should be abolished.[73][74][75] He
was opposed to Federal Reserve policies, even during the so-called 'Volcker shock' that was labeled
'monetarist'.[76] Friedman believed that the Federal Reserve System should ultimately be replaced with a
computer program.[77] He favored a system that would automatically buy and sell securities in response
to changes in the money supply.[78]

The proposal to constantly grow the money supply at a certain predetermined amount every year has
become known as Friedman's k-percent rule.[79] There is debate about the effectiveness of a theoretical
money supply targeting regime.[80][81] The Fed's inability to meet its money supply targets from 1978–
1982 has led some to conclude it is not a feasible alternative to more conventional inflation and interest
rate targeting.[82] Towards the end of his life, Friedman expressed doubt about the validity of targeting
the quantity of money.[83]

Idealistically, Friedman actually favored the principles of the 1930s Chicago plan, which would have
ended fractional reserve banking and, thus, private money creation. It would force banks to have 100%
reserves backing deposits, and instead place money creation powers solely in the hands of the US
Government. This would make targeting money growth more possible, as endogenous money created by
fractional reserve lending would no longer be a major issue.[79]

Exchange rates
Friedman was a strong advocate for floating exchange rates throughout the entire Bretton-Woods period.
He argued that a flexible exchange rate would make external adjustment possible and allow countries to
avoid balance of payments crises. He saw fixed exchange rates as an undesirable form of government
intervention. The case was articulated in an influential 1953 paper, "The Case for Flexible Exchange
Rates", at a time, when most commentators regarded the possibility of floating exchange rates as a
fantasy.[84][85]

School choice
In his 1955 article "The Role of Government in Education"[86] Friedman proposed supplementing
publicly operated schools with privately run but publicly funded schools through a system of school
vouchers.[87] Reforms similar to those proposed in the article were implemented in, for example, Chile in
1981 and Sweden in 1992.[88] In 1996, Friedman, together with his wife, founded the Friedman
Foundation for Educational Choice to advocate school choice and vouchers. In 2016, the Friedman
Foundation changed its name to EdChoice to honor the Friedmans' desire to have the educational choice
movement live on without their names attached to it after their deaths.[15]

Conscription
While Walter Oi is credited with establishing the economic basis for a volunteer military, Friedman was a
proponent, stating that the draft was "inconsistent with a free society."[89][90] In Capitalism and Freedom,
he argued that conscription is inequitable and arbitrary, preventing young men from shaping their lives as
they see fit.[91] During the Nixon administration he headed the committee to research a conversion to
paid/volunteer armed force. He would later state that his role in eliminating the conscription in the United
States was his proudest accomplishment.[12] Friedman did, however, believe that the introduction of a
system of universal military training as a reserve in cases of war-time could be justified.[91] But opposed
its implementation in the United States, describing it as a “monstrosity”.[92]

Foreign policy
Biographer Lanny Ebenstein noted a drift over time in Friedman's views from an interventionist to a
more cautious foreign policy.[93] He supported US involvement in the Second World War and initially
supported a hard-line against Communism, but moderated over time.[93] However, Friedman did state in
a 1995 interview that he was an anti-interventionist.[94] He opposed the Gulf War and the Iraq War.[93] In
a spring 2006 interview, Friedman said that the US's stature in the world had been eroded by the Iraq
War, but that it might be improved if Iraq were to become a peaceful and independent country.[95]

Libertarianism and the Republican Party

Friedman was an economic advisor and speech writer in
Barry Goldwater's presidential campaign in 1964. He was an
advisor to California governor Ronald Reagan, and was
active in Reagan's presidential campaigns.[96] He served as a
member of President Reagan's Economic Policy Advisory
Board starting in 1981. In 1988, he received the Presidential
Medal of Freedom and the National Medal of Science. He
said that he was a libertarian philosophically, but a member
Friedman receiving the Presidential Medal of the U.S. Republican Party for the sake of "expediency" ("I
of Freedom from Ronald Reagan am a libertarian with a small 'l' and a Republican with a
capital 'R.' And I am a Republican with a capital 'R' on
grounds of expediency, not on principle.") But, he said, "I
think the term classical liberal is also equally applicable. I don't really care very much what I'm called.
I'm much more interested in having people thinking about the ideas, rather than the person."[97]

Public goods and monopoly

Friedman was supportive of the state provision of some public goods that private businesses are not
considered as being able to provide. However, he argued that many of the services performed by
government could be performed better by the private sector. Above all, if some public goods are provided
by the state, he believed that they should not be a legal monopoly where private competition is
prohibited; for example, he wrote:

There is no way to justify our present public monopoly of the post office. It may be argued
that the carrying of mail is a technical monopoly and that a government monopoly is the
least of evils. Along these lines, one could perhaps justify a government post office, but not
the present law, which makes it illegal for anybody else to carry the mail. If the delivery of
mail is a technical monopoly, no one else will be able to succeed in competition with the
government. If it is not, there is no reason why the government should be engaged in it. The
only way to find out is to leave other people free to enter.
 — Milton Friedman, Friedman, Milton & Rose D. Capitalism and Freedom, University
of Chicago Press, 1982, p. 29

Social security, welfare programs and negative income tax

In 1962, Friedman criticized Social Security in his book Capitalism and Freedom, arguing that it had
created welfare dependency.[98] However, in the penultimate chapter of the same book, Friedman argued
that while capitalism had greatly reduced the extent of poverty in absolute terms, "poverty is in part a
relative matter, [and] even in [wealthy Western] countries, there are clearly many people living under
conditions that the rest of us label as poverty." Friedman also noted that while private charity could be
one recourse for alleviating poverty and cited late 19th century Britain and the United States as
exemplary periods of extensive private charity and eleemosynary activity, he made the following point:

It can be argued that private charity is insufficient because the benefits from it accrue to
people other than those who make the gifts— ... a neighborhood effect. I am distressed by
the sight of poverty; I am benefited by its alleviation; but I am benefited equally whether I or
someone else pays for its alleviation; the benefits of other people's charity therefore partly
accrue to me. To put it differently, we might all of us be willing to contribute to the relief of
poverty, provided everyone else did. We might not be willing to contribute the same amount
without such assurance. In small communities, public pressure can suffice to realize the
proviso even with private charity. In the large impersonal communities that are increasingly
coming to dominate our society, it is much more difficult for it to do so. Suppose one
accepts, as I do, this line of reasoning as justifying governmental action to alleviate poverty;
to set, as it were, a floor under the standard of life of every person in the community. [While
there are questions of how much should be spent and how, the] arrangement that
recommends itself on purely mechanical grounds is a negative income tax. ... The
advantages of this arrangement are clear. It is directed specifically at the problem of poverty.
It gives help in the form most useful to the individual, namely, cash. It is general and could
be substituted for the host of special measures now in effect. It makes explicit the cost borne
by society. It operates outside the market. Like any other measures to alleviate poverty, it
reduces the incentives of those helped to help themselves, but it does not eliminate that
incentive entirely, as a system of supplementing incomes up to some fixed minimum would.
An extra dollar earned always means more money available for expenditure.

Friedman argued further that other advantages of the negative income tax were that it could fit directly
into the tax system, would be less costly, and would reduce the administrative burden of implementing a
social safety net.[99] Friedman reiterated these arguments 18 years later in Free to Choose, with the
additional proviso that such a reform would only be satisfactory if it replaced the current system of
welfare programs rather than augment it.[100] According to economist Robert H. Frank, writing in The
New York Times, Friedman's views in this regard were grounded in a belief that while "market forces ...
accomplish wonderful things", they "cannot ensure a distribution of income that enables all citizens to
meet basic economic needs".[101]

Drug policy
Friedman also supported libertarian policies such as legalization of drugs and prostitution. During 2005,
Friedman and more than 500 other economists advocated discussions regarding the economic benefits of
the legalization of marijuana.[102]

Gay rights
Friedman was also a supporter of gay rights.[103] He never specifically supported same-sex marriage,
instead saying "I do not believe there should be any discrimination against gays."[104]

Immigration
Friedman favored immigration, saying "legal and illegal immigration has a very positive impact on the
U.S. economy."[105] Friedman however suggested that immigrants ought not to have access to the
welfare system.[105] Friedman stated that immigration from Mexico had been a "good thing", in
particular illegal immigration.[105] Friedman argued that illegal immigration was a boon because they
"take jobs that most residents of this country are unwilling to take, they provide employers with workers
of a kind they cannot get" and they do not use welfare.[105] In Free to Choose, Friedman wrote:[100]

No arbitrary obstacles should prevent people from achieving those positions for which their
talents fit them and which their values lead them to seek. Not birth, nationality, color,
religion, sex, nor any other irrelevant characteristic should determine the opportunities that
are open to a person — only his abilities.

Economic freedom
Michael Walker of the Fraser Institute and Friedman hosted a series of conferences from 1986 to 1994.
The goal was to create a clear definition of economic freedom and a method for measuring it. Eventually
this resulted in the first report on worldwide economic freedom, Economic Freedom in the World.[106]
This annual report has since provided data for numerous peer-reviewed studies and has influenced policy
in several nations.

Along with sixteen other distinguished economists he opposed the Copyright Term Extension Act, and
signed on to an amicus brief filed in Eldred v. Ashcroft.[107] Friedman jokingly described it as a "no-
brainer".[108]

Friedman argued for stronger basic legal (constitutional) protection of economic rights and freedoms to
further promote industrial-commercial growth and prosperity and buttress democracy and freedom and
the rule of law generally in society.[109]

Honors, recognition and influence

George H. Nash, a leading historian of American conservatism, says that by "the end of the 1960s he was
probably the most highly regarded and influential conservative scholar in the country, and one of the few
with an international reputation."[110] Friedman allowed the libertarian Cato Institute to use his name for
its biannual Milton Friedman Prize for Advancing Liberty beginning in 2001. A Friedman Prize was
given to the late British economist Peter Bauer in 2002, Peruvian economist Hernando de Soto in 2004,
Mart Laar, former Estonian Prime Minister in 2006 and a young Venezuelan student Yon Goicoechea in
2008. His wife Rose, sister of Aaron Director, with whom he
initiated the Friedman Foundation for Educational Choice, served
on the international selection committee.[111][112]

Friedman was also a recipient of the Nobel Memorial Prize in

Economics.

