- Hello, this is Instructional Dynamics inviting you to another of our biweekly interviews with Dr. Milton Friedman, professor of economics at the University of Chicago. We are taping this interview on Thursday, December 31st. Professor Friedman, is there anything new on the economic front? 

- Well, before I answer that, given the date, let me wish all of our subscribers a very happy and prosperous new year. On the whole, as my most recent tape giving the forecast indicates, I think that there are good prospects, that this will be a much better year than most people anticipate. I believe that we are likely, as I indicated in my last tape, to have a fairly substantial expansion during the course of this year, with a continuing reduction in the rate of inflationary price rise. So far as anything new since my last tape, there is very little. The year end is almost always a confused period, when there isn't very much active going on, and moreover, we are now at that state of the economic fluctuations, in which there is not a great deal to be said, a statement, in my opinion, we're near the bottom of a turning point and when, for quite a long time to come, if this view is right, there will be little to be said, except the fact that things are continuing to expand and go up. On the economic front, one thing that might be stressed is that the most recent several weeks of the monetary figures have shown a rather substantial rise in the quantity of money. Now as my subscribers know very well by now, this is a very erratic thing, and you do have wide ups and downs from week to week. But nonetheless, as far as they go, the figure suggests that the Fed is trying to make up for the rather slow rate of growth during the months of October and part of November and is going back up. The real question and the real issue will come over the next few months, whether the Fed has succumbed to the great political pressures that are bearing on it, to expand the quantity of money at a much more rapid rate than the five percent which they have in general taken as their goal, or whether they will resist this pressure and keep to a course which will, in my view, continue to provide the monetary basis for a moderate expansion without reawakening inflationary pressures. I still think that's up in the air. Insofar as one can say anything on the basis of sort of a spread of commentaries and comments in the papers and so on, it does look as if there is a little shift in the climate of opinion within Washington, as if within the administration, there has been some move away from the kind of panic that was developing shortly after the elections, a panic which was leading people to take positions quite different from their usual positions, leading some of the people like some of the members of the Council of Economic Advisors to urge rates of increase in the quantity of money of eight to ten percent. It seems as if there has been some shift away from that. A greater sense of realism and of moderation and of perspective on the part of the White House and of the administrations so that they are reconciling themselves to a slower rate of monetary growth and to a longer, spread out return to a position of high employment simultaneously with the tapering off of inflation. But all of that is mostly in the feel of the situation and the tone of the comments. Its hard to document it by any hard facts. 

- You have been identified with the policy of a constant rate of monetary growth. In a recent tape, your colleague, Paul Samuelson, discussed this policy and argued rather strongly against it. Would you care to comment? 

- Yes, I would be very glad to comment. I may say that this. First, let me say exactly what my policy position is and has been. I have, in recent years, been in favor of a policy under which, for the U.S., the quantity of money would grow at a rate of somewhere around three to five percent per year, steadily, month in, month out, year in, year out. Now this policy needs to be defined in much greater precision, and I have in various of the writings in which I've presented it defined it in greater precision. It has to be defined first as to what money concept you're talking about, whether M1, M2, M3, M4, et cetera. And here, in general, I have based this recommendation on a money concept which is broader than M1, which includes time deposits in commercial banks, but which excludes CDs. This is the concept, that money total has been growing at something like eight to nine percent over the past year, so it's been growing much more rapidly than my long-term desired rate of growth. In the second place, one has to specify whether he's talking about seasonally adjusting money stocks, non-seasonally adjusting money stocks or not. This turns out to be an extremely important practical issue, because in fact, the seasonal movement in the money stock is not a natural phenomenon, but it is something which the Fed puts into it and something which has time and again confused Federal Reserve policy. And my own position has been in favor of a growth in seasonally unadjusted money supply at a steady rate of no attempt on the part of the Fed to compensate for seasonal movements in the total money supply, but to let that be taken up in seasonal movements and interest rates. Now I should qualify that in one respect. While not altering the rate of growth of the total money supply for seasonal purposes, it would be perfectly consistent for the Fed to adapt to whatever proportions of currency versus deposits is desired. For example, there is no doubt that during the end of the year period, during the Christmas shopping season, there is a tendency for currency to go up relative to deposits. And there is every reason why the Fed should accommodate that. That is, the public should be able to hold whatever its total money stock, in whatever proportions it desires as between currency on the one hand and deposits on the other. But beyond that, I have been in favor of no seasonal movement. Let me say one more thing. This is not