Monday, January 19, 2015

Are we all Friedmanites now?

Paul Krugman started an interesting debate (here) by claiming there are no serious conservative economists who are also public intellectuals.  The left has Nobel laureates Joseph Stiglitz and Krugman himself.  The right is stuck with Arthur Laffer and Stephen Moore.  Nick Rowe followed up (here) by claiming that the Great Economic Debate had already been won when Milton Friedman made mincemeat out of John Kenneth Galbraith.  Rowe concludes with this:

“The right won the economics debate; left and right are just haggling over details. The big debate is no longer about economics (sadly for me); and it won't be held on the pages of the New York Times or in the economics journals.”

This just seems incredibly wrong.  To begin with, there's no consensus among economists which would support the claim that the debate is over and "the right won."  The fact that a liberal like Brad Delong approvingly cites Friedman from time to time doesn't mean "we're all Friedmanites now."  Even if Friedman won his debate with Galbraith (JKG), "the right" would only be the ultimate victor if JKG were the sole leftist engaged in the argument.  He was not.

Galbraith once said, “Milton Friedman's misfortune is that his economic policies have been tried,” and, one could add, his theories have been tested too.  Let’s begin with Friedman’s monetarism and PQ = MV.  Assuming V is stable and M is exogenous, then the Quantity Theory is resurrected.  But V is not stable.  If it were, quantitative easing would have produced a lot more inflation than it has.  And as Nicholas Kaldor pointed out a long time ago, Friedman's equation can also be read from left to right, with MV adapting to PQ as in endogenous theories of money.  (Kaldor’s little book, The Scourge of Monetarism here, is a minor masterpiece of deconstruction.)

Friedman’s permanent income hypothesis is an important idea, but Friedman wasn’t its sole creator, nor is it an infallible guide to policy.  Perhaps a third of U.S. households live hand-to-mouth.  They spend their whole paychecks and probably spent the lion's share of their one-time stimulus checks from the Treasury. Imperfect capital markets make consumption smoothing very difficult for lower income households.

Friedman's plan for privatizing social security was implemented in Chile many years ago.  If you’re interested in the results, you’ll find Peter Diamond’s comparison of Chile’s system with the U.S. system instructive (here).  It does not favor the privatization manifesto.

Rowe mentions school vouchers as a winning Friedman formula, but here, too, the record is less clear than fans of the approach advertise.  One problem is that vouchers drain active parents from low-income schools, leaving the remaining students worse off.  This isn’t to say vouchers aren’t good for the parents and students who take advantage of them (though this too is questionable), but proponents ignore its adverse selection side effects.

Friedman's Essays on Positive Economics remain authoritative for many contemporary economists.  But positivism has long been in decline among philosophers like Hilary Putnam, and philosopher-economists like Vivian Walsh and A. K. Sen.  Their recent book, The End of Value-Free Economics, is a good antidote to Friedman.

Nick mocks Galbraith's concern with monopoly power, wage and price controls, and other "daft" ideas of the 1970s.  But, let us ask, was JKG's stress on the divergence between private luxury and public squalor in “The Affluent Society” not instructive?  Was his emphasis on the state's role in serving the interests of large corporations in “The New Industrial State” really off the mark?  Is perfect competition a more relevant model than imperfect competition?  Does the massive infrastructure of "advertising" not have a deep and wide-ranging impact on our way of life, not to mention on our "wants" and "needs"?

It's easy enough to say, "the debate is over, and our side won," but saying so doesn't make it so


  1. Greg: "Rowe mentions school vouchers...."
    Not me. Names appear below comments in WCI, which always causes confusion.

    "Nick mocks Galbraith's concern with monopoly power, wage and price controls, and other "daft" ideas of the 1970s."

    Guess who wrote:

    "A Simple Macroeconomic Model with Monopolistic Firms
    This paper presents a simple macroeconomic model in which firms outputs are imperfect substitutes, and explores the macroeconomic implications of monopolistic competition. The model is classical in some respects, but Keynesian in others. Multiple or unstable equilibria are not unlikely. Permanent price controls will, in principle, be desirable, since they allow a permanent and efficient increase in aggregate output. Small costs of price adjustment may induce large deviations o f output from the natural rate. Fiscal policy will generally affect aggregate output, but the sign and magnitude of the government expenditure multiplier cannot be determined a priori."

    Me. After (and before) it was fashionable.

    1. Nick,

      Thanks for taking the time to comment. I love your blog and don’t get much traffic on mine, so I’m doubly appreciative. Reading your abstract, I’m curious why you abandoned this approach. Although I didn’t mention it in my post, I wanted to say something about Friedman’s “natural rate of unemployment,” which is ”ground out” in the Walrasian equations of GE. The “ground out” metaphor suggest a process than takes time, as opposed to the continuously clearing markets of today’s New Classical School. This widely shared premise obscures many things of great importance IMO.

    2. Thanks Greg. Milton Friedman's definition of what he meant by the "natural rate of unemployment" was one of the worst/unclearist things he has ever written! Though he has an excuse, because it's not easy to explain, and it was a new concept then. He should never have mentioned Walrasian GE, which made it an oxymoronic definition, and "ground out" is a hopeless metaphor.

      It's a theoretical construct, that applies to some models and does not make sense in other models. You have to start with the model, then see if it has anything that could usefully be described as a "natural rate".

      I didn't really abandon that approach. It's now very mainstream. But Blanchard and Kiyotaki did a better model than mine on exactly the same thing, published a couple of months later, that became the foundation for New Keynesian macro. I got (deservedly) beat.

    3. Thanks once again, Nick. There must be some way of collecting your posts, plus the best comments and your best responses, into some kind of a book or e-book or something. I also wanted to mention a title, which is hard to beat for amusement value, i.e., "Yes, Mrs. Robinson!" which is a piece by Robin Marris arguing that Keynes should have rejected "perfect competition" for Joan Robinson's "imperfect competition." As I recall, Marris' argument was that, in an imperfectly competitive economy, an increase in demand, say a debt-funded public works program, would increase prices because, unless there were a change in elasticity, the profit-maximizing price would remain the same (assuming, I believe, constant costs).