Upon Friedman's death, Harvard President Lawrence Summers

called him "The Great Liberator" saying "... any honest Democrat
will admit that we are now all Friedmanites." He said Friedman's
great popular contribution was "in convincing people of the
importance of allowing free markets to operate."[113]

In 2013 Stephen Moore, a member of the editorial forward of The

Wall Street Journal said, "Quoting the most-revered champion of
free-market economics since Adam Smith has become a little like
Friedman in 1976
quoting the Bible." He adds, "There are sometimes multiple and
conflicting interpretations."[114]

Nobel Memorial Prize in Economic Sciences

Friedman won the Nobel Memorial Prize in Economic Sciences, the sole recipient for 1976, "for his
achievements in the fields of consumption analysis, monetary history and theory and for his
demonstration of the complexity of stabilization policy."[4]

Hong Kong
Friedman once said: "If you want to see capitalism in action, go to Hong Kong."[115] He wrote in 1990
that the Hong Kong economy was perhaps the best example of a free market economy.[116]

One month before his death, he wrote the article "Hong Kong Wrong—What would Cowperthwaite
say?" in The Wall Street Journal, criticizing Donald Tsang, the Chief Executive of Hong Kong, for
abandoning "positive noninterventionism."[117] Tsang later said he was merely changing the slogan to
"big market, small government," where small government is defined as less than 20% of GDP. In a
debate between Tsang and his rival Alan Leong before the 2007 Hong Kong Chief Executive election,
Leong introduced the topic and jokingly accused Tsang of angering Friedman to death.

Chile
During 1975, two years after the military coup that brought military dictator President Augusto Pinochet
to power and ended the government of Salvador Allende, the economy of Chile experienced a severe
crisis. Friedman and Arnold Harberger accepted an invitation of a private Chilean foundation to visit
Chile and speak on principles of economic freedom.[118] He spent seven days in Chile giving a series of
lectures at the Universidad Católica de Chile and the (National) University of Chile. One of the lectures
was entitled "The Fragility of Freedom" and according to Friedman, "dealt with precisely the threat to
freedom from a centralized military government."[119]
In an April 21, 1975 letter to Pinochet, Friedman considered the "key economic problems of Chile are
clearly ... inflation and the promotion of a healthy social market economy".[120] He stated that "There is
only one way to end inflation: by drastically reducing the rate of increase of the quantity of money ..."
and that "... cutting government spending is by far and away the most desirable way to reduce the fiscal
deficit, because it ... strengthens the private sector thereby laying the foundations for healthy economic
growth".[120] As to how rapidly inflation should be ended, Friedman felt that "for Chile where inflation is
raging at 10–20% a month ... gradualism is not feasible. It would involve so painful an operation over so
long a period that the patient would not survive." Choosing "a brief period of higher unemployment ..."
was the lesser evil.. and that "the experience of Germany, ... of Brazil ..., of the post-war adjustment in
the U.S. ... all argue for shock treatment". In the letter Friedman recommended to deliver the shock
approach with "... a package to eliminate the surprise and to relieve acute distress" and "... for
definiteness let me sketch the contents of a package proposal ... to be taken as illustrative" although his
knowledge of Chile was "too limited to enable [him] to be precise or comprehensive". He listed a
"sample proposal" of 8 monetary and fiscal measures including "the removal of as many as obstacles as
possible that now hinder the private market. For example, suspend ... the present law against discharging
employees". He closed, stating "Such a shock program could end inflation in months". His letter
suggested that cutting spending to reduce the fiscal deficit would result in less transitional unemployment
than raising taxes.

Sergio de Castro, a Chilean Chicago School graduate, became the nation's Minister of Finance in 1975.
During his six-year tenure, foreign investment increased, restrictions were placed on striking and labor
unions, and GDP rose yearly.[121] A foreign exchange program was created between the Catholic
University of Chile and the University of Chicago. Many other Chicago School alumni were appointed
government posts during and after the Pinochet years; others taught its economic doctrine at Chilean
universities. They became known as the Chicago Boys.[122]

Friedman did not criticize Pinochet's dictatorship at the time, nor the assassinations, illegal
imprisonments, torture, or other atrocities that were well-known by then.[123] In 1976 Friedman defended
his unofficial adviser position with: "I do not consider it as evil for an economist to render technical
economic advice to the Chilean Government, any more than I would regard it as evil for a physician to
give technical medical advice to the Chilean Government to help end a medical plague."[124]

Friedman defended his activity in Chile on the grounds that, in his opinion, the adoption of free market
policies not only improved the economic situation of Chile but also contributed to the amelioration of
Pinochet's rule and to the eventual transition to a democratic government during 1990. That idea is
included in Capitalism and Freedom, in which he declared that economic freedom is not only desirable
in itself but is also a necessary condition for political freedom. In his 1980 documentary Free to Choose,
he said the following: "Chile is not a politically free system, and I do not condone the system. But the
people there are freer than the people in Communist societies because government plays a smaller role.
... The conditions of the people in the past few years has been getting better and not worse. They would
be still better to get rid of the junta and to be able to have a free democratic system."[125][126] In 1984,
Friedman stated that he has "never refrained from criticizing the political system in Chile."[119] In 1991
he said: "I have nothing good to say about the political regime that Pinochet imposed. It was a terrible
political regime. The real miracle of Chile is not how well it has done economically; the real miracle of
Chile is that a military junta was willing to go against its principles and support a free market regime
designed by principled believers in a free market. ... In Chile, the drive for political freedom, that was
generated by economic freedom and the resulting economic success, ultimately resulted in a referendum
that introduced political democracy. Now, at long last, Chile has all three things: political freedom,
human freedom and economic freedom. Chile will continue to be an interesting experiment to watch to
see whether it can keep all three or whether, now that it has political freedom, that political freedom will
tend to be used to destroy or reduce economic freedom."[127] He stressed that the lectures he gave in
Chile were the same lectures he later gave in China and other socialist states.[128]

During the 2000 PBS documentary The Commanding Heights (based on the book), Friedman continued
to argue that "free markets would undermine [Pinochet's] political centralization and political
control.",[129][130] and that criticism over his role in Chile missed his main contention that freer markets
resulted in freer people, and that Chile's unfree economy had caused the military government. Friedman
advocated for free markets which undermined "political centralization and political control".[131]

Iceland
Friedman visited Iceland during the autumn of 1984, met with important Icelanders and gave a lecture at
the University of Iceland on the "tyranny of the status quo." He participated in a lively television debate
(https://www.youtube.com/view_play_list?p=EBBF6DB20C85145A) on August 31, 1984, with socialist
intellectuals, including Ólafur Ragnar Grímsson, who later became the president of Iceland.[132] When
they complained that a fee was charged for attending his lecture at the university and that, hitherto,
lectures by visiting scholars had been free-of-charge, Friedman replied that previous lectures had not
been free-of-charge in a meaningful sense: lectures always have related costs. What mattered was
whether attendees or non-attendees covered those costs. Friedman thought that it was fairer that only
those who attended paid. In this discussion Friedman also stated that he did not receive any money for
delivering that lecture.

Estonia
Although Friedman never visited Estonia, his book Free to Choose exercised a great influence on that
nation's then 32-year-old prime minister, Mart Laar, who has claimed that it was the only book on
economics he had read before taking office. Laar's reforms are often credited with responsibility for
transforming Estonia from an impoverished Soviet Republic to the "Baltic Tiger." A prime element of
Laar's program was introduction of the flat tax. Laar won the 2006 Milton Friedman Prize for Advancing
Liberty, awarded by the Cato Institute.[133]

United Kingdom
After 1950 Friedman was frequently invited to lecture in Britain, and by the 1970s his ideas had gained
widespread attention in conservative circles. For example, he was a regular speaker at the Institute of
Economic Affairs (IEA), a libertarian think tank. Conservative politician Margaret Thatcher closely
followed IEA programs and ideas, and met Friedman there in 1978. He also strongly influenced Keith
Joseph, who became Thatcher's senior advisor on economic affairs, as well as Alan Walters and Patrick
Minford, two other key advisers. Major newspapers, including the Daily Telegraph, The Times, and The
Financial Times all promulgated Friedman's monetarist ideas to British decision-makers. Friedman's
ideas strongly influenced Thatcher and her allies when she became Prime Minister in 1979.[134][135]

United States
After his death a number of obituaries and articles were written in Friedman's honor, citing him as one of
the most important and influential economists of the post-war era.[136][137][138][139] Milton Friedman's
somewhat controversial legacy[140][141] in America remains strong within the conservative
movement.[142] However, some journalists and economists like Noah Smith and Scott Sumner have
argued Friedman's academic legacy has been buried under his political philosophy and misinterpreted by
modern conservatives.[143][144][145][146]

Criticism
Econometrician David Hendry criticized part of Friedman's and Anna Schwartz's 1982 Monetary
Trends.[147] When asked about it during an interview with Icelandic TV in 1984,[148] Friedman said that
the criticism referred to a different problem from that which he and Schwartz had tackled, and hence was
irrelevant,[149] and pointed out the lack of consequential peer review amongst econometricians on
Hendry's work.[150] In 2006, Hendry said that Friedman was guilty of "serious errors" of
misunderstanding that meant "the t-ratios he reported for UK money demand were overstated by nearly
100 per cent", and said that, in a paper published in 1991 with Neil Ericsson,[151] he had refuted "almost
every empirical claim ... made about UK money demand" by Friedman and Schwartz.[152] A 2004 paper
updated and confirmed the validity of the Hendry–Ericsson findings through 2000.[153]

Although Keynesian Nobel laureate Paul Krugman praised Friedman as a "great economist and a great
man" after Friedman's death in 2006, and acknowledged his many, widely accepted contributions to
empirical economics, Krugman had been, and remains, a prominent critic of Friedman. Krugman has
written that "he slipped all too easily into claiming both that markets always work and that only markets
work. It's extremely hard to find cases in which Friedman acknowledged the possibility that markets
could go wrong, or that government intervention could serve a useful purpose."[154] Others agree
Friedman was not open enough to the possibility of market inefficiencies.[155] Economist Noah Smith
argues that while Friedman made many important contributions to economic theory not all of his ideas
relating to macroeconomics have entirely held up over the years and that too few people are willing to
challenge them.[82][156]

Political scientist C.B. Macpherson disagreed with Friedman's historical assessment of economic
freedom leading to political freedom, suggesting that political freedom actually gave way to economic
freedom for property-owning elites. He also challenged the notion that markets efficiently allocated
resources and rejected Friedman's definition of liberty.[157] Friedman's positivist methodological
approach to economics has also been critiqued and debated.[158][159][160] Finnish economist Uskali Mäki
has argued some of his assumptions were unrealistic and vague.[161][162]

