Milton Friedman @ Rest Email from a Nobel Laureate.

In July last year, the late Milton Friedman, Nobel laureate in economics in 1976, granted an interview to The Wall Street Journal. Today we publish material from a question-and-answer exchange...

Milton Friedman: Yes. Pegging the Chinese currency to the U.S. dollar requires that China follow a policy which over time yields an inflation rate that is compatible with, though not necessarily equal to, the U.S. inflation rate. When that is not the case, maintaining the peg will require control over foreign exchange transactions both current and capital. But China's future depends on their eliminating such exchange controls, on their opening the market as much as they can and as having essentially a free price system. Hence it is in their own interest to move to institutions which enable them to have as free a market as possible...

If they do insist on pegging the yuan, they will sooner or later run into a situation in which they are either accumulating an excessive amount of U.S. dollars or they are in debt for an excessive amount of U.S. dollars and they will have a foreign exchange crisis. Far better to have a floating exchange rate and let the market do the adjusting that is necessary to render developments in China economically compatible with those in the rest of the world...

What is the biggest risk to the world economy: America's deficits? Energy insecurity? Environment? Terrorism? None of the above?

Friedman: ...Market can adjust to any rate. This is a very complicated question. Present estimates probably understate actual savings because of treatment of capital gains. In any event, the present situation does not raise any problems for the economy.

Eulogy for Professor Friedman

The news was a shock.

Friedman gone? It can't be so. Not Professor Friedman.

He's one of the Five Immortals.

Along with Alchian, Buchanan, Coase, and Samuelson, Friedman was one of those unique figures who dominated the time they lived in.

Four of these men have lived into their 90s, and Buchanan is only a few years away from his 10th decade. All five have made our lives safer and richer by their refining intellects and exacting empirical activities.

They all changed my understanding of Economics.

Their contributions to economic theory are obscure today, known mainly to us dismal scribblers, but eventually their work will stand out to future generations as the cause of a profound change in the lives of everyone on this earth.

Those of us who were here to watch them work, and watch them sow the seeds of the mighty oaks growing today, sit quietly in awe. These men were geniuses.

Alchian for his single-minded pursuit of a general theory of economics, Buchanan for his work on taxation and expenditure, Coase for his insight into the role of property rights in economic theory, and Samuelson for his powerful theoretical tools, all pushed economic theory forward by decades, and provided floods of insights to their colleagues and students.

But of all of these men and their contributions, Friedman's work on monetary theory will be remembered best, because his work mattered most.

Monetary Theory
In a thousand years, some future economist will write an article for an encyclopedia about the history of monetary theory, detailing the work done since Aristotle, and in the first paragraph - perhaps the first sentence - Milton Friedman's name will be written in bold letters.

He is that important; first to economics, but more importantly to mankind.

His monumental work - The Monetary History of the United States - showed exactly how dramatic changes in the stock of money create equally dramatic changes in employment, income, consumption, production, tax revenue, inflation and interest rates; changes which have altered the course of history in peace and war.

This, more than his work on personal liberty, will define his memory. Without economic stability, political stability is impossible. The last great depression taught us that lesson, as war, and injustice - even in the US - enflamed the passions of the world and led to the deaths of millions of innocent people. That will never happen again, thanks to Milton Friedman.

Volcker and the Federal Reserve System
When Paul Volcker faced roaring and growing inflation in 1979, as the new Chairman of the Board of Governors of the Federal Reserve System, he faced a crisis.

Gold and silver prices were soaring, oil had recently been rationed, and the economy looked ready to crash. The government’s answer to the problem was a WIN button, asking us to Whip Inflation Now. It was a desperate time.

The usual rules for money management provided little guidance, and in fact, were counter-productive. Those now-discredited laws instructed the Fed to add more money to the system as short-term interest rates rose, thereby increasing the supply of funds and reducing short-term rates.

Had Volcker followed those rules, the Unites States would have discovered hyperinflation and runaway prices. That's what Friedman taught us, and that's why we all trembled for our future generations and ourselves.

Eventually, in a hyper-inflationary world, as prices rise uncontrolled, some future Fed Chairman would decide to rein in the irrational exuberance of the times and push the economy into a collapse worse than the Great Depression of 1929-33. We'd seen it over and over again, since the invention of banking.

With startlingly clear eyes, Volcker saw that the United States faced a disaster similar to that of Weimar Germany, and a bleak future of warring states fighting for advantage in a dark, cold world unless inflation could be tamed.

Fortunately, the answer to the problem was there for all to see. 15 years earlier, Friedman published his Monetary History of the US, telling the monetary authorities what to look for and what to do. The rest is history. Volcker took his advice. He would control the stock of money, he announced.

But did he mean it?

We all held our breath, and watched him in action. Would he really do it? Would he really change the way the Fed works? It'd never happened before.

Then, in a stroke, he proved he meant to control inflation. One day, when Fed Funds were trading at 20.25%, he drained – not added - reserves from the system. In the parlance of the Street, he did matched sales. He *reduced* the amount of money in the system while interest rates soared. This was new.

On that day, inflation died.

The Fed's policy let the world know there was a new Sheriff in town, one that played by the modern, scientific rules of money growth; one that knew how to kill inflation.

By these actions, Volcker bankrupted the Hunt brothers as the silver market collapsed, and sent word to all that inflation was a thing of the past.

Effects of Control of the Stock of Money
In the years since then, the economy has stabilized: inflation has fallen from 16% to 2; Fed Funds from 20% to 1; the US economy has created millions of jobs, and trillions in consumption, production, savings, investment, and tax revenue; the national political system has seen the ouster of a single-party legislature in power since Roosevelt; we've seen the beginnings of a true two-party system; we've witnessed the collapse of the Soviet Union and Socialism; we've watched the triumph of personal liberty; and we now have a clearer path to the future.

Is all this the legacy of Volcker and Friedman?

Yes.

By removing the confusion surrounding economic growth, and placing it firmly in the hands of an independent Federal Reserve, Volcker took the economy out of the meddling and incompetent hands of the government.

Volcker’s actions told politicians to forget about buying votes by creating make-work jobs in subsidized industries protected by tariff walls from foreign competition, and to focus on regulation, taxation, and public expenditures, the true functions of government. Let the Fed handle long-term growth, he said.

Since then, we've seen two business cycles, each of 10 years or so, under two different political parties, with minor recessions in between. We now seem on path to another business cycle longer than the others - 10 or 15 years, or more!

This is unprecedented.

Friedman's work has changed the world forever.

We live in exciting times, and I'm glad to be here. I'm also glad to have had Professor Friedman as a friend.

May the good Lord take him and keep him, may He make His face to shine upon him, and may he sail on God's own ocean forever.

Amen, amen, amen.

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