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Article Excerpt
Introduction
Milton Friedman was born in July 31, 1912, in Brooklyn, NY, to Jewish immigrants, Jeno Saul Friedman and Sarah Ethel Landau, who immigrated to Brooklyn, in 1890, and 1895, respectively. Friedman's parents came from Barehovo, Ukraine, which was formerly part of Hungary and Czechoslovakia. When Milton Friedman was 13 months old his parents moved to Rahway, New Jersey. His education included violin lessons, but he decided he did not have a talent for music. Friedman attended Washington Public School, where he skipped the sixth grade and transferred to Columbus School in the seventh grade, both public schools in Rahway. Ironically, he was nicknamed "Shallow" at that time. Although he attended Hebrew school in the afternoon after public school and was "bar-mitzvahed," Friedman became an agnostic at an early age of twelve.
From 1924-1928, Friedman attended Rahway High School, where his favorite subjects were political science and geometry. Besides that, he participated in sports, won an oratory competition, and almost read out the local public library. He won a scholarship to attend Rutgers University in New Brunswick, NJ, then a private school.
He had "a small purse," so he held two part-time jobs--at a men's department store at $4 a day wage, waiting tables at a restaurant for the wage of a free lunch, and as a copy editor of the student newspaper, while at Rutgers. Friedman said that the opportunity cost of the restaurant job was the only "C" grade he received.
Friedman intended to major in mathematics at Rutgers. He took the actuarial exams, but since he failed some of them, he switched to economics. The economics department at Rutgers had two stalwart economists, Arthur F. Burns, who was writing his Ph.D. at Columbia, and Homer Jones who had been a student of Frank Knight, and completed graduate work at the University of Chicago. Friedman profusely praised them for their teaching, influence and friendship. Friedman mentioned a seminar that Burns gave, which he attended with only one other student. The project was to go over Burns's dissertation: "That seminar imparted standards of scholarship--attention to detail, concern with scrupulous accuracy, checking of sources, and above all, openness to criticism--that have affected the whole of my subsequent scientific work" (Friedman and Friedman 1998, 30). Friedman studied insurance and statistics with Homer Jones. It was Jones who introduced Friedman to the "Chicago view" of individual freedom and the right reform policy. Friedman wrote that "Had Homer not chosen to spend a couple of years teaching at Rutgers, I would almost certainly not have gone to Chicago." He also remarked that besides being at the bottom of the Great Depression, "... becoming an economist seemed more relevant to the burning issues of the day than becoming an applied mathematician or an actuary" (Ibid., 1998, 33-34).
Friedman entered the University of Chicago in 1932. At Chicago he met Rose Director in Jacob Viner's class on "Price and Distribution Theory." Viner's policy was to seat students alphabetically, which put Friedman and Rose Director next to each other. Eight years later, on June 25, 1938, they were married under full religious tradition in New York. At Chicago, Friedman studied History of Economic Thought with Frank Knight, Monetary Theory with Lloyd Mints, and Correlation and Curve Fitting with Henry Schultz. Friedman said: "I took courses enough to have the equivalent of a master's degree in mathematics--which stood me in very good stead in my later career" (Ibid., 1998, 39).
Friedman received his M.A. from the University of Chicago in 1933, and with the encouragement of Schultz, obtained a Fellowship to study with Harold Hotelling at Columbia during 1933-1934, in his second year of graduate work. At Columbia, he studied mathematical statistics with Hotelling, Business Cycles and History of Thought with Westley C. Mitchell, and Pure Theory and Institutions with John Maurice Clark. Friedman recommended that "the ideal combination for a budding economist was a year of study of Chicago, which emphasized theory, followed by a year of study at Columbia which emphasized institutional influences and empirical work--but only in that order, not the reverse" (Ibid., 1998, 480). Friedman returned to Chicago in 1935, as a research assistant to Schultz. He wrote: "I ended up satisfying the requirements for a Ph.D. other than the dissertation at both Chicago ... and Columbia" (Ibid., 1998, 51). His Ph.D. from Columbia in 1946 dealt with professional income distribution.