In her book The Shock Doctrine, author and social activist Naomi Klein criticized Friedman's economic
liberalism, identifying it with the principles that guided the economic restructuring that followed the
military coups in countries such as Chile and Argentina. Based on their assessments of the extent to
which what she describes as neoliberal policies contributed to income disparities and inequality, both
Klein and Noam Chomsky have suggested that the primary role of what they describe as neoliberalism
was as an ideological cover for capital accumulation by multinational corporations.[163]

Visit to Chile
Because of his involvement with the Pinochet government, there were international protests when
Friedman was awarded the Nobel Prize in 1976.[164] Friedman was accused of supporting the military
dictatorship in Chile because of the relation of economists of the University of Chicago to Pinochet, and
a controversial seven-day trip[165] he took to Chile during March 1975 (less than two years after the coup
that ended with the death of President Salvador Allende). Friedman answered that he was never an
adviser to the dictatorship, but only gave some lectures and seminars on inflation, and met with officials,
including Augusto Pinochet, while in Chile.[166]

Chilean economist Orlando Letelier asserted that Pinochet's dictatorship resorted to oppression because
of popular opposition to Chicago School policies in Chile.[167] After a 1991 speech on drug legalisation,
Friedman answered a question on his involvement with the Pinochet regime, saying that he was never an
advisor to Pinochet (also mentioned in his 1984 Iceland interview),[119] but that a group of his students at
the University of Chicago were involved in Chile's economic reforms. Friedman credited these reforms
with high levels of economic growth and with the establishment of democracy that has subsequently
occurred in Chile.[168][169] In October 1988, after returning from a lecture tour of China during which he
had met with Zhao Ziyang, General Secretary of the Communist Party of China, Friedman wrote to The
Stanford Daily asking if he should anticipate a similar "avalanche of protests for having been willing to
give advice to so evil a government? And if not, why not?"[170]

Selected bibliography
A Theory of the Consumption Function (1957) ISBN 1614278121.
A Program for Monetary Stability (Fordham University Press, 1960) 110 pp. online version
(https://www.questia.com/PM.qst?a=o&d=22831717) ISBN 0-8232-0371-9
Capitalism and Freedom (1962), highly influential series of essays that established
Friedman's position on major issues of public policy (excerpts (https://web.archive.org/web/
20081105123941/http://www.mtholyoke.edu/acad/intrel/ipe/friedman.htm))
A Monetary History of the United States, 1867–1960, with Anna J. Schwartz, 1963; part 3
reprinted as The Great Contraction
"The Role of Monetary Policy." American Economic Review, Vol. 58, No. 1 (Mar. 1968),
pp. 1–17 JSTOR (https://www.jstor.org/pss/1831652) presidential address to American
Economics Association
"Inflation and Unemployment: Nobel Lecture", 1977, Journal of Political Economy. Vol. 85,
pp. 451–72. JSTOR (https://www.jstor.org/stable/1830192)
Free to Choose: A Personal Statement, with Rose Friedman, (1980), highly influential
restatement of policy views
The Essence of Friedman, essays edited by Kurt R. Leube, (1987) (ISBN 0-8179-8662-6)
Two Lucky People: Memoirs (with Rose Friedman) ISBN 0-226-26414-9 (1998) excerpt and
text search (https://www.amazon.com/dp/0226264149)
Milton Friedman on Economics: Selected Papers by Milton Friedman, edited by Gary S.
Becker (2008)

See also
Causes of the Great Depression
Great Contraction
History of economic thought
List of economists
 List of Jewish Nobel laureates
List of Presidential Medal of Freedom recipients
Monetary/fiscal debate
"We are all Keynesians now"

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s://www.ft.com/cms/s/0/fcfb6334-ac11-11e2-a063-00144feabdc0.html). ft.com. Archived (htt
ps://web.archive.org/web/20131030075628/http://www.ft.com/cms/s/0/fcfb6334-ac11-11e2-
a063-00144feabdc0.html) from the original on October 30, 2013. Retrieved May 1, 2013.
153. Escribano, Alvaro (2004). "Nonlinear error correction: The case of money demand in the
United Kingdom (1878–2000)" (http://www.eco.uc3m.es/temp/alvaroe/MDUK-MD04.pdf)
(PDF). Macroeconomic Dynamics. 8 (1): 76–116. doi:10.1017/S1365100503030013 (https://
doi.org/10.1017%2FS1365100503030013). hdl:10016/2573 (https://hdl.handle.net/10016%
2F2573). Archived (https://web.archive.org/web/20131103172546/http://www.eco.uc3m.es/t
emp/alvaroe/MDUK-MD04.pdf) (PDF) from the original on November 3, 2013. Retrieved
August 1, 2013.
Escribano's approach had already been recognized by Friedman, Schwartz, Hendry et al.
(p. 14 of the pdf) as yielding significant improvements over previous money demand
equations.
154. The New York Review of Books, Who Was Milton Friedman? (http://www.nybooks.com/articl
es/19857) Archived (https://web.archive.org/web/20080410200144/http://www.nybooks.co
m/articles/19857) April 10, 2008, at the Wayback Machine, February 15, 2007
155. Colander, D. (1995). Is Milton Friedman an artist or a scientist?. Journal of Economic
Methodology, 2(1), 105–22.
156. Smith, Noah (January 12, 2017). "Milton Friedman's Cherished Theory Is Laid to Rest" (http
s://www.bloomberg.com/view/articles/2017-01-12/milton-friedman-s-cherished-theory-is-laid
-to-rest). www.bloomberg.com. Archived (https://web.archive.org/web/20180926085853/http
s://www.bloomberg.com/view/articles/2017-01-12/milton-friedman-s-cherished-theory-is-laid
-to-rest) from the original on September 26, 2018. Retrieved September 25, 2018.
157. Macpherson, C.B. "Elegant Tombstones: A Note on Friedman's Freedom." Democratic
Theory: Essays in Retrieval. Clarendon: Oxford, 1973.
158. Caldwell, B.J. (1980). A critique of Friedman's methodological instrumentalism. Southern
Economic Journal, 366–74.
159. Hill, L.E. (1968). A critique of positive economics. American Journal of Economics and
Sociology, 27(3), 259–66.
160. Ng, Y.K. (2016). Are unrealistic assumptions/simplifications acceptable? some
methodological issues in economics. Pacific Economic Review, 21(2), 180–201.
161. Mäki, U. (2009). Unrealistic assumptions and unnecessary confusions: Rereading and
rewriting F53 as a realist statement.
162. Maki, U., & Mäki, U. (Eds.). (2009). The methodology of positive economics: reflections on
the Milton Friedman legacy. Cambridge University Press.
163. Noam Chomsky (1999). Profit Over People: Neoliberalism and Global Order. New York:
Seven Stories Press.
164. Burton Feldman (2000). "Chapter 9: The Economics Memorial Prize" (https://archive.org/det
ails/nobelprizehistor00feld). The Nobel Prize: A History of Genius, Controversy, and
Prestige (https://archive.org/details/nobelprizehistor00feld/page/350). New York: Arcade
Publishing. p. 350 (https://archive.org/details/nobelprizehistor00feld/page/350). ISBN 978-1-
55970-537-0.
165. O'Shaughnessy, Hugh (December 11, 2006). "General Augusto Pinochet" (https://www.inde
pendent.co.uk/news/obituaries/general-augusto-pinochet-427998.html). The Independent.
Archived (https://web.archive.org/web/20110515074418/http://www.independent.co.uk/new
s/obituaries/general-augusto-pinochet-427998.html) from the original on May 15, 2011.
Retrieved September 5, 2017.
166. Milton Friedman and Rose D. Friedman. "Two Lucky People: One Week in Stockholm" (http
s://web.archive.org/web/20080314035202/http://www.hoover.org/publications/digest/354056
1.html). Hoover Digest: Research and Opinion on Public Policy. 1998 (4). Archived from the
original (http://www.hoover.org/publications/digest/3540561.html) on March 14, 2008.
167. Orlando Letelier (August 28, 1976), "Economic Freedom's Awful Toll" (http://www.tni.org/arti
cle/chicago-boys-chile-economic-freedoms-awful-toll) Archived (https://web.archive.org/we
b/20130921055808/http://www.tni.org/article/chicago-boys-chile-economic-freedoms-awful-t
oll) September 21, 2013, at the Wayback Machine, The Nation.
168. The Drug War as a Socialist Enterprise (http://www.druglibrary.org/special/friedman/socialis
t.htm) Archived (https://web.archive.org/web/20100613032051/http://druglibrary.org/special/f
riedman/socialist.htm) June 13, 2010, at the Wayback Machine, Milton Friedman, From:
Friedman & Szasz on Liberty and Drugs, edited and with a Preface by Arnold S. Trebach
and Kevin B. Zeese. Washington, D.C.: The Drug Policy Foundation, 1992.
169. YouTube clip: Milton Friedman – Pinochet and Chile (https://www.youtube.com/watch?v=dz
gMNLtLJ2k) Archived (https://web.archive.org/web/20130921062512/http://www.youtube.co
m/watch?v=dzgMNLtLJ2k) September 21, 2013, at the Wayback Machine. YouTube.com
(January 2, 2013). Retrieved on 2017-09-06.
170. Milton Friedman and Rose D. Friedman (1999). Two Lucky People: Memoirs (https://books.
google.com/books?id=Ennh28taSiEC&pg=PA600). University of Chicago Press. ISBN 978-
0226264158.

Sources
Works cited

Bernanke, Ben (2004). Essays on the Great Depression. Princeton University Press.
ISBN 978-0-691-11820-8.
 Ebenstein, Alan O. (2007). Milton Friedman: A Biography (https://books.google.com/books?i
d=0mdWW-z1OPcC&pg=PA89). St. Martin's Press. ISBN 978-0-230-60345-5.
Friedman, Milton (1999). Two Lucky People: Memoirs (https://archive.org/details/twoluckype
opleme00frie). University of Chicago Press. ISBN 978-0-226-26415-8.

