Tape 183 - T-Bill Futures Market, Evans Predictions, Monetarism
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- | Hello, this is William Clarke of the | 0:02 |
Chicago Tribune saying welcome once again on behalf of | 0:04 | |
Instructional Dynamics, to another visit with the | 0:07 | |
distinguished economist, Professor Milton Friedman | 0:10 | |
of the University of Chicago. | 0:13 | |
We're recording this interview in the very early days | 0:15 | |
of 1976 and, Milton, I know you just returned from | 0:18 | |
performing an important ceremonial duty in connection | 0:23 | |
with the opening of a new futures contract | 0:27 | |
on the Chicago Mercantile Exchange, | 0:29 | |
specifically a contract in Treasury bills. | 0:31 | |
You remarked that you think | 0:36 | |
this can perform a valuable function, | 0:37 | |
I wonder if you would tell us a little about it. | 0:39 | |
- | Well, it was a fascinating experience for me, | 0:42 |
being down there and having the honor | 0:45 | |
of ringing the bell that started the market in operation. | 0:47 | |
As anybody knows who has been | 0:53 | |
on the floor of one of these great exchanges | 0:55 | |
like the Chicago Mercantile Exchange, | 0:57 | |
or the same thing is true of the New York Stock Exchange | 0:59 | |
or any of the others, the first impression one has is | 1:01 | |
one of utter and complete chaos. | 1:04 | |
A loud den of voices clamoring for bids, | 1:07 | |
and asks, and so on. | 1:11 | |
Underneath this chaos, however, | 1:14 | |
it's a very well-disciplined and organized market, | 1:16 | |
everybody there knows exactly what's going on. | 1:18 | |
Enormous volumes of transactions are carried out | 1:22 | |
instantaneously, and there's real competition. | 1:24 | |
In fact, I think in many ways the floor | 1:27 | |
of one of these organized exchanges is an excellent model | 1:30 | |
of a truly competitive economy in general. | 1:36 | |
External appearance of chaos concealing a highly organized, | 1:38 | |
well operating, well functioning system of coordination. | 1:43 | |
Now, the particular new market that was just opened here | 1:47 | |
is a market in three months Treasury bills. | 1:51 | |
It's a futures market, and it's a futures market | 1:57 | |
which I hope to extend out to 18 months, that is today, | 2:00 | |
in principle, as soon as this gets operating, | 2:04 | |
this is the first day of it so it's going to take some time | 2:07 | |
before it gets into it's full stride, | 2:09 | |
but once it's operating you can phone your broker | 2:12 | |
and say I want to buy, now, an option | 2:15 | |
on treasury bills 18 months from now. | 2:18 | |
Or I wanna sell, now, an option on treasury bills | 2:22 | |
18 months from now. | 2:25 | |
Now what is the virtue and value of such a mark? | 2:26 | |
From the point of view of the financial institutions, banks, | 2:30 | |
people involved in lending and selling, it is a way in which | 2:36 | |
they can hedge their lending and borrowing activity, | 2:39 | |
so as to lock in the anticipated interest rate. | 2:44 | |
This is because, in general, | 2:48 | |
all interest rates move together, and particularly | 2:51 | |
short term interest rates will all move together. | 2:53 | |
So suppose you are now making a loan for a year, | 2:56 | |
or two months, or something. | 3:01 | |
That loan means that you have committed yourself | 3:05 | |
to providing money and receiving a definite return. | 3:09 | |
But suppose six months from now you have to get rid | 3:12 | |
of that loan somehow, or nine months from now | 3:14 | |
you have to get rid of it. | 3:17 | |
You cannot be sure at what price you can get rid of it. | 3:18 | |
However, by making the appropriate transactions | 3:22 | |
in the futures market in treasury bills, you're gonna, | 3:26 | |
in effect, hedge yourself against any possible change | 3:30 | |
in the interest rate over that six months, | 3:35 | |
nine month period, whatever period is of interest to you. | 3:37 | |
This means that you could now engage in a two year loan, | 3:41 | |
even though you know you're going to after to, | 3:44 | |
and I say a two year loan, | 3:46 | |
I'm a bank or somebody and when I say a two year loan | 3:47 | |
those pieces of paper can be sold later on to somebody else. | 3:50 | |
It's just as if you buy a two year bond. | 3:53 | |
Now, you can buy a two year bond now, | 3:56 | |
