Awaiting Comments from Scott Sumner
By Arnold Kling
Two papers on Milton Friedman’s monetarism (both in the same pdf), one from Jerry Jordan and one from Allan Meltzer. They come from a 2010 symposium sponsored by the LIberty Fund and the Pacific Research Institute, and they are reproduced by the Macdonald-Laurier Institute.
I will excerpt from the Meltzer paper. But first, let me quote from the media release of Macdonald-Laurier.
In a period of runaway monetary stimulus by the industrialized world…
I do not think that Scott Sumner would characterize the monetary situation that way. To be fair, neither Jordan nor Meltzer characterizes it that way.
Meltzer reviews the Keynesian-monetarist debate of the 1960s and 1970s in a way that I think is broadly similar to part 2 of my “million mutinies” essay series.
Later, Meltzer writes,
The best writers, including Jevons, Marshall, Fisher, Wicksell, and Keynes, were concerned not only with long-run stability of the price level or exchange rate but also with the costs experienced in achieving that goal. The gold standard, for example, was often criticized on the grounds that money growth was procyclical-rising in periods of inflation and falling in recession. One of the monetarist complaints about discretionary monetary policy in the 1960s and 1970s renewed this classical criticism.
This made me think that the main goal of rule-based monetary policy is to keep monetary policy from being procyclical. However, I would argue that the policies that were most procyclical in recent years were housing finance policies. When housing prices were rising, Congress complained any time lenders used underwriting standards to turn down loans. Then, after the mortgage crisis hit, Congress complained about lenders not being strict enough.
In fact, while we are talking about non-monetary factors in economic performance, I might mention the much-discussed Fed study suggesting a 40 percent decline in median household wealth between 2007 and 2010. Timothy Taylor has the link and some helpful analysis.
I think that economists who believe that aggregate demand was a big factor in the recession (which means most economists, just not necessarily including me) are inclined to view this wealth decline as the cause, rather than taking Scott Sumner’s view that this was a monetary contraction. To rescue a role for money, you could try to argue that the wealth decline was the result of monetary austerity (impossible to disprove, but I do not believe it) or, more plausibly, that a vigorous monetary expansion could have maintained nominal GDP in the face of the huge decline in the relative price of houses and bank stocks.
Meltzer also writes,
Economics is not the science that generates small short-term forecast errors for GDP growth, inflation, and other macro variables. There is no such science. Basing policy on forecasts of macro variables cannot be an optimal policy procedure given the size of forecast errors.
That strikes me as an argument against market monetarism, which is based on forecasts–albeit market forecasts–for nominal GDP. I presume Meltzer would prefer a rule fixing the growth rate of a monetary aggregate (the monetary base seems to be his choice). On this issue, I tend to side with the market monetarists, but for non-monetarist reasons. A nominal GDP target will be imperfect because of forecasting errors. A monetary aggregate target will be imperfect because of velocity instability. I think I would rather take my chances on the forecasting errors.
And Meltzer channels Bagehot, writing,
Financial institutions should be permitted to discount freely, using marketable assets, at a penalty rate. This lender-of-last-resort rule should be part of the monetary rule.
To me, this seems like the simplest solution to the problems posed by financial panics. It is much better than providing government guarantees in order to support money market funds and repo markets. However, I am cynical enough to believe that in a world where indebted governments and large banks lean on one another, the lender-of-last-resort model goes out the window. Instead, bailouts become the first and only resort.
Thanks to Daniel Klein for the pointer.