In 1990, U.S. economists Merton H. Miller, Harry Markowitz, and William F. Sharpe shared the Nobel Prize “for their pioneering work in the theory of financial economics.” Miller’s contribution was the Modigliani-Miller theorem, which he developed with Franco Modigliani while both were professors at Carnegie Institute of Technology. (Modigliani had earned the prize in 1985 for his life-cycle model of saving and for the Modigliani-Miller theorem.)

The Modigliani-Miller theorem says that under certain assumptions, the value of a firm is independent of the firm’s ratio of debt to equity (see corporate financial structure). Miller once gave a colorful analogy to try to simplify his and Modigliani’s insight:

Think of the firm as a gigantic tub of whole milk. The farmer can sell the whole milk as it is. Or he can separate out the cream, and sell it at a considerably higher price than the whole milk would bring. (Selling cream is the analog of a firm selling debt securities, which pay a contractual return.) But, of course, what the farmer would have left would be skim milk, with low butter-fat content, and that would sell for much less than whole milk. (Skim milk corresponds to the levered equity.) The Modigliani-Miller proposition says that if there were no cost of separation (and, of course, no government dairy support program), the cream plus the skim milk would bring the same price as the whole milk.1

Miller was a strong defender of the view that futures contracts, just like other products, are valuable to those who buy them. Therefore, he argued, government regulation of these contracts is likely to do more harm than good. His book Merton Miller on Derivatives is full of insights about derivatives.

Miller earned his undergraduate degree at Harvard University in 1944 and went on to work as a tax expert at the U.S. Treasury Department. He later earned his Ph.D. in economics at Johns Hopkins University. He taught at Carnegie from 1953 to 1961, and in 1961 became a professor at the University of Chicago’s Graduate School of Business, where he was the Robert R. McCormick Distinguished Service Professor. He became a public governor of the Chicago Mercantile Exchange in 1990.

About the Author


David R. Henderson is the editor of The Concise Encyclopedia of Economics. He is also an emeritus professor of economics with the Naval Postgraduate School and a research fellow with the Hoover Institution at Stanford University. He earned his Ph.D. in economics at UCLA.

Selected Works


1958 (with Franco Modigliani). “The Cost of Capital, Corporation Finance, and the Theory of Investment.” American Economic Review 48 (June): 261–297.
1963 (with Franco Modigliani). “Corporate Income Taxes and the Cost of Capital.” American Economic Review 53 (June): 433–443.
1991. Financial Innovations and Market Volatility. Cambridge: Blackwell.
1997. Merton Miller on Derivatives. New York: Wiley.



From Financial Innovations and Market Volatility, p. 269.