fully expecting to sell within the year, | 3:59 | |
and hedge yourself against the possibility | 4:02 | |
that a year from now the price of that bond will be lower. | 4:05 | |
Because if the price of that bond is lower a year from now, | 4:08 | |
that means the interest rate and the market is higher, | 4:12 | |
and that means that if you have offset your loan | 4:16 | |
by a purchase of future bills in the market, | 4:22 | |
why then you will, | 4:24 | |
or sale, whatever is the right thing, | 4:25 | |
it's always complicated to figure out what you have to do. | 4:26 | |
At any rate, you will make a profit on a futures transaction | 4:29 | |
that will offset your loss on this one. | 4:33 | |
I guess what you have to do in the case I'm describing is | 4:35 | |
to sell six months ahead the treasury bill. | 4:37 | |
Interest rates have gone up, you will be able to close out | 4:41 | |
your futures transaction at a profit, | 4:45 | |
and that will just offset your loss on the two year bill | 4:47 | |
where you can carry out all the complications. | 4:51 | |
Now the interesting thing, of course, | 4:54 | |
is I described it in terms of hedging | 4:55 | |
and I described it in terms of hedging | 4:58 | |
because hedging is a good word. | 5:01 | |
It all depends on how you put the thing. | 5:04 | |
In order to, however, to have such hedges, | 5:08 | |
there have to be people who are willing to speculate. | 5:10 | |
You have to have two sides to the market, and if I want | 5:13 | |
to assure myself against risks, it may be that there will be | 5:16 | |
other hedgers on the other side of the market. | 5:20 | |
There may be hedgers on both sides of the market. | 5:21 | |
If I'm a borrower, I will hedge myself by doing the opposite | 5:23 | |
to what I would do if I'm a lender. | 5:27 | |
If I am borrowing in a market, now again, | 5:29 | |
look at the borrowing of it. | 5:35 | |
Many bank loans over a two year period are now made | 5:36 | |
at variable interest rates so that I am not assured | 5:41 | |
of what interest rate I will have to pay on this loan. | 5:45 | |
I am only assured the interest rate is generally linked | 5:48 | |
to the prime rate, so generally I agree | 5:52 | |
to pay three points above prime or something like that. | 5:55 | |
Well now suppose I want to hedge myself against the rate | 5:58 | |
I have to pay six months from now being higher | 6:02 | |
than the rate now. | 6:04 | |
Well then I can go in the opposite side | 6:05 | |
of the treasury bill market and that will hedge me there. | 6:07 | |
If six months from now I have to pay a higher rate | 6:11 | |
I can offset that by a profit which I will make | 6:14 | |
on a treasury bill. | 6:17 | |
So you can get hedgers on both sides of the bill market, | 6:19 | |
but there is nothing to assure that the hedgers | 6:22 | |
on both sides of the bill market will just match, | 6:23 | |
and in order to fill in the gap, you need speculators. | 6:26 | |
But speculation is a bad word, and so you always describe | 6:30 | |
these future markets in terms of hedging. | 6:33 | |
However, these are private markets, and so the hedgers | 6:37 | |
and the speculators are risking their own money, | 6:39 | |
and I don't see anything wrong with speculators | 6:42 | |
providing liquidity for other people at their own expense. | 6:44 | |
Incidentally, this word game is fascinating. | 6:47 | |
When the Federal Reserve engages in speculation | 6:52 | |
in foreign exchange, it's never described as speculation | 6:55 | |
in foreign exchange. | 6:59 | |
It's described as central bank intervention | 7:00 | |
in order to maintain an orderly market. | 7:03 | |
(laughing) | 7:05 | |
But what it really is is speculation in foreign exchange, | 7:06 | |
and by contrast with private speculation, | 7:08 | |
in private speculation, generally at least, | 7:12 | |
if some people lose, other people win. | 7:14 | |
But in the Federal Reserve speculation | 7:17 | |
and the foreign exchange market, | 7:19 | |
we have consistently lost money | 7:20 | |
so that the American taxpayer | 7:23 | |
has been subsidizing Federal Reserve speculation. | 7:25 | |
At any rate, this is the second new market | 7:28 | |
that has been introduced in the past few months | 7:32 | |
in financial instruments. | 7:34 | |
It's an absolutely, really a very interesting | 7:36 | |
