A quote and headline from the Wall Street Journal on 14 August 2019:
‘’Trade tensions between the US and China, uncertainty about the Federal Reserve’s interest rate policy, and signs of slowing growth have spurred weeks of turbulence that have rippled through the stock, bond and currency markets.’’ (From "Stocks Drop as Treasuries Flash Warning Signal", emphasis added)
"Trump Says Fed Should Cut Rates as Global Growth Concerns Jar Markets"
Economists debate whether society’s needs are better served by a central bank that follows a transparent, strict rule, or by a central bank that exercises discretion in the conduct of monetary policy. They argue about how much central bank activism is desirable. They consider which international monetary arrangements create stability. And they disagree over whether a central bank can support a long-run level of employment or growth that exceeds an economy's 'natural' level.
These issues inspire larger policy debates, for instance over the credibility of ‘modern monetary theory’, as discussed by Summers (2019) and many others. They inform our preoccupation with the role of economic uncertainty, for example Ahir et al. (2019).
But they have been at the heart of economic thinking since the middle of the 20th century. Milton Friedman’s views and writing about these topics helped shape the course of monetary economics (Nelson, 2017). Contemporary thinking differs little from the Friedman view.
Friedman acknowledged – and historians agree – that his work was the outgrowth of a Chicago monetary tradition of the 1930s formulated by Chicagoans such as Henry Simons, Frank Knight, Jacob Viner, and Lloyd Mints. But the extent to which the work of Mints from the mid 1940s to the early 1950s catalysed Friedman’s monetarist views from the 1950s onwards has not been recognised. In this case, we are attempting to correct the historical record (Dellas and Tavlas 2019).
Mints, who taught at Chicago from 1919 to 1953, made important contributions that were later adopted and pushed by Friedman. In addition to his original contributions to monetary economics, there was clear cross-fertilisation of ideas between the two economists after Friedman arrived at Chicago in 1946.
Rules versus discretion
In the 1940s. economists were overwhelmingly in favour of discretion. Mints favoured a monetary policy rule. He believed that a rule would reduce the uncertainty created by discretionary monetary policy, and that it would help eliminate the important policy mistakes of the past. His preferred rule was one that would stabilise the price level, which he believed had a number of desirable attributes. In his view it would be simple, definite, easy to communicate and would shield the monetary authorities from political influences. Mints also believed that a constant money-supply growth-rate rule might be desirable, foreshadowing Friedman’s initial call for such a rule during a lecture delivered at Wabash College in 1956 (Lothian and Tavlas, 2018, pp. 778).
In a criticism of the Fed’s discretionary policy during the Great Depression that foreshadowed the modern debate on rules versus discretion, Mints wrote:
"I intend that my criticisms of the Reserve System shall be unambiguous and largely adverse; but I do not mean to imply that another group of men, under the same conditions and operating with the same grant of discretionary power, would have done better. It is to discretionary monetary authorities that I object." (1950, p. 46).
Mints concluded his assessment of the Fed’s role in the Great Depression:
"Neither the Reserve System nor the Federal government made any significant effort to prevent a drastic decline in quantity of money, to say nothing of a much-needed increase, from 1929 to 1932. This is where we blundered." (1950, p. 129).
Mints (1945a, 1950) also provided empirical evidence to show that the Federal Reserve’s reliance on the 'real-bills doctrine', a name coined by Mints, led the Fed to pursue contractionary monetary policies in the late 1920s and early 1930s, precipitating and deepening the Great Depression.
Fertilisation went in both directions. In his work in the mid 1940s, Mints (1950, pp. 138-39) recognised that discretionary monetary policy was subject to long lags. He later made it clear that it was not so much the length of the lag but its variability that created a problem for monetary authorities. Mints’ thinking on this topic was motivated by Friedman’s work on lags in the late 1940s, and Mints gave Friedman appropriate credit.
Exchange rates, inflation and unemployment
In 1945 Mints argued that exchange-rate volatility is a function of the underlying economic fundamentals rather than the particular exchange-rate regime; capital flows, he argued, would be destabilising if the macroeconomic fundamentals were unsound (1945b, p. 193).
If fundamentals were sound, Mints did not believe that the exchange-rate fluctuations that take place under flexible exchange rates would hamper international trade. In any case, flexible exchange rates would encourage the development of a forward market in foreign exchange so that exchange-rate risk could be hedged. He argued that speculation in foreign exchange markets was stabilising, because if a speculator had a disequilibrating influence, that speculator would lose money and be eliminated from the market (1950, pp. 93-94). These views would become parts of Friedman’s thinking.
Mints (1950, pp. 117-18) also believed that if a central bank attempted to bring unemployment below its frictional level, serious inflation would result, and unemployment would increase. He argued that the level of output and employment were not amendable to control by monetary measures – except in the sense that monetary stability would provide the conditions at which a high average level of output and employment would be maintained.
Mints’ views on attempts to maintain the unemployment rate below its frictional level were closely connected to Friedman’s argument in his 1976 Nobel Lecture (Friedman 1976) that, at the natural rate of unemployment, expansionary monetary policy creates both higher inflation and high inflation variability, which then raises unemployment.
Acknowledging the role of Mints
The volume, depth, and originality of Friedman’s research output during the 1950s and 1960s converted many economists to the view that money matters. But the contributions of people who had influenced his thinking, especially Mints and Clark Warburton (an economist who worked at the FDIC in the 1940s and 1950s), have been swept aside (Tavlas, 2019). Mints retired in 1953 and, although he lived until 1989, he distanced himself from academic work in economics.
Friedman acknowledged that he had been the beneficiary of the Chicago monetary tradition on the 1930s and 1940s, as represented by the work of Simons, Mints, Knight, and Viner. With hindsight this acknowledgement did not do justice to the breadth and depth of the influence that Mints had on his ideas. Friedman’s monetarist economics owes more to Mints than has previously been recognised.
Ahir, H, N Bloom and D Furceri (2019), "The Global Economy Hit by Higher Uncertainty", VoxEU.org, 11 May.
Dellas, H and G S Tavlas (2019), "The Dog that Didn’t Bark: The Curious Case of Lloyd Mints, Milton Friedman and the Emergence of Monetarism", CEPR Discussion Paper 13858.
Driebusch, C, B O’Daly and P J Davies (2019), "U.S. Stocks Drop as Treasurys Flash Warning Signal", Wall Street Journal, 14 August.
Friedman, M (1976), "Inflation and Unemployment", Lecture to the memory of Alfred Nobel, 13 December.
Lothian, J and G S Tavlas (2018), “How Friedman and Schwartz Became Monetarists.” Journal of Money, Credit and Banking 50: 757-787.
Mints, L W (1945a), A History of Banking Theory, University of Chicago Press.
Mints, L W (1945b), “Review of International Currency Experience: Lessons of the Inter-War Period, by Ragnar Nurkse,” American Economic Review 35: 192-5.
Mints, L W (1950), Monetary Policy for a Competitive Society, McGraw Hill.
Nelson, E (2017), Milton Friedman and Economic Debate in the United States, 1932 – 1972, book draft.
Summers, L (2019), "The Left’s Embrace of Modern Monetary Theory is a Recipe for Disaster", Washington Post, 4 March.
Tavlas, G S (2019), “The Intellectual Origins of the Monetarist Counter-revolution Reconsidered: How Clark Warburton Influenced Milton Friedman’s Monetary Thinking,” Oxford Economic Papers 71: 645-65.
Timiraos, N (2019), "Trump Says Fed Should Cut Rates as Global Growth Concerns Jar Markets", Wall Street Journal, 14 August.