the position I've always held. In fact, in a paper which I wrote in 1946, at the end of the war on a monetary framework for economic policy, for stability, I've forgotten the exact title, but it has some such title as that, A monetary framework for economic stability, I believe it's called. In that article, incidentally, an article in which I also introduced the concept of full employment, high employment surpluses and deficits about which so much is being heard of nowadays. In that article, I had a much more sophisticated policy, one which involved not a steady rate of growth in the quantity of money, but a rate of growth which would automatically rise and fall depending on government budget. That is, that policy involved a stabilizing budget policy. It involved having the government enact taxes and expenditure programs from a long-run point of view, which would mean that if there was a recession, you would tend to have a deficit. If there wasn't, boom, you would tend to have a surplus and then financing the defect by printing money or letting the surplus reduce the quantity of money. And this would have produced a cyclical movement in money supply. I have been led to shift away from that not because of the beliefs that it wouldn't be a reasonably satisfactory policy, but by the belief that it was much more sophisticated and complicated than was necessary. All of the economic and monetary research which I have done since that time has led me to believe that you don't need anything like so sensitive and sophisticated a policy to eliminate the major mistakes of monetary management and to give a pretty good basis for a stable society. Well, let me go back. My present policy, as I say, is and has been for some time now, this long run policy with a stable rate of growth. Now I emphasized that it was about three to five percent and that it was in M2 in a broader total, not what we're now doing because I wanna add one more point. The question is, given that you've been on a very different pattern of policy, given that you have been expanding the money supply at a much faster rate than that, what's the transition period by which you get to your long run desired basis? And here, I think I found it very much harder to be definite on that. If you are only a little bit away from your long run policy, I have always thought that it might be best simply to go to your long run policy and stick there. But by 1968, end of 1968, we had become very far indeed away from our long run policy. And therefore, it has seemed to me desirable since then to return, to get to the long run policy, not in one step but in a number of steps, to move gradually toward it rather than making a sudden jump. And that's why, in the past year or so, I have not, in fact, been advocating a rate of growth of M2 of the broader money supply of five percent, but I have been accepting as tolerable and as reasonably satisfactory the Fed's own goal of something like five percent in M1 which has been combined with something like eight or nine percent in M2. I think that is alright as an interim goal while we're tapering off this inflation, but I think that we must be prepared after a time to make another shift and at such a rate of growth of M1 of five percent. If indeed it is accompanied by a rate of growth of eight or nine percent in M2 for the various technical reasons that it involves, it would be likely over the longer period to be an inflationary policy and would not in fact give an objective of a low rate of inflation. One more point along these lines. One of the things I have always emphasized in my advocacy of a constant rate of growth is that the constancy of the rate is much more important than the level, that it would be better to have a constant rate of growth that was seven percent a year, let's say, and keep it there indefinitely than it would be to have a rate of growth which averaged five percent by virtue of sometimes being 10% and sometimes being zero percent because it is the fluctuations in the rate of growth that introduce fluctuations in the economy and prevent the economy, prevent a stable set of expectations from being established that can be maintained indefinitely. So, to repeat, my objective is a steady rate of growth, ultimately at a rate of something like five percent in M2, currency plus time deposits other than CDs, as an interim matter, perhaps five percent in M1, but with the idea of later shifting on down to M2. Now what's wrong with this policy? Well, Professor Samuelson made a very good case, gave the arguments on the other side very persuasively. And I agree with a great deal of what he said, and I wanna stress that agreement and then come out to where I disagree and why I come out at a different place than he does. His argument rested basically, I think, on three key points, with two of which I agree and one of which I don't. First, he argued that as people now look ahead for the next year or two, most predictions based on a constant rate of growth of about five percent in M1, most predictions imply a rather slow recovery, a rather slow expansion from here on out, with a relatively high level of unemployment during the next year, perhaps a level of unemployment during 1971, which might average somewhere in the neighborhood of five and a half to six percent and a rather slow tapering off of inflation. He cited a number of different estimates, those of the Federal Reserve Board of St. Louis and its monetary model and those of other models, all of which seem to suggest that over the next year or two, with an M1 of five percent, you would have a rather slow rate of expansion of the economy in real terms, a rather slow tapering off of the rate of price rise, relatively high unemployment. Now, I don't want to argue too much. Let me stop at that point first. On that point, he of course accurately describes what the models predict. I'm not prepared to say they're wrong. It may be that over the next year or two, we will have to, a monetary policy of a far presented rate of growth in M1 will