new development that arises, | 7:37 | |
the demand for which arises out of a much greater | 7:40 | |
variability of interest rates over the past few years | 7:42 | |
than has been traditional. | 7:47 | |
That much wider variability of interest rates | 7:48 | |
in turn reflects a wider variability in inflation rates, | 7:51 | |
in turn reflecting something about monetary development. | 7:55 | |
The other market is a market which was introduced | 8:01 | |
about two months ago by the competing Chicago exchange, | 8:05 | |
the Board of Trade, in mortgage instruments, | 8:09 | |
in eight percent mortgage instruments, | 8:13 | |
and that's a futures market also, whose main clientele | 8:15 | |
for that will be savings and loan associations, | 8:20 | |
mortgage companies, and so on, people who are involved | 8:23 | |
in mortgage instruments and wanna hedge their bets | 8:26 | |
in that connection. | 8:28 | |
I think it will be interesting | 8:29 | |
to see how rapidly this develops. | 8:30 | |
Now, another interesting thing about this market is | 8:32 | |
that it's a nice example of how government | 8:35 | |
controls are spreading. | 8:37 | |
A year ago this new market in treasury bills | 8:39 | |
could have been established by the Mercantile Exchange | 8:43 | |
without any approval from anybody in Washington. | 8:46 | |
In the interim, there has been established | 8:49 | |
a Commodities Futures Trading, C is the last initial, | 8:51 | |
but whether it's Commission or Corporation, I've forgotten, | 8:57 | |
but whatever it is, it's a governmental body | 9:00 | |
to supervise the futures exchanges. | 9:01 | |
And this time, in order to get established, | 9:06 | |
the Mercantile Exchange had to apply | 9:09 | |
for permission to establish. | 9:11 | |
- | Is that so? | 9:13 |
- | Moreover, right now they're lucky | 9:14 |
because the CFTC has just gotten started, | 9:16 | |
and all new agencies are pretty good. | 9:20 | |
I guarantee ya' that three or four years from now | 9:23 | |
if they want to establish a new one, | 9:25 | |
they will not get permission in a couple of months | 9:27 | |
as they did this time, it will take a couple of years, | 9:29 | |
as they have to rigidify. | 9:31 | |
Another interesting fact I found out | 9:33 | |
this morning is that the projected staff | 9:35 | |
of that Commodity Futures Trading Corporation, | 9:39 | |
projected, number of people on it's payroll, | 9:42 | |
is larger than the total number of people that is | 9:48 | |
estimated that are now used in administering all the futures | 9:51 | |
markets in the United States. | 9:55 | |
Now, that's a hard comparison because it doesn't include, | 9:57 | |
of course, the traders on the exchange, | 10:00 | |
but if you take the salaried employees of | 10:02 | |
the Chicago Board of Trade, the Chicago Mercantile Exchange, | 10:05 | |
the comparable things in New York, | 10:08 | |
wherever there are futures markets, | 10:10 | |
it is estimated that the number of such employees | 10:11 | |
is decidedly smaller than the number of employees | 10:15 | |
of the CFTC. | 10:18 | |
We don't need such a commission but we now have it. | 10:20 | |
- | Both of the Chicago exchanges, | 10:24 |
that it's my impression, | 10:26 | |
have been quite innovative in recent years and I guess. | 10:27 | |
- | Supposedly they have. | 10:30 |
- | Innovation attracts attention | 10:31 |
and it gets harder and harder to be innovative. | 10:32 | |
- | Oh, they have innovated from the greatest success of all, | 10:35 |
of course, was the introduction of the pork belly contract | 10:39 | |
some years back, now who knows about pork bellies | 10:42 | |
and yet it turns out to be | 10:45 | |
an enormously extensive and broad market. | 10:46 | |
- | That's right. | 10:50 |
- | And of course in the stock market as well, | 10:51 |
the Chicago exchanges have been innovative. | 10:52 | |
- | Yes, very much so. | 10:55 |
- | The options market in stocks which was first introduced | 10:56 |
in Chicago, now New York, the American Exchange has been, | 10:59 | |
as you know, introduced options, marketing options. | 11:03 | |
I think this is of the general pattern that you | 11:08 | |
and I know only too well of living in the second city, | 11:13 | |
that the second city has to try harder. | 11:16 | |
- | That's right. | 11:18 |
Milton, we have a letter here that I think will be | 11:19 | |
