A Requiem for Monetarism
BROCKWAY, GEORGE P.
The Dismal Science A REQUIEM FOR MONETARISM BY GEORGE R BROCKWAY Beryl W. Sprinkel has given up on monetarism, at least for now. He said as much in a speech recently and stirred some excitement...
...What does it take...
...It is, as the late Professor John William Miller said in TheMidworld, a functioning object...
...The trouble is, none of this grief was necessary...
...A language functions whether it is embodied in sound waves or marks on paper, and a yardstick functions whether it is made of maple or stainless steel...
...As it happens, greedy people are in the ascendance in America today, and the fact of the matter is that the economy has gone just about as far as it can go on the greed standard...
...You can't count it...
...It then seems plausible to say that at any given moment a country has a certain quantity of money and a certain price level, at which, for example, a subscription to The New Leader costs $24 (and is a bargain...
...During these seven years Friedman has steadily complained that his religion was hardly being tried, and that Volcker was a false prophet...
...For a fuller explanation I must again refer you to my book...
...So they goofed...
...Nevertheless, the reasoning behind a low fixed rate of expansion is based on MV = PY: If themoney supply expands faster than production, the price level must rise...
...So who's perfect...
...As early as a speech Knut Wicksell made on April 14,1898, it has been clear that banks don't create money, business does...
...you use it to do your counting...
...it is a standard or a control, as is, say, language or a yardstick...
...Like language, money doesn't even exist except as it is functioning...
...It is not simply another commodity...
...And what is the naked bottom line...
...On the basis of historical studies that made his reputation, Professor Milton Friedman concluded that the economy could not sustain a steady growth faster than 3-4 per cent a year, that therefore the money supply should be expanded at that rate, and that any faster rate would be inflationary...
...According to the monetarist theory, these people should be putting their extra money into stepping up production, for the ultimate benefit of all...
...but for present purposes it is enough to see that MV=PY essentially says that the amount of money paid for goods is equal to the sum of the prices charged for them—which is not much to say...
...With electrons, however, it is possible to say that there is a definite number (despite our not knowing precisely what it is), that the number stands in some definite relation (which may also be unknown) to something else, and that therefore we can construct equations capable of yielding reliable predictions...
...Practical trouble comes when the attempt is made to use MV=PYasaguide to public policy...
...Beryl Sprinkel is gradually waking up to this fact—and, presumably, his boss is too...
...The plausibility of the theory was great in the days when money appeared to be merely a physical object—gold, silver, sea shells, or whatnot...
...That is, it is an object, all right—apiece of metal, a piece of paper, a blip on a computer screen—but what matters is how it functions, not its physical composition...
...Only a fool or a knave borrows money simply because a bank wants to lend it...
...It has deliberately stagnated the economy, with the result that in five and a half years the actual GNP has run roughly a trillion dollars less than potential GNP...
...But the morale of greedy people is bad...
...But money never was merely a physical object (for reasons, I refer you to my book Economics: What Went Wrong and Why), and it certainly is not now...
...But they are not fools...
...Good morale...
...Keynes talked of "animal spirits...
...better late than never, and all that...
...The Quantity Theory will acknowledge that, as a practical matter, it is difficult—indeed impossible—to count the amount of money a nation has...
...At the start, the prime rate j umped fromjustunderlO per cent to 15 per cent, and continued upward until it hit 21.5 per cent after the 1980 election...
...But the probability is otherwise...
...On the other hand, it is also impossible, as a practical matter, to count the number of electrons in a burst of energy...
...In fairness, Friedman's gospel has been more modest than that of his followers—a not unusual situation in the history of religions...
...Friedman has permitted himself the observation that rather than money, "The real wealth of a society depends much more on the kind of institutional structure it has, on theabilities, initiative, driving force of its people, on investment potentialities, on technology— onallof these things...
...From Jimmy Carter's appointment of Federal Reserve Board Chairman Volcker in 1979 until Beryl Sprinkel's speech this summer, Milton Friedman was the guru of American economic policy (he is still a guru in Great Britain) . These seven years have not been an unruffled calm...
...Since that time we've had something called " recovery," punctuated by happenings called "growth corrections," with unemployment still over 8 million, even counting part-time dishwashers as employed...
...This may sound pretty metaphysical, and it is, but I'm afraid we must go a step further in that direction...
...Well, I'11 tell you: The monetarists have their metaphysics wrong...
...Except the awakening comes after a night that has destroyed forever the livelihood of millions of older men and women, and has condemned millions of younger men and women to a lifetime of hanging around street corners...
...This truth reveals itself in two consequences, one theoretical and one practical...
...The first order of business at 275 Seventh Avenue tomorrow morning would be to raise the subscription price to $48...
...Not only is he the possessor of the most striking public name since Orval Faubus...
...For a considerable period now the price level has remained constant, or as near as doesn't matter, while the money supply has been increasing twice or three times as fast as Friedman recommends...
...Consequently, Friedman has been in the comfortable position of taking credit for whatever has turned out well, while disowning whatever has gone wrong...