Further reading
"Symposium: Why Is There No Milton Friedman Today?" (http://econjwatch.org/issues/volu
me-10-issue-2-may-2013). Econ Journal Watch. 10 (2). May 2013.
McCloskey, Deirdre (Winter 2003). "Other Things Equal: Milton". Eastern Economic Journal.
29 (1): 143–46. JSTOR 40326463 (https://www.jstor.org/stable/40326463).
Steelman, Aaron (2008). "Friedman, Milton (1912–2006)" (https://books.google.com/books?
id=yxNgXs3TkJYC). In Hamowy, Ronald (ed.). The Encyclopedia of Libertarianism. The
Encyclopedia of Libertarianism. Thousand Oaks, CA: SAGE; Cato Institute. pp. 195–97.
doi:10.4135/9781412965811.n118 (https://doi.org/10.4135%2F9781412965811.n118).
ISBN 978-1-4129-6580-4. LCCN 2008009151 (https://lccn.loc.gov/2008009151).
OCLC 750831024 (https://www.worldcat.org/oclc/750831024).
Wood, John Cunningham, and Ronald N. Wood, ed. (1990), Milton Friedman: Critical
Assessments, v. 3. Scroll to chapter-preview links. (https://books.google.com/books?hl=en&
lr=&id=goa--dQ_eHUC&oi=&dq=) Routledge.

External links
Collected Works of Milton Friedman (http://miltonfriedman.hoover.org) (Multiple Text, audio,
video)
The Milton Friedman papers (http://www.oac.cdlib.org/findaid/ark:/13030/tf7t1nb2hx/) at the
Hoover Institution Archives (http://www.hoover.org/library-archives)
Selected Bibliography for Milton Friedman (https://www.lib.uchicago.edu/e/busecon/econfa
c/Friedman.html) at the University of Chicago Library
Profile (https://ideas.repec.org/e/pfr10.html) and Papers (http://econpapers.repec.org/RAS/p
fr10.htm) at Research Papers in Economics/RePEc
"Milton Friedman collected news and commentary" (http://topics.nytimes.com/top/reference/
timestopics/people/f/milton_friedman/index.html). The New York Times.
Milton Friedman (https://www.imdb.com/name/nm0295313/) on IMDb
Becker Friedman Institute (http://bfi.uchicago.edu/) at the University of Chicago
The Foundation for Educational Choice (http://www.edchoice.org/)
Milton Fridman (http://www.economictheories.org/2008/08/milton-friedman-histor-theory-bio
graphy.html) at Scarlett
Inflation and Unemployment (http://nobelprize.org/nobel_prizes/economics/laureates/1976/fr
iedman-lecture.html) 1976 lecture at NobelPrize.org
Nobel Prize acceptance speech (http://nobelprize.org/nobel_prizes/economics/laureates/19
76/friedman-speech.html)
Milton Friedman (1912–2006) (http://www.econlib.org/library/Enc/bios/Friedman.html). The
Concise Encyclopedia of Economics. Library of Economics and Liberty (2nd ed.). Liberty
Fund. 2008.
Interview with Milton Friedman (https://dominicstreatfeild.wordpress.com/2010/11/08/intervi
ew-with-milton-friedman/), Dominic Streatfeild, May 25, 2000, source material for Cocaine:
An Unauthorised Biography
Milton Friedman vs. The Fed Bailout (http://www.newsweek.com/id/207218) by Michael
Hirsh, Newsweek, July 17, 2009
 Four Deformations of the Apocalypse (https://www.nytimes.com/2010/08/01/opinion/01stock
man.html?_r=2), David Stockman, The New York Times, July 31, 2010
Roberts, Russ. "Milton Friedman Podcasts" (http://www.econtalk.org/archives/_featuring/milt
on_friedman/). EconTalk. Library of Economics and Liberty.
Milton Friedman (https://scholar.google.com/citations?user=DV6pTH0AAAAJ) publications
indexed by Google Scholar
A collection of Milton Friedman's works (https://fraser.stlouisfed.org/author/139)

Videos

Appearances (https://www.c-span.org/person/?miltonfriedman) on C-SPAN

Booknotes interview with Friedman on the 50th Anniversary Edition of F.A. Hayek's
Road to Serfdom, November 20, 1994. (https://web.archive.org/web/20101117153810/h
ttp://booknotes.org/Watch/61272-1/Milton+Friedman.aspx)
In Depth interview with Friedman, September 3, 2000 (http://www.c-spanvideo.org/progr
am/Depthw)
A film clip "The Open Mind – Living Within Our Means (1975)" (https://archive.org/details/op
enmind_ep494) is available at the Internet Archive
A film clip "The Open Mind – A Nobel Laureate on the American Economy (1977)" (https://a
rchive.org/details/openmind_ep493) is available at the Internet Archive
Milton Friedman (https://charlierose.com/guests/3988) on Charlie Rose
Free To Choose (https://www.youtube.com/watch?v=f1Fj5tzuYBE) on YouTube
Milton Friedman (https://www.pbs.org/wgbh/commandingheights/shared/minitext/int_miltonfr
iedman.html), Commanding Heights, PBS, October 1, 2000, interview, profile and video
"Free To Choose" (1980) a PBS TV Series by Milton Friedman (http://miltonfriedman.blogsp
ot.com/)
Milton Friedman (https://web.archive.org/web/20061201002106/http://www.cato.org/special/
friedman/) at the Cato Institute
Free to Choose Network (http://www.freetochoose.net/)

Awards
Preceded by
Laureate of the Nobel Memorial Succeeded by
Leonid Vitaliyevich
Prize in Economics Bertil Ohlin
Kantorovich
1976 James E. Meade
Tjalling C. Koopmans

Retrieved from "https://en.wikipedia.org/w/index.php?title=Milton_Friedman&oldid=943084588"

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this site, you agree to the Terms of Use and Privacy Policy. Wikipedia® is a registered trademark of the Wikimedia
Foundation, Inc., a non-profit organization.
New classical macroeconomics
New classical macroeconomics, sometimes simply called new classical economics, is a school of
thought in macroeconomics that builds its analysis entirely on a neoclassical framework. Specifically, it
emphasizes the importance of rigorous foundations based on microeconomics, especially rational
expectations.

New classical macroeconomics strives to provide neoclassical microeconomic foundations for

macroeconomic analysis. This is in contrast with its rival new Keynesian school that uses
microfoundations such as price stickiness and imperfect competition to generate macroeconomic models
similar to earlier, Keynesian ones.[1]

Contents
History
Emergence in response to stagflation
Analytic method
Foundation and assumptions
Legacy
See also
References
Further reading
External links

History
Classical economics is the term used for the first modern school of economics. The publication of Adam
Smith's The Wealth of Nations in 1776 is considered to be the birth of the school. Perhaps the central idea
behind it is on the ability of the market to be self-correcting as well as being the most superior institution
in allocating resources. The central assumption implied is that all individuals maximize their utility.

The so-called marginal revolution that occurred in Europe in the late 19th century, led by Carl Menger,
William Stanley Jevons, and Léon Walras, gave rise to what is known as neoclassical economics. This
neoclassical formulation had also been formalized by Alfred Marshall. However, it was the general
equilibrium of Walras that helped solidify the research in economic science as a mathematical and
deductive enterprise, the essence of which is still neoclassical and makes up what is currently found in
mainstream economics textbooks to this day.

The neoclassical school dominated the field up until the Great Depression of the 1930s. Then, however,
with the publication of The General Theory of Employment, Interest and Money by John Maynard
Keynes in 1936,[2] certain neoclassical assumptions were rejected. Keynes proposed an aggregated
framework to explain macroeconomic behavior, leading thus to the current distinction between micro-
and macroeconomics. Of particular importance in Keynes' theories was his explanation of economic
behavior as also being led by "animal spirits". In this sense, it limited the role for the so-called rational
(maximizing) agent.

The Post-World War II period saw the widespread implementation of Keynesian economic policy in the
United States and Western European countries. Its dominance in the field by the 1970s was best reflected
by the controversial statement attributed to US President Richard Nixon and economist Milton Friedman:
"We are all Keynesians now".

Problems arose during the 1973–75 recession triggered by the 1973 oil crisis. Keynesian policy responses
did not reduce unemployment, instead leading to a period of high inflation and stagnant economic growth
—stagflation. Keynesians were puzzled by the outbreak of stagflation because the original Phillips curve
ruled out concurrent high inflation and high unemployment.

Emergence in response to stagflation

The New Classical school emerged in the 1970s as a response to the failure of Keynesian economics to
explain stagflation. New Classical and monetarist criticisms led by Robert Lucas, Jr. and Milton
Friedman respectively forced the rethinking of Keynesian economics. In particular, Lucas made the
Lucas critique that cast doubt on the Keynesian model. This strengthened the case for macro models to
be based on microeconomics.

After the 1970s and the apparent failure of Keynesian economics, the New Classical school for a while
became the dominant school in Macroeconomics.

Analytic method
The new classical perspective takes root in three diagnostic sources of fluctuations in growth: the
productivity wedge, the capital wedge, and the labor wedge. Through the neoclassical perspective and
business cycle accounting one can look at the diagnostics and find the main ‘culprits’ for fluctuations in
the real economy.

A productivity/efficiency wedge is a simple measure of aggregate production efficiency. In

relation to the Great Depression, a productivity wedge means the economy is less
productive given the capital and labor resources available in the economy.
A capital wedge is a gap between the intertemporal marginal rate of substitution in
consumption and the marginal product of capital. In this wedge, there’s a “deadweight” loss
that affects capital accumulation and savings decisions acting as a distortionary capital
(savings) tax.
A labor wedge is the ratio between the marginal rate of substitution of consumption for
leisure and the marginal product of labor and acts as a distortionary labor tax, making hiring
workers less profitable (i.e. labor market frictions).

Foundation and assumptions

New classical economics is based on Walrasian assumptions. All agents are assumed to maximize utility
on the basis of rational expectations. At any one time, the economy is assumed to have a unique
equilibrium at full employment or potential output achieved through price and wage adjustment. In other
words, the market clears at all times.
New classical economics has also pioneered the use of representative agent models. Such models have
received severe neoclassical criticism, pointing to the disjuncture between microeconomic behavior and
macroeconomic results, as indicated by Alan Kirman.[3]

The concept of rational expectations was originally used by John Muth,[4] and was popularized by
Lucas.[5] One of the most famous new classical models is the real business cycle model, developed by
Edward C. Prescott and Finn E. Kydland.