of interest to your subscribers and your comments on it. | 11:21 | |
It is from J. Patrick Rooney, who is Chief Executive Officer | 11:24 | |
of the Golden Rule and Congressional Life Insurance | 11:28 | |
Companies in Indianapolis, | 11:31 | |
and I'll just read one paragraph from your letter. | 11:34 | |
He's asking you to comment on some predictions made | 11:36 | |
by a Mr. Michael Evans of Chase Econometrics, | 11:40 | |
and Mr. Rooney says; I would welcome it | 11:44 | |
if you would comment on Mr. Evans' predictions for 1977, | 11:46 | |
78, and 79, which include a 15% prime interest rate | 11:51 | |
and an unemployment rate at a level of 12% by 1979. | 11:56 | |
- | I'm very glad to comment on those predictions because, | 12:04 |
in general, I think that Mr. Evans has the right pattern, | 12:09 | |
but I believe his numbers go too far. | 12:15 | |
I believe he's overstated it in two respects, | 12:20 | |
that the developments he foresees will come | 12:23 | |
a little bit more slowly than he foresees them, | 12:25 | |
and that the numbers will be a little lower | 12:28 | |
than he foresees. | 12:31 | |
The basis of his prediction, of course, | 12:33 | |
is that we are now engaged in the expansionary phase | 12:35 | |
of the business cycle, that this is going | 12:38 | |
to carry too far and that we are going | 12:39 | |
to have very expansive monetary | 12:41 | |
and fiscal policies. | 12:42 | |
That this will set off a new wave of inflation, | 12:44 | |
and as the inflation rate reaches up | 12:47 | |
to double-digit numbers, 10, 12, 13% in 1977 | 12:49 | |
by his prediction, this will be reflected | 12:55 | |
in an interest rate of 15% because, in general, it is true, | 12:57 | |
that the prime interest rate or short term market | 13:02 | |
interest rates have tended to stay ahead of inflation | 13:04 | |
by something like three percentage points. | 13:07 | |
So that if inflation does get up to 12%, you are likely | 13:10 | |
to see prime interest rates of 15%, and he is then expecting | 13:13 | |
that in reaction to this you will have enormous pressure | 13:18 | |
to slow down the economy in order to slow down inflation. | 13:22 | |
That this will lead to a sharp stepping on the brakes, | 13:27 | |
that this stepping on the brakes will in turn | 13:30 | |
cause a recession and because you have a higher | 13:33 | |
inflation base from which to start the recession will be | 13:36 | |
still deeper than it was this time, and that if this time | 13:39 | |
unemployment got up to 9%, next time it might get up to 12%. | 13:42 | |
Well now, I really have no quarrel with | 13:46 | |
that general picture of the future, | 13:48 | |
but I believe the timing is probably a little bit off. | 13:49 | |
For one thing, the inflation rate in 1977, | 13:53 | |
to judge by past experiences, will be largely determined | 13:57 | |
by the monetary growth rate in 1975. | 14:00 | |
There's about a two year lag, | 14:04 | |
and so it takes about two years. | 14:06 | |
Now, if we look at recent experience, | 14:08 | |
the monetary performance in 1975 had been | 14:11 | |
much more modest than, I must say, | 14:14 | |
I thought it was going to be, more than an extrapolation | 14:17 | |
of past similar experiences would suggest. | 14:20 | |
I have discussed this on these tapes many times before, | 14:24 | |
so I'm just bringing, reminding you of the background | 14:28 | |
that you had a real monetary explosion from January | 14:32 | |
to August at the annual rate of something like 10% for M1, | 14:36 | |
more than that for M2. | 14:40 | |
But then you had a terrific slow down from | 14:42 | |
August to October. | 14:45 | |
I'm sorry, I've misspoken, it was January to June | 14:48 | |
that you had the rapid expansion, and a slow down | 14:50 | |
from June to October, with five months versus four months, | 14:53 | |
I was wrong when I said August. | 14:57 | |
Yeah, that's right. | 15:00 | |
Now during that period you had a very slow | 15:02 | |
rate of monetary growth. | 15:06 | |
Then in October, I thought another explosion was starting, | 15:08 | |
from October to November you had a very rapid rate | 15:12 | |
of monetary growth, but more recently in the last few weeks, | 15:16 | |
you've had again a decline, | 15:20 | |
absolute decline in the money stock. | 15:23 | |
As of the latest figure available as we tape this, | 15:26 | |