mean a rather slow tapering off of inflation and a relatively high level of unemployment. But I have very much less than full confidence that that's the case. I have much more confidence in what it will mean for nominal GNP for income in dollars than I do for the breakdown of that income between prices and output. I do not believe anybody has a satisfactory model, a satisfactory analysis which shows how it will break down between those two. As I have emphasized over and over again, the Federal Reserve Bank of St. Louis model is excellent on the side of nominal GNP. It is very, very much more tentative in terms of the breakdown between prices and output of any increases in nominal GNP. It turns out if you look at the various estimates, they do not disagree so much in respect to what will happen to nominal GNP. Almost all of them come out with a five percent rate of growth in M1 over the next two years, will mean something like a seven or eight percent rate of growth in nominal GNP at an annual rate, much higher between fourth quarter 1970 and fourth quarter '71 because of the abnormally low level at which we're starting, but on the average over years of something like that. Now, the question is, is it safer to go faster than that? If you go faster than that, are you ever going to be able to get back to a period of relatively low inflation and low unemployment? I am very skeptical that you can. I think unfortunately that we cannot push things farther, faster than they are capable of being pushed. And that's a pretty good compromise, something like seven or eight percent of nominal GNP, it's a pretty good compromise between a policy of really slamming on the break enormously producing very large employment in order to smash inflationary expectations immediately, and a policy of going so slow that you never get anywhere in terms of killing the inflation. Now, if you have such a policy, if you had confidence in such a policy and expectations adapt, then I think it is possible that the actual results would be much more favorable than those that the model suggests and Mr. Samuelson expects or that I myself am willing to say, put at the center of the stage. If you had something like, for example, a seven or eight percent GNP growth in the next year, and if that were combined with a three percent rate of growth in prices, which seems to me not impossible, given that in the fourth quarter of this year, prices are rising at something like the rate of four percent per year, if that came down fast enough so over the next year it averaged three percent, then you would have about a five, room for about a five percent rate of increase in GNP, which would bring you, by the end of 1971, to a lower level of unemployment than you have now. And you would be continuing in that direction. I think that would be fast enough, but maybe I'm wrong. Maybe expectations are so stubborn that in fact prices will rise over the next year at something like four percent, in which case there will be no net reduction in unemployment over that period. So the point I wanna make is that while I do not disagree with the general tenet of those predictions, I think that we have to attach a much larger range of error to the likely outcome that is implied by Mr Samuelson's comment. Now let me turn to the second point. His second point is that it is highly desirable to do better than these predictions suggest, to have a lower level of unemployment, and to do that, even if that means a slower rate of reduction of inflation over the next several years, or even if I judge his tonal quality, that it's desirable to do better even if that means accepting the present rate of inflation as a long run period of inflation. Well, now there's no disagreement on this score. It is highly desirable to do better if we can, it's highly desirable if we could, if there were some magic way by which we could have zero unemployment tomorrow and also zero inflation obviously, everybody would be in agreement. But Mr. Samuelson's point, of course, is not that trivial a point. He recognizes that you cannot do that, and his point is not only that he would prefer but he thinks the people would prefer and he thinks the political environment will demand a more rapid physical recovery than that, and that it will demand that even at the expense of a higher rate of price rise, here I am very much more uncertain, not that it would be desirable but that that is really what the public at large will demand. I think that on the whole, the public attitude depends very much more on whether unemployment is rising or falling than on the level of unemployment. I go back to earlier periods and note that from the period from 1961 to '64, it took four years for unemployment to get down from seven percent down to something about four percent, and for three of those four years, when the general attitude was that the economic conditions were pretty good, unemployment was averaging somewhere in the neighborhood of five percent during all of that period. The important thing was that it was trending down. I think also that there is a great deal of pressure on the side of getting rid of the inflation that this is not something that takes as low a range as is sometimes supposed, as low a priority in people's attitude as sometimes suppose, that there is a great desire on the part of the public at large to get inflation going down, that if they are told the facts that there is no way of slowing inflation, if you try at the same time to engineer a boom that we don't have any magic formula of incomes policy or any other magic formula which would enable us simultaneously to engineer a very rapid boom without restimulating inflation. The important point on this subject is, it seems to me, and this is the third point that Mr. Samuelson makes, he essentially implies that we know how to manage the monetary policy and monetary stock to achieve the objective of a faster reduction of unemployment without a long range rekindling of inflation. And this is a point where I fundamentally