Legacy
It turned out that pure new classical models had low explanatory and predictive power. The models could
not simultaneously explain both the duration and magnitude of actual cycles. Additionally, the model's
key result that only unexpected changes in money can affect the business cycle and unemployment did
not stand empirical tests.[6][7][8][9][10]

The mainstream turned to the new neoclassical synthesis. Most economists, even most new classical
economists, accepted the new Keynesian notion that for several reasons wages and prices do not move
quickly and smoothly to the values needed for long-run equilibrium between quantities supplied and
demanded. Therefore, they also accept the monetarist and new Keynesian view that monetary policy can
have a considerable effect in the short run.[11] The new classical macroeconomics contributed the rational
expectations hypothesis and the idea of intertemporal optimisation to new Keynesian economics and the
new neoclassical synthesis.[6]

Peter Galbács[12] thinks that critics have a superficial and incomplete understanding of the new classical
macroeconomics. He argues that one should not forget the conditional character of the new classical
doctrines. If prices are completely flexible and if public expectations are completely rational and if real
economic shocks are white noises, monetary policy cannot affect unemployment or production and any
intention to control the real economy ends up only in a change in the rate of inflation. However, and this
is the point, if any of these conditions does not hold, monetary policy can be effective again. So, if any of
the conditions necessary for the equivalence does not hold, countercyclical fiscal policy can be effective.
Controlling the real economy is possible perhaps in a Keynesian style if government regains its potential
to exert this control. Therefore, actually, new classical macroeconomics highlights the conditions under
which economic policy can be effective and not the predestined inefficiency of economic policy.
Countercyclical aspirations need not to be abandoned, only the playing-field of economic policy got
narrowed by new classicals. While Keynes urged active countercyclical efforts of fiscal policy, these
efforts are not predestined to fail not even in the new classical theory, only the conditions necessary for
the efficiency of countercyclical efforts were specified by new classicals.

Real business cycle theorist Bernd Lucke calls the new classical macroeconomics model the ″caricature
of an economy" because its underlying assumptions exclude any non-rational behaviour or the possibility
of market failure, prices are always fully flexible, and the market is always in economic equilibrium. The
current mission of the new classical macroeconomics is to find out to which extent this caricature of an
economy already has enough predictive power to explain business cycles.[13]

See also
Neoclassical synthesis
References
1. Chapter 1. Snowdon, Brian and Vane, Howard R., (2005). Modern Macroeconomics: Its
Origin, Development and Current State. Edward Elgar Publishing, ISBN 1-84542-208-2
2. Skidelsky, Robert (1996). "The Influence of the Great Depression on Keynes's General
Theory" (http://www.hetsa.org.au/pdf-back/25-A-7.pdf) (PDF). History of Economics Review.
25 (1): 78–87. doi:10.1080/10370196.1996.11733219 (https://doi.org/10.1080%2F1037019
6.1996.11733219).
3. Kirman, Alan P. (1992). "Whom or What does the Representative Individual Represent?".
Journal of Economic Perspectives. 6 (2): 117–136. doi:10.1257/jep.6.2.117 (https://doi.org/1
0.1257%2Fjep.6.2.117). JSTOR 2138411 (https://www.jstor.org/stable/2138411).
4. Muth, John F. (1961). "Rational Expectations and the Theory of Price Movements".
Econometrica. 29 (3): 315–335. doi:10.2307/1909635
(https://doi.org/10.2307%2F1909635). JSTOR 1909635 (https://www.jstor.org/stable/190963
5).
5. Lucas, Robert E. (1972). "Expectations and the Neutrality of Money". Journal of Economic
Theory. 4 (2): 103–124. CiteSeerX 10.1.1.592.6178 (https://citeseerx.ist.psu.edu/viewdoc/s
ummary?doi=10.1.1.592.6178). doi:10.1016/0022-0531(72)90142-1 (https://doi.org/10.101
6%2F0022-0531%2872%2990142-1).
6. Snowdon, Brian (Fall 2007). "The New Classical Counter-Revolution: False Path or
Illuminating Complement?" (http://web.holycross.edu/RePEc/eej/Archive/Volume33/V33N4P
541_562.pdf) (PDF). Eastern Economic Journal. 33 (4): 541–562. doi:10.1057/eej.2007.40
(https://doi.org/10.1057%2Feej.2007.40). JSTOR 20642377 (https://www.jstor.org/stable/20
642377).
7. Gilbert, Evan; Michie, Jonathan (1997). "New Classical Macroeconomic Theory and Fiscal
Rules: Some Methodological Problems". Contributions to Political Economy. 16 (1): 1–21.
doi:10.1093/oxfordjournals.cpe.a014051 (https://doi.org/10.1093%2Foxfordjournals.cpe.a01
4051).
8. Greenwald, Bruce C.; Stiglitz, Joseph E. (1987). "Keynesian, New Keynesian, and New
Classical Economics" (http://oep.oxfordjournals.org/content/39/1/119.extract). Oxford
Economic Papers. 39 (1): 119–133. CiteSeerX 10.1.1.692.8775 (https://citeseerx.ist.psu.ed
u/viewdoc/summary?doi=10.1.1.692.8775). doi:10.1093/oxfordjournals.oep.a041773 (http
s://doi.org/10.1093%2Foxfordjournals.oep.a041773).
9. Mark Thoma, New Classical, New Keynesian, and Real Business Cycle Models (http://econ
omistsview.typepad.com/economistsview/2012/04/new-classical-new-keynesian-and-real-b
usiness-cycle-models.html), Economist's View
10. Seidman, Laurence (Fall 2007). "Reply to: "The New Classical Counter-Revolution: False
Path or Illuminating Complement?" " (http://web.holycross.edu/RePEc/eej/Archive/Volume3
3/V33N4P563_565.pdf) (PDF). Eastern Economic Journal. 33 (4): 563–565.
doi:10.1057/eej.2007.41 (https://doi.org/10.1057%2Feej.2007.41). JSTOR 20642378 (http
s://www.jstor.org/stable/20642378).
11. Kevin Hoover (2008). "New Classical Macroeconomics" (http://www.econlib.org/library/Enc/
NewClassicalMacroeconomics.html), econlib.org
12. Galbács, Peter (2015). The Theory of New Classical Macroeconomics. A Positive Critique.
Contributions to Economics. Heidelberg/New York/Dordrecht/London: Springer.
doi:10.1007/978-3-319-17578-2 (https://doi.org/10.1007%2F978-3-319-17578-2).
ISBN 978-3-319-17578-2.
13. University of Hamburg, Bernd Lucke, Die Real-Business-Cycle Theorie und ihre Relevanz
für die Konjunkturanalyse (https://www.wiso.uni-hamburg.de/fileadmin/wiso_vwl_iwk/paper/r
bctheor.pdf)
Further reading
Artis, Michael (1992). "Macroecononomic Theory". In Maloney, John (ed.). What's New in
Economics?. New York: Manchester University Press. pp. 135–167. ISBN 978-0-7190-
3280-6.
Barro, Robert J. (1989). "New Classicals and Keynesians, or the Good Guys and the Bad
Guys" (http://www.sjes.ch/papers/1989-III-7.pdf) (PDF). Swiss Journal of Economics and
Statistics. 125 (3): 263–273. doi:10.3386/w2982 (https://doi.org/10.3386%2Fw2982).
Hoover, Kevin D. (1988). The New Classical Macroeconomics (https://archive.org/details/ne
wclassicalmacr0000hoov). Oxford: Basil Blackwell. ISBN 978-0-631-14605-6.

External links
Hoover, Kevin D. (2008). "New Classical Macroeconomics" (http://www.econlib.org/library/E
nc/NewClassicalMacroeconomics.html). In David R. Henderson (ed.). Concise
Encyclopedia of Economics (2nd ed.). Indianapolis: Library of Economics and Liberty.
ISBN 978-0865976658. OCLC 237794267 (https://www.worldcat.org/oclc/237794267).

Retrieved from "https://en.wikipedia.org/w/index.php?title=New_classical_macroeconomics&oldid=943806462"

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this site, you agree to the Terms of Use and Privacy Policy. Wikipedia® is a registered trademark of the Wikimedia
Foundation, Inc., a non-profit organization.
Robert Lucas Jr.
Robert Emerson Lucas Jr. (born September 15, 1937) is an
Robert Emerson Lucas Jr.
American economist at the University of Chicago, where he is
currently the John Dewey Distinguished Service Professor Born September 15,
Emeritus in Economics and the College. Widely regarded as the 1937
central figure in the development of the new classical approach to Yakima,
macroeconomics,[1] he received the Nobel Prize in Economics in Washington, U.S.
1995 "for having developed and applied the hypothesis of rational Nationality American
expectations, and thereby having transformed macroeconomic
Institution Carnegie Mellon
analysis and deepened our understanding of economic
University
policy".[2][3] He has been characterized by N. Gregory Mankiw
University of
as "the most influential macroeconomist of the last quarter of the Chicago
20th century."[4]
Field Macroeconomics
School or New classical
tradition macroeconomics
Contents Alma mater University of
Biography Chicago (BA, MA,
Contributions PhD)

Rational expectations University of

Lucas critique California, Berkeley
Other contributions Doctoral H. Gregg Lewis
Bibliography advisor Dale W. Jorgenson

See also Doctoral Marcel Boyer

students Costas Azariadis
Notes
Jean-Pierre
References Danthine
External links Boyan Jovanovic
Paul Romer
Contributions Rational
Biography expectations
Lucas was born in 1937 in Yakima, Washington, and was the Lucas critique
eldest child of Robert Emerson Lucas and Jane Templeton Lucas. Behavioral
economics
Lucas received his B.A. in History in 1959 from the University of Awards Nobel Memorial
Chicago. While he was attending University of California, Prize in Economic
Berkeley as a graduate student in 1959, Lucas left Berkeley due Sciences (1995)
to financial reasons and returned to Chicago in 1960, earning a
Information (https://ideas.repec.org/
Ph.D. in Economics in 1964.[5] His dissertation "Substitution
e/plu15.html) at IDEAS / RePEc
between Labor and Capital in U.S. Manufacturing: 1929–1958"
was written under the supervision of H. Gregg Lewis and Dale Jorgenson.[6] Lucas studied economics for
his Ph.D. on "quasi-Marxist" grounds. He believed that economics was the true driver of history, and so
he planned to immerse himself fully in economics and then return to the history department.[7]
Following his graduation, Lucas taught at the Graduate School of Industrial Administration (now Tepper
School of Business) at Carnegie Mellon University until 1975, when he returned to the University of
Chicago.[8]

After his divorce from Rita Lucas, he married Nancy Stokey. They have collaborated in papers on
growth theory, public finance, and monetary theory. Lucas has two sons: Stephen Lucas and Joseph
Lucas.