which is for the week ending December 24th, | 15:31 | |
the level of M1 is two-and-a-half billion dollars, | 15:34 | |
or roughly one percentage point, below the bottom limit, | 15:39 | |
which the Fed has specified for its goal for monetary growth | 15:45 | |
over the period from the third quarter of 1975 | 15:50 | |
to the third quarter of 76. | 15:53 | |
So, I think when we come to the end of 1970, | 15:56 | |
when we have the latest figures, that's almost the latest, | 16:01 | |
for the year as a whole you're going to have an increase | 16:05 | |
in the quantity of money at the annual rate of something | 16:08 | |
like five, six, six-and-a-half percent of that order | 16:10 | |
of magnitude, which is lower than I would have expected | 16:12 | |
in the first year of an expansion. | 16:16 | |
I really am puzzled by recent monetary behavior | 16:19 | |
because it looked as if in August, | 16:22 | |
in October the Fed was really starting to | 16:25 | |
turn around and offset it's earlier mistake, | 16:27 | |
and get back on its own target range. | 16:30 | |
Why it hasn't done so, I really don't know, | 16:34 | |
maybe it's a temporary aberration, maybe the next month | 16:36 | |
or two will show more, but I am reminded | 16:39 | |
that we had a very similar episode in 1974. | 16:42 | |
You, again, in 1974 had a very sharp slowdown | 16:47 | |
in the rate of monetary growth from June to October. | 16:50 | |
Then from October to December, for two months, | 16:53 | |
you had what looked like a real explosion, | 16:56 | |
where all of sudden in January that was followed by | 16:57 | |
a turnaround and a sharp decline. | 17:01 | |
There have been some | 17:03 | |
suggestions in newspaper comments | 17:05 | |
on this and in informed comments by Fed watchers | 17:07 | |
that there may be something wrong | 17:12 | |
with the seasonal adjustment process | 17:13 | |
that the Fed has used in adjusting it's seasonal. | 17:15 | |
I find that very hard to accept because in the course | 17:18 | |
of the work we have been doing on the committee | 17:21 | |
of the Federal Reserve concerned with making recommendations | 17:24 | |
for improving the measurement of the money supply, | 17:27 | |
we have looked into carefully the seasonal movements | 17:30 | |
of money, and I cannot find in that | 17:32 | |
any evidence of a systematic change in | 17:35 | |
the seasonal over the past few years | 17:37 | |
so I doubt very much | 17:39 | |
that that's the explanation. | 17:41 | |
At any rate, it is puzzling that you should have | 17:43 | |
this phenomenon in two successive years, | 17:45 | |
and maybe there has been a change in the seasonal pattern. | 17:47 | |
At any rate, what this conclusion leads to is | 17:52 | |
that I am going to have to revise my own expectations. | 17:56 | |
I, like Michael Evans, have been expecting that | 18:00 | |
1977 would see a sharp resurgence of inflation. | 18:03 | |
That was based on my earlier belief | 18:07 | |
that that monetary explosion which began | 18:09 | |
in January would continue more or less unabated. | 18:11 | |
Given this very mixed picture over the past nine | 18:15 | |
or twelve months, it now looks as if we will be able | 18:21 | |
to go through 77 with a rather slower rate | 18:26 | |
of inflation than I had anticipated. | 18:29 | |
Based on recent performance you would expect | 18:30 | |
something like a six or seven percent, | 18:33 | |
not a double digit inflation in 1977. | 18:35 | |
If that is right you would expect the prime rate | 18:38 | |
at that time to get up to something like | 18:40 | |
eight to 10 percent, not to 15% | 18:42 | |
but it might well get up in that range | 18:45 | |
and then there is no reason, there is every reason | 18:48 | |
on the basis of past experience to expect | 18:51 | |
that you will continue up this exploding path, | 18:53 | |
but whether that happens or not really depends critically | 18:57 | |
on what monetary policy is the next year. | 18:59 | |
One of the great difficulties in making these kinds | 19:02 | |
of predictions for two or three years ahead is | 19:05 | |
that you cannot very effectively predict | 19:06 | |
what the Federal Reserve is doing. | 19:09 | |
So I would say I would take with a very | 19:12 | |
great grain of salt any of the specific | 19:14 | |
numerical predictions that Mr. Evans' computer | 19:16 | |