...Morale is related to, but different from, morals...
...In words, the equation says that the quantity of money (M) times the velocity of its circulation (V) is equal to the general price level (P) times the goods produced (Y...
...Our morale has been so corrupted by the ideal of private greed that it will no doubt be decades before we enjoy again the eagerness with which we once faced the world...
...What is true of coin is surely true of credit, the fundamental form of money...
...What is left...
...It has made a few rich people very rich, and many poor people poorer than ever...
...The trouble with money is that there is not ever a definite amount of it, just as there is not ever a definite number of thoughts expressed in language...
...It would be pretty to think that, in giving up monetarism, the Administration will reverse itself and try to rationalize the distribution of income, thus incidentally increasing demand...
...For though Volck-er's policy has been to stop worrying about the interest rate and instead to control the money supply, he never has come close to bringing the yearly in-creaseofM-1 orM-2downto4percent...
...Since you can't count it, you can't fit it into an equation...
...Now, that's dandy...
...What went wrong...
...He argues that because government does not handle money as well as profit-seeking individuals, it should do the barest minimum and should be constitutionally required to balance its budget...
...It has as many definitions as it has definers, but all of them are based on the Quantity Theory of Money, a very old idea that treats money as simply another commodity...
...If the professor had his theory right, we should be experiencing the biggest boom in history...
...Yet he would forbid corporations to concern themselves with the moral consequences of their business, to engage in unpaid public service, or to exercise charity...
...Greed...
...Twenty-two per cent of the nation's industrial capacity is already standing unused: What would be the sense of producing more things no one can buy...
...Monetarism has had the great tactical advantage of massaging the egos of the wealthy, and especially of conservative bankers who serve the wealthy...
...he is thechairman of theCouncil of Economic Advisers and presumably talks things over with President Reagan, so what he says may foreshadow a shift in Administration policy...
...The textbooks continue to say banks create money by making loans, but Wicksell showed the initiative comes from businesses that want to borrow, not from banks that want to lend...
...If the coin be lockt up in chests," wrote David Hume, "' tis the same thing with regard to prices as if it were annihilated...
...His argument in favor of a fixed rate of expansion in the money supply is basically that discretionary control by the Federal Reserve Board has been so awful, almost anything would be an improvement...
...Greedy people are not necessarily immoral, just as self-sacrificing people are not necessarily moral...
...The theoretical consequence is that the attempt to state the Quantity Theory in an equation (MV=PY) results in a sterile tautology...
...Writers as various as Hayek and Keynes developed the idea, and businessmen have always known in their hearts that it is true...
...It seems the boom isn't happening or about to happen, so Sprinkel has given up on monetarism...
...The very existence of the different quantities—M-l, M-2, M-3, and the rest—underlines the point...
...The inflation rate followed (note the emphasis, which we may examine another day), reaching about 13.5 per cent at the end of Volcker's first year in office...
...The neoclassical "Keynesians" (who try to press Keynes back into the mold of a classical economist) emphasize incentives to investment, like tax credits...
...The economy is stagnant because its rewards are outrageously skewed in favor of those who already have more than they know what to do with...
...He said as much in a speech recently and stirred some excitement because of who he is...
...Finally, as a third trillion dollars has flowed into the stock markets, the rate of investment in productive enterprise has fallen...
...Suppose that at midnight tonight President Reagan or Federal Reserve Chairman Paul A. Volcker or the Sugar Plum Fairy decreed that every dollar you have is hereafter worth two dollars...
...unfortunately the expression has the flavor of a biologically determined force that could be let loose if you changed your breakfast cereal...
...regardless of the incentives, though, investment has languished...
...The same thing would happen throughout the economy, so that, subject to considerable slippage because of existing contracts, doubling thequantity of money would merely double the prices of goods and services...
...Of course, it doesn't much matter what a hammer is made of, either, but a hammer is merely a useful tool (glue, or nuts and bolts, could do the j ob as well as nailing), while nothing can be built—space cannot be organized—without some measuring object...
...The banking system can stifle an active economy with high interest rates, but it takes more than low rates to breathe life into a dormant economy...
...Would you now be able to buy two subscriptions, sending one to an intellectually needy friend...
...Money is not a commodity, it is a functioning object...
...Their universe is ungracious, ungenerous, constricted, pessimistic, often cynical...
...Simultaneously, another trillion dollars has been taken out of the civilian economy by heating up the arms race...
...If your purpose is to increase production, you look at the equation and decide that all you need to do is to increase the money supply or speed up its circulation, at the same time holding the price level do wn...
...The naked bottom line...
...So the extra money goes into speculation, an activity that incidentally increases the cost of capital and further inhibits enterprise...
...Not likely...
...If, however, the price level remains constant, a monetary expansion would necessarily expand production...
...Then we had the deliberate depression of 1981 -83, driving unemployment from a little over 6 million in 1979to almost 12millionin 1983...
Vol. 69 • October 1986 • No. 14