A collection of his papers is housed at the Rubenstein Library at Duke University.[9]

Contributions

Rational expectations
Lucas is well known for his investigations into the implications of the assumption of the rational
expectations theory. Lucas (1972) incorporates the idea of rational expectations into a dynamic general
equilibrium model. The agents in Lucas's model are rational: based on the available information, they
form expectations about future prices and quantities, and based on these expectations they act to
maximize their expected lifetime utility. He also provided sound theory fundamental to Milton Friedman
and Edmund Phelps's view of the long-run neutrality of money, and provide an explanation of the
correlation between output and inflation, depicted by the Phillips curve.

Lucas critique
Lucas (1976) challenged the foundations of macroeconomic theory (previously dominated by the
Keynesian economics approach), arguing that a macroeconomic model should be built as an aggregated
version of microeconomic models while noting that aggregation in the theoretical sense may not be
possible within a given model. He developed the "Lucas critique" of economic policymaking, which
holds that relationships that appear to hold in the economy, such as an apparent relationship between
inflation and unemployment, could change in response to changes in economic policy. That led to the
development of new classical macroeconomics and the drive towards microeconomic foundations for
macroeconomic theory.[10]

Other contributions
Lucas developed a theory of supply that suggests people can be tricked by unsystematic monetary policy;
the Uzawa–Lucas model (with Hirofumi Uzawa) of human capital accumulation; and the "Lucas
paradox", which considers why more capital does not flow from developed countries to developing
countries. Lucas (1988) is a seminal contribution in the economic development and growth literature.
Lucas and Paul Romer heralded the birth of endogenous growth theory and the resurgence of research on
economic growth in the late 1980s and the 1990s.

He also contributed foundational contributions to behavioral economics, and provided the intellectual
foundation for the understanding of deviations from the law of one price based on the irrationality of
investors.

In 2003, he stated, about 5 years before the Great Recession, that the "central problem of depression-
prevention has been solved, for all practical purposes, and has in fact been solved for many decades."[11]
He also proposed the Lucas Wedge which tries to show how much higher GDP would be in the presence
of proper policy.

Bibliography
Lucas, Robert (1972). "Expectations and the Neutrality of Money". Journal of Economic
Theory. 4 (2): 103–24. CiteSeerX 10.1.1.592.6178 (https://citeseerx.ist.psu.edu/viewdoc/su
mmary?doi=10.1.1.592.6178). doi:10.1016/0022-0531(72)90142-1 (https://doi.org/10.101
6%2F0022-0531%2872%2990142-1).
Lucas, Robert (1976). "Econometric Policy Evaluation: A Critique". Carnegie-Rochester
Conference Series on Public Policy. 1: 19–46. CiteSeerX 10.1.1.726.1610 (https://citeseerx.
ist.psu.edu/viewdoc/summary?doi=10.1.1.726.1610). doi:10.1016/S0167-2231(76)80003-6
(https://doi.org/10.1016%2FS0167-2231%2876%2980003-6).
Lucas, Robert (1988). "On the Mechanics of Economic Development". Journal of Monetary
Economics. 22 (1): 3–42. doi:10.1016/0304-3932(88)90168-7 (https://doi.org/10.1016%2F0
304-3932%2888%2990168-7).
Lucas, Robert (1990). "Why Doesn't Capital Flow from Rich to Poor Countries". American
Economic Review. 80 (2): 92–96. JSTOR 2006549 (https://www.jstor.org/stable/2006549).
Lucas, Robert (1981). Studies in Business-Cycle Theory (https://archive.org/details/studiesi
nbusines00luca). MIT Press. ISBN 978-0-262-62044-4.
Lucas, Robert (1995) – "Monetary Neutrality" Prize Lecture – 1995 Nobel Prize in
economics , December 7, 1995 (http://nobelprize.org/economics/laureates/1995/lucas-lectur
e.pdf)
Stokey, Nancy; Robert Lucas; and Edward Prescott (1989), Recursive Methods in
Economic Dynamics. Harvard University Press, ISBN 0-674-75096-9.
Lucas, Robert E. Jr. "The History and Future of Economic Growth", The 4% Solution:
Unleashing the Economic Growth America Needs, edited by Brendan Miniter. New York:
Crown Business. 2012.
Lucas, Robert E. Jr. and Benjamin Moll, 2014, "Knowledge Growth and the Allocation of
Time", Journal of Political Economy, University of Chicago Press, vol. 122(1), pages 1 -
51.[12]

See also
Welfare cost of business cycles
List of economists
Lucas islands model
Uzawa–Lucas model

Notes
1. Snowdon, Brian; Vane, Howard R. (2005). Modern Macroeconomics: Its Origin,
Development and Current State (https://books.google.com/books?id=2OEPPVsIXcMC&pg=
PA220). Cheltenham: Edgar Elgar. pp. 220–223. ISBN 978-1-84542-208-0.
2. "Robert E. Lucas, Jr. | American economist" (https://www.britannica.com/biography/Robert-
E-Lucas-Jr). Encyclopedia Britannica. Retrieved 2017-08-02.
3. "The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel 1995" (htt
p://nobelprize.org/nobel_prizes/economics/laureates/1995/). Nobel Foundation. Retrieved
2008-10-14.
 4. Mankiw, N. Gregory (September 21, 2009). "Back In Demand" (https://online.wsj.com/news/
articles/SB10001424052970204518504574417810281734756). Wall Street Journal.
5. "Robert E. Lucas Jr. - Biographical" (https://www.nobelprize.org/nobel_prizes/economic-scie
nces/laureates/1995/lucas-bio.html). www.nobelprize.org. Retrieved 2016-11-16.
6. Andrada, Alexandre F. S. (2014). "Understanding Robert E. Lucas Jr. His Influence and
Influences". SSRN 2515932 (https://ssrn.com/abstract=2515932).
7. Roberts, Russ (February 5, 2007). "Lucas on Growth, Poverty and Business Cycles" (http://
www.econtalk.org/archives/_featuring/bob_lucas/). EconTalk. Library of Economics and
Liberty.
8. Pressman, Steven (1999). Fifty Major Economists. London: Routledge. pp. 193–197.
ISBN 978-0-415-13481-1.
9. "Robert E. Lucas Papers, 1960–2004 and undated" (http://library.duke.edu/rubenstein/findin
gaids/lucasrobert/). Rubenstein Library, Duke University.
10. "New Classical Macroeconomics: Robert Lucas | Policonomics" (http://policonomics.com/lp-
ncm-robert-lucas/). policonomics.com. Retrieved 2017-08-02.
11. "Fighting Off Depression" (https://www.nytimes.com/2009/01/05/opinion/05krugman.html?_r
=0). The New York Times. January 4, 2009.
12. Jucas Jr., Robert E.; Moll, Benjamin (2014). "Knowledge Growth and the Allocation of Time"
(https://www.nber.org/papers/w17495). Journal of Political Economy. doi:10.3386/w17495 (h
ttps://doi.org/10.3386%2Fw17495). Retrieved 9 April 2019.

References
Galbács, Peter (2015). The Theory of New Classical Macroeconomics. A Positive Critique.
Contributions to Economics. Heidelberg/New York/Dordrecht/London: Springer.
doi:10.1007/978-3-319-17578-2 (https://doi.org/10.1007%2F978-3-319-17578-2).
ISBN 978-3-319-17578-2.
Kasper, Sherryl (2002). "Robert E. Lucas, Jr and new classical economics" (https://www.goo
gle.com/books/edition/The_Revival_of_Laissez_faire_in_American/TBUqu6hiHLgC?hl=en&
gbpv=1&pg=PA127). The Revival of Laissez-Faire in American Macroeconomic Theory: A
Case Study of Its Pioneers. Edward Elgar.

External links
Robert E. Lucas Jr.'s website at University of Chicago (https://web.archive.org/web/2008070
5164017/http://home.uchicago.edu/%7Esogrodow)
Biography (http://www.nobel.se/economics/laureates/1995/)
Robert E. Lucas Jr. – Autobiography (https://web.archive.org/web/20051224133028/http://c
a.geocities.com/econ_0909meet/lucas-autobio.html)
Nobel Prize Press Release (http://nobelprize.org/nobel_prizes/economics/laureates/1995/pr
ess.html)
IDEAS/RePEc (https://ideas.repec.org/e/plu15.html)
Interview on (https://web.archive.org/web/20090911005106/http://blogs.channel4.com/snow
blog/2009/09/08/chicago-defends-itself-against-keynesian-attacks/) Channel 4
Chicago Economics on Trial (https://www.wsj.com/articles/SB100014240531119041946045
76583382550849232?mod=rss_opinion_main/)
Robert E. Lucas Jr. (1937– ) (http://www.econlib.org/library/Enc/bios/Lucas.html). The
Concise Encyclopedia of Economics. Library of Economics and Liberty (2nd ed.). Liberty
Fund. 2008.
 Interviews with Robert Lucas as part of the Nobel Perspectives project (https://www.ubs.co
m/microsites/nobel-perspectives/en/robert-lucas.html)

Awards
Preceded by
Laureate of the Nobel Memorial Succeeded by
John C. Harsanyi
Prize in Economics James A. Mirrlees
John F. Nash Jr.
1995 William Vickrey
Reinhard Selten

Academic offices
President of the American
Preceded by Succeeded by
Economic Association
Sherwin Rosen Peter Diamond
2002–2003

Retrieved from "https://en.wikipedia.org/w/index.php?title=Robert_Lucas_Jr.&oldid=940285039"

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New Keynesian economics
New Keynesian economics is a school of contemporary macroeconomics that strives to provide
microeconomic foundations for Keynesian economics. It developed partly as a response to criticisms of
Keynesian macroeconomics by adherents of new classical macroeconomics.

Two main assumptions define the New Keynesian approach to macroeconomics. Like the New Classical
approach, New Keynesian macroeconomic analysis usually assumes that households and firms have
rational expectations. However, the two schools differ in that New Keynesian analysis usually assumes a
variety of market failures. In particular, New Keynesians assume that there is imperfect competition[1] in
price and wage setting to help explain why prices and wages can become "sticky", which means they do
not adjust instantaneously to changes in economic conditions.

Wage and price stickiness, and the other market failures present in New Keynesian models, imply that the
economy may fail to attain full employment. Therefore, New Keynesians argue that macroeconomic
stabilization by the government (using fiscal policy) and the central bank (using monetary policy) can
lead to a more efficient macroeconomic outcome than a laissez faire policy would.