has ground out, while accepting as probably not too bad | 19:19 | |
the general pattern, stretched out somewhat in time, | 19:24 | |
that he is proposing. | 19:28 | |
- | Milton, there were some comments in a recent editorial | 19:30 |
in the Wall Street Journal in which they were reviewing | 19:33 | |
economic developments in 1975 that I thought | 19:35 | |
might invite some interesting comments from you. | 19:40 | |
The editorial says, in part; for the lesson we draw | 19:44 | |
from 1975 is that none of our prevalent economic theories | 19:46 | |
tells us as much about the economy as we thought. | 19:50 | |
Skipping down, nothing in the Keynesian universe, | 19:54 | |
for example, would have warned you | 19:56 | |
of simultaneous high inflation and high unemployment. | 19:57 | |
And then down some more, | 20:01 | |
"he Keynesian's monetarist adversaries | 20:03 | |
at least have something to say about inflation, | 20:06 | |
but on the question of what influences real production, | 20:09 | |
what causes boom and recession, monetarism seems to us | 20:13 | |
in deep trouble, at least on a basis | 20:16 | |
of our recent experience. | 20:19 | |
- | Let me interrupt you there because | 20:21 |
I find that a very surprising judgment. | 20:23 | |
It certainly is true what they say, | 20:26 | |
that the Keynesian view does not allow | 20:29 | |
for the simultaneous occurrence of inflation and recession, | 20:34 | |
but certainly in this respect, the monetarists, | 20:37 | |
if I may speak for myself at least, are long on record | 20:40 | |
about the coincidence of those two | 20:45 | |
and about the circumstances under which they arise. | 20:48 | |
I call to the attention one of the first Newsweek columns | 20:51 | |
I ever wrote after I started to write columns for Newsweek | 20:55 | |
was in October 17th, 1966, and the title | 20:59 | |
of that column was Inflationary Recession, and I said then; | 21:04 | |
our record economic expansion will probably end sometime | 21:09 | |
in the next year. | 21:12 | |
If it does, prices will continue | 21:13 | |
to rise while unemployment mounts. | 21:14 | |
There will be an inflationary recession. | 21:16 | |
Many will regard this prediction | 21:20 | |
as a contradiction in terms, and there I was referring | 21:22 | |
to the Keynesian orthodox, see? | 21:24 | |
But I went on to explain that it wasn't | 21:26 | |
a contradiction in terms, | 21:30 | |
that it would arise because what matters | 21:32 | |
is not the absolute rate of monetary expansion, | 21:35 | |
but the rate of monetary expansion relative | 21:37 | |
to people's expectations, and that you can perfectly well | 21:39 | |
have inflation along with recession. | 21:43 | |
Now in that particular episode, we had what came | 21:45 | |
to be called a mini recession thereafter, | 21:49 | |
we did have a slowdown, unemployment did go up | 21:52 | |
while prices continued to rise, | 21:55 | |
the National Bureau has never recognized it | 21:57 | |
as a full-fledged recession, | 21:59 | |
but it is widely regarded as a mini recession. | 22:01 | |
- | That's a pretty telling rejoinder, I would think. | 22:05 |
I'll go on the (clears throat) in this editorial briefly, | 22:07 | |
it says the monetarists argue | 22:11 | |
that economy is controlled by money, | 22:14 | |
whether M1, M2, or something else and so forth. | 22:16 | |
But it says then the moving force behind changes | 22:19 | |
in the money stock has not been the monetary base, | 22:22 | |
but the monetary multiplier, the rate | 22:25 | |
at which the system translates the base into total money. | 22:28 | |
The multiplier is not determined by the Fed, | 22:31 | |
but by such public decisions as whether to hold assets | 22:34 | |
in cash or bank accounts. | 22:38 | |
- | Well that's certainly true, | 22:40 |
that the multiplier is determined by such decisions. | 22:42 | |
The question is does it follow | 22:45 | |
that any deviations in the money supply from the base | 22:48 | |
are to be regarded as outside the control, | 22:52 | |
outside the reaction mechanism of the Fed. | 22:56 | |
That all we can hold the Fed liable for | 23:00 | |
is what happens to the base itself because as | 23:06 | |
the Wall Street Journal properly points out, | 23:08 | |
that base has risen at a fairly constant rate | 23:11 | |
over the whole period, from 1970 to the present. | 23:14 | |