disagree with him because on this point, I do not believe we know how to do that. Implicit in his argument is that over a long period, there is a trade-off between inflation and unemployment, that over the next 10 years, it is possible for us to have a lower average level of unemployment at the cost of a higher level of inflation. I do not myself believe that to be the case, and I think our past experience leads us, gives us little reason to expect that it is the case. What you can do is to rearrange the unemployment over time. You undoubtedly could have a lower rate of unemployment over the next year or so by increasing the money stock very rapidly, but if you did, you would stimulate the inflation sharply. In that case, there would arise a great public clamor to do something about the inflation. You would step on the brake again, and you would, once again, go through the kind of episode we've been going through. You would, as it were, be throwing away completely the price we have already paid, as we did, as the Kennedy and Johnson administrations threw away the price that was paid from 1958 to '61 in the form of high unemployment in order to get a stable price pattern. So I do not believe there is any long run trade-off between inflation and unemployment. Now more importantly, I do not believe that we know how to manage the monetary stock in such a sensitive way as to achieve just that delicate balance. There may exist a path, which would lead you if you could do it sensitively enough to a somewhat more rapid amelioration of unemployment without starting an inflation. There may exist a better path than the one we're going to find. The question is if we know how to achieve it. And here, and this is my main point and the main reason why I have been in favor of a constant rate of growth of money, is because the record of history as I look back over the record. Here in the past, I look at what the Fed has done. The Fed has followed exactly the policy that Mr. Samuelson recommends. It has followed a policy of sometimes increasing the money supply more rapidly, sometimes increasing it less rapidly, with the aim of offsetting what it regarded as other forces making for instability. What has been the result? Well, I have examined in detail the record of history over the now nearly 60 years that the Fed has been in operation, and I have also examined the record for other countries and other central banks. I do not know of any example of any bank which has successfully been able to carry out such a policy. Because of the fact that what the monetary authorities do now have their effect six or nine or 12 or 14 months from now, a sensitive discretionary policy requires an ability to forecast a future that does not exist. It requires a confidence in those forecasts that does not exist. It requires an ability to lean against the prevailing winds that does not exist, the prevailing political wind. Mr. William McChesney Martin, when he was chairman of the Fed, was fond of talking about the Fed's policy as leaning against the wind. That's a good image. But if the Fed's policy is going to be successful, it must lean against tomorrow's wind when you don't know which way that wind will be blowing. If you go back and reconstruct the history of the past and take it month by month and year by year and say, let us suppose, we hypothetically in our mind's eye conceive of the Fed as following a policy of a steady rate of monetary growth over that period, would that have been better or worse? And the answer is, it seems to me absolutely clear and would be assented to by Mr. Samuelson in the retrospect of historical examination, the following of a constant rate of monetary growth policy would have avoided every single major mistake of monetary policy. It would have prevented the Great Depression of the 1930s, it would have prevented the depression of the 1937, '38 period, it would more recently have prevented the acceleration of inflation from '64 to '68. And therefore, a policy of a constant rate of monetary growth is not a be all and end all, it is not a perfect policy. What I assert and what I am persuaded by the evidence of history is that it would avoid any major mistakes of monetary management, and on the record of history, there is no evidence that we know how to do better given the political forces at play on the central bank. In general, I have never argued that a constant rate of monetary growth is a be all and end all of all monetary policy. Maybe as our monetary research continues, we will be able to learn enough in greater detail about the interrelationships to construct a formula, a scheme, a guide, a more sensitive scheme or guide that will do still better. What I do say is that in the present state of our knowledge or I should say ignorance, the constant rate of monetary growth will avoid major mistakes, will provide a stable basis for a stable economy, is a policy that can be understood by the public at large, and is a policy that can be followed. Whether we will have the political courage, wisdom, and sense to maintain that policy over the next few years is, of course, a gamble. I am not prepared to set very high rates on it. The evidence of the past is that we do not have that courage. However, the willingness of the Nixon administration to maintain its policy in the face of so much criticism over the past year and a half, the maturity, judgment, and courage of Arthur Burns as chairman of the Federal Reserve Bank and his willingness to maintain a firm policy makes it at least a gambling proposition that we'll be able to stick to this policy, get rid of this inflation once and for all, and go on to a long run policy of stable, non-inflationary growth. 

- Thank you very much Professor Friedman. Remember subscribers, if you have any questions or comments for topics you would like to hear discussed in this series, please send them to Instructional Dynamics Incorporated, 166 East Superior Street, Chicago, Illinois, 60611. Dr. Friedman will be visiting with you again in two weeks.