Contents
Development of Keynesian economics model
1970s
1980s
Menu costs and Imperfect Competition
The Calvo staggered contracts model
Coordination failure
Labor market failures: Efficiency wages
1990s
The new neoclassical synthesis
Taylor Rule
The New Keynesian Phillips curve
The Science of Monetary Policy
2000s
The introduction of imperfectly competitive labor markets
The development of complex DSGE models.
Sticky information
Policy implications
Relation to other macroeconomic schools
Major New Keynesian economists
See also
References
Further reading
Development of Keynesian economics model

1970s
The first wave of New Keynesian economics developed in the late 1970s. The first model of Sticky
information was developed by Stanley Fischer in his 1977 article, Long-Term Contracts, Rational
Expectations, and the Optimal Money Supply Rule.[2] He adopted a "staggered" or "overlapping" contract
model. Suppose that there are two unions in the economy, who take turns to choose wages. When it is a
union's turn, it chooses the wages it will set for the next two periods. This contrasts with John B. Taylor's
model where the nominal wage is constant over the contract life, as was subsequently developed in his
two articles, one in 1979 "Staggered wage setting in a macro model'.[3] and one in 1980 "Aggregate
Dynamics and Staggered Contracts".[4] Both Taylor and Fischer contracts share the feature that only the
unions setting the wage in the current period are using the latest information: wages in half of the
economy still reflect old information. The Taylor model had sticky nominal wages in addition to the
sticky information: nominal wages had to be constant over the length of the contract (two periods). These
early new Keynesian theories were based on the basic idea that, given fixed nominal wages, a monetary
authority (central bank) can control the employment rate. Since wages are fixed at a nominal rate, the
monetary authority can control the real wage (wage values adjusted for inflation) by changing the money
supply and thus affect the employment rate.[5]

1980s

Menu costs and Imperfect Competition

In the 1980s the key concept of using menu costs in a framework of imperfect competition to explain
price stickiness was developed.[6] The concept of a lump-sum cost (menu cost) to changing the price was
originally introduced by Sheshinski and Weiss (1977) in their paper looking at the effect of inflation on
the frequency of price-changes.[7] The idea of applying it as a general theory of Nominal Price Rigidity
was simultaneously put forward by several economists in 1985–6. George Akerlof and Janet Yellen put
forward the idea that due to bounded rationality firms will not want to change their price unless the
benefit is more than a small amount.[8][9] This bounded rationality leads to inertia in nominal prices and
wages which can lead to output fluctuating at constant nominal prices and wages. Gregory Mankiw took
the menu-cost idea and focused on the welfare effects of changes in output resulting from sticky
prices.[10] Michael Parkin also put forward the idea.[11] Although the approach initially focused mainly
on the rigidity of nominal prices, it was extended to wages and prices by Olivier Blanchard and Nobuhiro
Kiyotaki in their influential article Monopolistic Competition and the Effects of Aggregate Demand .[12]
Huw Dixon and Claus Hansen showed that even if menu costs applied to a small sector of the economy,
this would influence the rest of the economy and lead to prices in the rest of the economy becoming less
responsive to changes in demand.[13]

While some studies suggested that menu costs are too small to have much of an aggregate impact,
Laurence Ball and David Romer showed in 1990 that real rigidities could interact with nominal rigidities
to create significant disequilibrium.[14] Real rigidities occur whenever a firm is slow to adjust its real
prices in response to a changing economic environment. For example, a firm can face real rigidities if it
has market power or if its costs for inputs and wages are locked-in by a contract.[15] Ball and Romer
argued that real rigidities in the labor market keep a firm's costs high, which makes firms hesitant to cut
prices and lose revenue. The expense created by real rigidities combined with the menu cost of changing
prices makes it less likely that firm will cut prices to a market clearing level.[16]

Even if prices are perfectly flexible, imperfect competition can affect the influence of fiscal policy in
terms of the multiplier. Huw Dixon and Gregory Mankiw developed independently simple general
equilibrium models showing that the fiscal multiplier could be increasing with the degree of imperfect
competition in the output market.[17][18] The reason for this is that imperfect competition in the output
market tends to reduce the real wage, leading to the household substituting away from consumption
towards leisure. When government spending is increased, the corresponding increase in lump-sum
taxation causes both leisure and consumption to decrease (assuming that they are both a normal good).
The greater the degree of imperfect competition in the output market, the lower the real wage and hence
the more the reduction falls on leisure (i.e. households work more) and less on consumption. Hence the
fiscal multiplier is less than one, but increasing in the degree of imperfect competition in the output
market.[19]

The Calvo staggered contracts model

In 1983 Guillermo Calvo wrote "Staggered Prices in a Utility-Maximizing Framework".[20] The original
article was written in a continuous time mathematical framework, but nowadays is mostly used in its
discrete time version. The Calvo model has become the most common way to model nominal rigidity in
new Keynesian models. There is a probability that the firm can reset its price in any one period h (the
hazard rate), or equivalently the probability (1-h) that the price will remain unchanged in that period (the
survival rate). The probability h is sometimes called the "Calvo probability" in this context. In the Calvo
model the crucial feature is that the price-setter does not know how long the nominal price will remain in
place, in contrast to the Taylor model where the length of contract is known ex ante.

Coordination failure
Coordination failure was another important new Keynesian concept developed as another potential
explanation for recessions and unemployment.[22] In recessions a factory can go idle even though there
are people willing to work in it, and people willing to buy its production if they had jobs. In such a
scenario, economic downturns appear to be the result of coordination failure: The invisible hand fails to
coordinate the usual, optimal, flow of production and consumption.[23] Russell Cooper and Andrew
John's 1988 paper Coordinating Coordination Failures in Keynesian Models expressed a general form of
coordination as models with multiple equilibria where agents could coordinate to improve (or at least not
harm) each of their respective situations.[21][24] Cooper and John based their work on earlier models
including Peter Diamond's 1982 coconut model, which demonstrated a case of coordination failure
involving search and matching theory.[25] In Diamond's model producers are more likely to produce if
they see others producing. The increase in possible trading partners increases the likelihood of a given
producer finding someone to trade with. As in other cases of coordination failure, Diamond's model has
multiple equilibria, and the welfare of one agent is dependent on the decisions of others.[26] Diamond's
model is an example of a "thick-market externality" that causes markets to function better when more
people and firms participate in them.[27] Other potential sources of coordination failure include self-
fulfilling prophecies. If a firm anticipates a fall in demand, they might cut back on hiring. A lack of job
vacancies might worry workers who then cut back on their consumption. This fall in demand meets the
firm's expectations, but it is entirely due to the firm's own actions.
Labor market failures: Efficiency wages
New Keynesians offered explanations for the failure of the labor
market to clear. In a Walrasian market, unemployed workers bid
down wages until the demand for workers meets the supply.[28] If
markets are Walrasian, the ranks of the unemployed would be
limited to workers transitioning between jobs and workers who
choose not to work because wages are too low to attract them.[29]
They developed several theories explaining why markets might
leave willing workers unemployed.[30] The most important of
these theories, new Keynesians was the efficiency wage theory In this model of coordination failure,
used to explain long-term effects of previous unemployment, a representative firm ei makes its
output decisions based on the
where short-term increases in unemployment become permanent
average output of all firms (ē). When
and lead to higher levels of unemployment in the long-run.[31]
the representative firm produces as
much as the average firm (ei=ē), the
In efficiency wage models, workers are paid at levels that economy is at an equilibrium
maximize productivity instead of clearing the market.[32] For represented by the 45 degree line.
example, in developing countries, firms might pay more than a The decision curve intersects with
market rate to ensure their workers can afford enough nutrition to the equilibrium line at three
be productive.[33] Firms might also pay higher wages to increase equilibrium points. The firms could
coordinate and produce at the
loyalty and morale, possibly leading to better productivity.[34]
optimal level of point B, but, without
Firms can also pay higher than market wages to forestall shirking. coordination, firms might produce at
Shirking models were particularly influential.[35]Carl Shapiro and a less efficient equilibrium.[21]
Joseph Stiglitz's 1984 paper Equilibrium Unemployment as a
Worker Discipline Device created a model where employees tend
to avoid work unless firms can monitor worker effort and
threaten slacking employees with unemployment.[36][37] If the
economy is at full employment, a fired shirker simply moves to a
new job.[38] Individual firms pay their workers a premium over
the market rate to ensure their workers would rather work and
keep their current job instead of shirking and risk having to move
to a new job. Since each firm pays more than market clearing
wages, the aggregated labor market fails to clear. This creates a
pool of unemployed laborers and adds to the expense of getting
In the Shapiro-Stiglitz model workers
fired. Workers not only risk a lower wage, they risk being stuck
are paid at a level where they do not
in the pool of unemployed. Keeping wages above market clearing shirk, preventing wages from
levels creates a serious disincentive to shirk that makes workers dropping to full employment levels.
more efficient even though it leaves some willing workers The curve for the no-shirking
unemployed.[39] condition (labeled NSC) goes to
infinity at full employment.

1990s

The new neoclassical synthesis

In the early 1990s, economists began to combine the elements of new Keynesian economics developed in
the 1980s and earlier with Real Business Cycle Theory. RBC models were dynamic but assumed perfect
competition; new Keynesian models were primarily static but based on imperfect competition. The New
neoclassical synthesis essentially combined the dynamic aspects of RBC with imperfect competition and
nominal rigidities of new Keynesian models. Tack Yun was one of the first to do this, in a model which
used the Calvo pricing model.[40] Goodfriend and King proposed a list of four elements that are central to
the new synthesis: intertemporal optimization, rational expectations, imperfect competition, and costly
price adjustment (menu costs).[41][42] Goodfriend and King also find that the consensus models produce
certain policy implications: whilst monetary policy can affect real output in the short-run, but there is no
long-run trade-off: money is not neutral in the short-run but it is in the long-run. Inflation has negative
welfare effects. It is important for central banks to maintain credibility through rules based policy like
inflation targeting.

Taylor Rule
In 1993,[43] John B Taylor formulated the idea of a Taylor rule, which is a reduced form approximation
of the responsiveness of the nominal interest rate, as set by the central bank, to changes in inflation,
output, or other economic conditions. In particular, the rule describes how, for each one-percent increase
in inflation, the central bank tends raise the nominal interest rate by more than one percentage point. This
aspect of the rule is often called the Taylor principle. Although such rules provide concise, descriptive
proxies for central bank policy, they are not, in practice, explicitly proscriptively considered by central
banks when setting nominal rates.