I believe that's a fundamentally false view. | 23:19 | |
The fact is that the Fed can allow for changes | 23:23 | |
in the multiplier, just as the Wall Street Journal | 23:27 | |
would never today, some years ago would've been different, | 23:33 | |
but today the Wall Street Journal would never | 23:36 | |
say well if the interest rates are constant | 23:38 | |
the Fed has been neutral or the Fed has had a | 23:41 | |
stabilizing monetary policy. | 23:44 | |
Of course not. | 23:46 | |
Interest rates are determined by forces outside the Fed, | 23:47 | |
and not only by the Fed, that's not the right way | 23:50 | |
you should judge the Fed. | 23:52 | |
Similarly, you should not judge the Fed | 23:54 | |
by the behavior of the banks. | 23:55 | |
You should judge the Fed by the behavior | 23:57 | |
of the money supply which is what | 23:59 | |
they profess to control, | 24:01 | |
and which they can control, | 24:03 | |
because they can perfectly well allow for the changes | 24:05 | |
in the various factors that affect the multiplier | 24:12 | |
and changes in the multiplier. | 24:15 | |
Now, if you look at the behavior of the money supply | 24:16 | |
over the period since 1970, | 24:18 | |
the Wall Street Journal's negative conclusions | 24:21 | |
about the monetarist theory is not justified. | 24:24 | |
What you had in the money supply is that | 24:29 | |
you had a very rapid rate of growth in the money supply | 24:30 | |
from about 1970 to 1973, to mid 73. | 24:34 | |
You then had a minor slowdown from 73 to 74. | 24:41 | |
You then had a very substantial slowdown from 74 | 24:45 | |
to early 75, and the behavior of the real magnitudes | 24:48 | |
and real output followed these changes | 24:53 | |
in the rates of monetary growth exactly in the pattern | 24:57 | |
that the monetarists have long predicted it. | 25:00 | |
That is to say, the slowdown in mid 73 was followed | 25:02 | |
by a mild recession in 74. The sharper slowdown | 25:07 | |
in late 74 was followed | 25:11 | |
by an intensification of the recession. | 25:12 | |
The expansion in the money supply, rate of money supply, | 25:15 | |
beginning in early 1975 was followed some months later | 25:18 | |
by beginning of economic expansion. | 25:24 | |
So the general pattern of relationships between money | 25:27 | |
and real output which the monetarists have predicted | 25:30 | |
I think was followed. | 25:34 | |
The essential feature of our approach is that the long run, | 25:35 | |
that the behavior of prices is the long run phenomenon | 25:39 | |
which has a great deal of inertia in it, | 25:44 | |
and in which is dominated by what happens | 25:46 | |
to the money supply, the trend of the money supply. | 25:49 | |
That on the other hand, the short run's ups and downs | 25:52 | |
in the economy and real output are dominated | 25:55 | |
by the relation between monetary growth in the short run | 25:59 | |
and this long run pattern of monetary growth. | 26:02 | |
That an acceleration of monetary growth will | 26:05 | |
in the first instance make itself felt in an acceleration | 26:07 | |
of output, but after a time, | 26:10 | |
even if monetary growth continues at the same rate, | 26:13 | |
the effect will shift from output to prices, | 26:17 | |
so that it is part of our prediction | 26:20 | |
that if you shifted from a low rate of monetary growth | 26:22 | |
to a higher rate of monetary growth and kept it constant | 26:25 | |
at that higher rate, the economy would first | 26:28 | |
expand and then you would have a recession, | 26:31 | |
because you would have to translate those expansive forces | 26:34 | |
from output into prices. | 26:38 | |
So on the whole, I think the Fed has under, | 26:41 | |
I think the General has rather undersold the empirical | 26:45 | |
and explanatory content in the monetary approach. | 26:50 | |
- | Thank you very much, Professor Milton Friedman | 26:53 |
of the University of Chicago. | 26:54 | |
If you subscribers would like to ask questions | 26:57 | |
for Dr. Friedman to answer on future tapes, | 26:59 | |
or suggest subjects for him to discuss, please write to | 27:02 | |
Instructional Dynamics Incorporated, | 27:05 | |
450 East Ohio Street, Chicago, Illinois 6-0-6-1-1. | 27:08 | |
We'll be back with Professor Friedman a couple weeks hence. | 27:14 |
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