Taylor's original version of the rule describes how the nominal interest rate responds to divergences of
actual inflation rates from target inflation rates and of actual Gross Domestic Product (GDP) from
potential GDP:

In this equation, is the target short-term nominal interest rate (e.g. the federal funds rate in the US, the
Bank of England base rate in the UK), is the rate of inflation as measured by the GDP deflator, is
the desired rate of inflation, is the assumed equilibrium real interest rate, is the logarithm of real
GDP, and is the logarithm of potential output, as determined by a linear trend.

The New Keynesian Phillips curve

The New Keynesian Phillips curve was originally derived by Roberts in 1995,[44] and has since been
used in most state-of-the-art New Keynesian DSGE models.[45] The new Keynesian Phillips curve says
that this period's inflation depends on current output and the expectations of next period's inflation. The
curve is derived from the dynamic Calvo model of pricing and in mathematical terms is:

The current period t expectations of next period's inflation are incorporated as , where is the
discount factor. The constant captures the response of inflation to output, and is largely determined by
the probability of changing price in any period, which is :

The less rigid nominal prices are (the higher is ), the greater the effect of output on current inflation.

The Science of Monetary Policy

The ideas developed in the 1990s were put together to develop the new Keynesian Dynamic stochastic
general equilibrium used to analyze monetary policy. This culminated in the three equation new
Keynesian model found in the survey by Richard Clarida, Jordi Gali, and Mark Gertler in the Journal of
Economic Literature,.[46][47] It combines the two equations of the new Keynesian Phillips curve and the
Taylor rule with the dynamic IS curve derived from the optimal dynamic consumption equation
(household's Euler equation).

These three equations formed a relatively simple model which could be used for the theoretical analysis
of policy issues. However, the model was oversimplified in some respects (for example, there is no
capital or investment). Also, it does not perform well empirically.

2000s
In the new millennium there have been several advances in new Keynesian economics.

The introduction of imperfectly competitive labor markets

Whilst the models of the 1990s focused on sticky prices in the output market, in 2000 Christopher Erceg,
Dale Henderson and Andrew Levin adopted the Blanchard and Kiyotaki model of unionized labor
markets by combining it with the Calvo pricing approach and introduced it into a new Keynesian DSGE
model.[48]

The development of complex DSGE models.

In order to have models that worked well with the data and could be used for policy simulations, quite
complicated new Keynesian models were developed with several features. Seminal papers were
published by Frank Smets and Rafael Wouters[49][50] and also Lawrence J. Christiano, Martin
Eichenbaum and Charles Evans[51] The common features of these models included:

habit persistence. The marginal utility of consumption depends on past consumption.

Calvo pricing in both output and product markets, with indexation so that when wages and
prices are not explicitly reset, they are updated for inflation.
capital adjustment costs and variable capital utilization.
new shocks
demand shocks, which affect the marginal utility of consumption
markup shocks that influence the desired markup of price over marginal cost.
monetary policy is represented by a Taylor rule.
Bayesian estimation methods.

Sticky information
The idea of Sticky information found in Fischer's model was later developed by Gregory Mankiw and
Ricardo Reis.[52] This added a new feature to Fischer's model: there is a fixed probability that you can
replan your wages or prices each period. Using quarterly data, they assumed a value of 25%: that is, each
quarter 25% of randomly chosen firms/unions can plan a trajectory of current and future prices based on
current information. Thus if we consider the current period: 25% of prices will be based on the latest
information available; the rest on information that was available when they last were able to replan their
price trajectory. Mankiw and Reis found that the model of sticky information provided a good way of
explaining inflation persistence.

Sticky information models do not have nominal rigidity: firms or unions are free to choose different
prices or wages for each period. It is the information that is sticky, not the prices. Thus when a firm gets
lucky and can re-plan its current and future prices, it will choose a trajectory of what it believes will be
the optimal prices now and in the future. In general, this will involve setting a different price every period
covered by the plan. This is at odds with the empirical evidence on prices.[53][54] There are now many
studies of price rigidity in different countries: the United States,[55] the Eurozone,[56] the United
Kingdom[57] and others. These studies all show that whilst there are some sectors where prices change
frequently, there are also other sectors where prices remain fixed over time. The lack of sticky prices in
the sticky information model is inconsistent with the behavior of prices in most of the economy. This has
led to attempts to formulate a "dual stickiness" model that combines sticky information with sticky
prices.[54][58]

Policy implications
New Keynesian economists agree with New Classical economists that in the long run, the classical
dichotomy holds: changes in the money supply are neutral. However, because prices are sticky in the
New Keynesian model, an increase in the money supply (or equivalently, a decrease in the interest rate)
does increase output and lower unemployment in the short run. Furthermore, some New Keynesian
models confirm the non-neutrality of money under several conditions.[59][60]

Nonetheless, New Keynesian economists do not advocate using expansive monetary policy for short run
gains in output and employment, as it would raise inflationary expectations and thus store up problems
for the future. Instead, they advocate using monetary policy for stabilization. That is, suddenly increasing
the money supply just to produce a temporary economic boom is not recommended as eliminating the
increased inflationary expectations will be impossible without producing a recession.

However, when the economy is hit by some unexpected external shock, it may be a good idea to offset
the macroeconomic effects of the shock with monetary policy. This is especially true if the unexpected
shock is one (like a fall in consumer confidence) which tends to lower both output and inflation; in that
case, expanding the money supply (lowering interest rates) helps by increasing output while stabilizing
inflation and inflationary expectations.

Studies of optimal monetary policy in New Keynesian DSGE models have focused on interest rate rules
(especially 'Taylor rules'), specifying how the central bank should adjust the nominal interest rate in
response to changes in inflation and output. (More precisely, optimal rules usually react to changes in the
output gap, rather than changes in output per se.) In some simple New Keynesian DSGE models, it turns
out that stabilizing inflation suffices, because maintaining perfectly stable inflation also stabilizes output
and employment to the maximum degree desirable. Blanchard and Galí have called this property the
‘divine coincidence’.[61]

However, they also show that in models with more than one market imperfection (for example, frictions
in adjusting the employment level, as well as sticky prices), there is no longer a 'divine coincidence', and
instead there is a tradeoff between stabilizing inflation and stabilizing employment.[62] Further, while
some macroeconomists believe that New Keynesian models are on the verge of being useful for quarter-
to-quarter quantitative policy advice, disagreement exists.[63]
Recently, it was shown that the divine coincidence does not necessarily hold in the non-linear form of the
standard New-Keynesian model.[64] This property would only hold if the monetary authority is set to
keep the inflation rate at exactly 0%. At any other desired target for the inflation rate, there is an
endogenous trade-off, even under the absence real imperfections such as sticky wages, and the divine
coincidence no longer holds.

Relation to other macroeconomic schools

Over the years, a sequence of 'new' macroeconomic theories related to or opposed to Keynesianism have
been influential.[65] After World War II, Paul Samuelson used the term neoclassical synthesis to refer to
the integration of Keynesian economics with neoclassical economics. The idea was that the government
and the central bank would maintain rough full employment, so that neoclassical notions—centered on
the axiom of the universality of scarcity—would apply. John Hicks' IS/LM model was central to the
neoclassical synthesis.

Later work by economists such as James Tobin and Franco Modigliani involving more emphasis on the
microfoundations of consumption and investment was sometimes called neo-Keynesianism. It is often
contrasted with the post-Keynesianism of Paul Davidson, which emphasizes the role of fundamental
uncertainty in economic life, especially concerning issues of private fixed investment.

New Keynesianism is a response to Robert Lucas and the new classical school.[66] That school criticized
the inconsistencies of Keynesianism in the light of the concept of "rational expectations". The new
classicals combined a unique market-clearing equilibrium (at full employment) with rational
expectations. The New Keynesians use "microfoundations" to demonstrate that price stickiness hinders
markets from clearing. Thus, the rational expectations-based equilibrium need not be unique.

Whereas the neoclassical synthesis hoped that fiscal and monetary policy would maintain full
employment, the new classicals assumed that price and wage adjustment would automatically attain this
situation in the short run. The new Keynesians, on the other hand, see full employment as being
automatically achieved only in the long run, since prices are "sticky" in the short run. Government and
central-bank policies are needed because the "long run" may be very long.

Keynes' stress on the importance of centralized coordination of macroeconomic policies (e.g., monetary
and fiscal stimulus) and of international economic institutions such as the World Bank and International
Monetary Fund (IMF), and of the maintenance of a controlled trading system was emphasized during the
2008 global financial and economic crisis. This has been reflected in the work of IMF economists[67] and
of Donald Markwell.[68]

Major New Keynesian economists

Jordi Galí
Mark Gertler
Nobuhiro Kiyotaki
Michael Woodford

See also
Calvo (staggered) contracts
 2008–2009 Keynesian resurgence
New neoclassical synthesis
Sticky prices
Welfare cost of business cycles
Taylor Contracts (economics)

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Further reading
Clarida, Richard; Galí, Jordi; Gertler, Mark (1999). "The Science of Monetary Policy: A New
Keynesian Perspective". Journal of Economic Literature. 37 (4): 1661–1707.
CiteSeerX 10.1.1.199.3912 (https://citeseerx.ist.psu.edu/viewdoc/summary?doi=10.1.1.199.
3912). doi:10.1257/jel.37.4.1661 (https://doi.org/10.1257%2Fjel.37.4.1661).
JSTOR 2565488 (https://www.jstor.org/stable/2565488).
Robert J. Gordon Gordon, Robert (1990), What is New-Keynesian Economics? (https://ww
w.jstor.org/stable/2727103), Journal of Economic Literature.
 Dixon, Huw (2008), New Keynesian Economics (http://www.dictionaryofeconomics.com/artic
le?id=pde2008_N000166), New Palgrave Dictionary of Economics (http://www.dictionaryofe
conomics.com/dictionary) New Keynesian macroeconomics (http://huwdixon.org/SurfingEco
nomics/newkeynesianeconomics.pdf). doi:10.1057/9780230226203.1184 (https://doi.org/10.
1057%2F9780230226203.1184).
Mankiw, N. Gregory (2008). "New Keynesian Economics" (http://www.econlib.org/library/En
c/NewKeynesianEconomics.html). In David R. Henderson (ed.). Concise Encyclopedia of
Economics (2nd ed.). Indianapolis: Library of Economics and Liberty. ISBN 978-
0865976658. OCLC 237794267 (https://www.worldcat.org/oclc/237794267).
Rowe, Nick. "The Growth Stages of the New Keynesian Model" (http://worthwhile.typepad.c
om/worthwhile_canadian_initi/2014/07/the-growth-stages-of-the-new-keynesian-
model.html). Worthwhile Canadian Initiative. Retrieved 24 July 2014.

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