Having graduated, Milton Friedman went to work in Washington. He wrote: "... ironically, the New Deal was a lifesaver for us personally. The new government programs created a boom market for economists, especially in Washington. Absent the New Deal, it is far from clear that we could have gotten jobs as economists" (Ibid., 1998, 58). Friedman took a job with the National Resources Committee (NRC) for $2,600, annually, much more than his $1,600 assistant job with Schultz at Chicago. The NRC job was in the statistical area, involving sample design, surveys, and the preparation of final report on the cost of living index. After two years at the NRC, Friedman wrote "I had become an expert on consumption studies, and had acquired experience with practical statistics that supplemented my knowledge of mathematical statistics, something that stood me in good stead throughout my scientific career" (Ibid., 1998, 66). At NRC Friedman developed a statistics test on "the analysis of ranks" to compete with "the analysis of variance," which is known as "Friedman's test" (Friedman 1937, 1940).
In 1937, Friedman quit the NRC and moved to the NBER in New York, where he worked with the future Nobel Laureate, Simon Kuznets, on wealth and income distribution. His major task at the NBER was to work on income differentials among professionals. Friedman divided income into permanent, quasi-permanent, and transitory income, in order to study dynamic changes in income distribution over time, which led to his important contribution in economics, namely, the permanent income hypothesis.
Friedman's awards are too numerous to list. In 1951 Friedman won the John Bates Clark Medal honoring economists under age forty for outstanding achievement. In 1976 he won the Nobel Prize in economics for "his achievements in the field of consumption analysis, monetary history and theory, and for his demonstration of the complexity of stabilization policy." He was president of the American Economic Association in 1967 and economic adviser to Presidents Richard Nixon and Ronald Reagan. In 1977, Friedman retired from the University of Chicago and became senior research fellow at the Hoover Institution at Stanford University, where he continued his research program in monetary economics and political and economic freedom.
Friedman's Place in the History of Economic Thought
Friedman earned a prominent place in the history of economic thought. Between 1960-1975, his research ideas had a commanding influence in Macroeconomics. "Milton Friedman, who had returned to Chicago in 1946, was the primary architect of these policy views. Before that time he had written little on economic policy ... Friedman proceeded to establish three lines of work, which together constituted his fundamental contributions to the formation of the Chicago School. First, he revived the study of monetary economics ... He used the quantity theory of money, and refurbished and extended it ... Second, he presented strong defenses of laissez-faire policies ... finally, he developed and employed modern price theory" (Stigler 1988, 150-151). We use Stigler's insight as a springboard for our assessment.
Monetary Theory
The quantity theory of money is the basis of Friedman's contribution to monetary economics. Basically, the theory relates money and its velocity of circulation to prices and transactions. Friedman restated the classical quantity theory in terms of a demand for money function. His restatement explained five types of assets for holding wealth: "(i) money (M), interpreted as claims or commodity units that are generally accepted in payments of debts at a fixed nominal value; (ii) bonds (B), interpreted as claims to time streams of payments that are fixed in nominal units, (iii) equity (E), interpreted as claims to state pro-rata shares of the returns of enterprises; (iv) physical non-human goods (G); and (v) human capital (H)" (Friedman 1956, 3).
Analyzing the returns from the five assets yields a number of variables that affect the velocity of the circulation of money in the model Friedman (Ibid., 1956, 11) advanced with two pivotal equations:
M/Y = 1/v([r.sub.b], [r.sub.e], 1/P dP/dt, W, Y/P, u) (1)
Y = v([r.sub.b], [r.sub.e], 1/P dP/dt, W, Y/P, u)M (2)
where, Y, is income or returns to all forms of wealth, v is income velocity, P is price level, w is ratio of human to non-human capital, [r.sub.b] is rate of interest on bonds, [r.sub.e] is rate of interest on equity, u is taste and preference, and M is demand for money.
The question arises about the predictive ability of these equations. Equation 2 can be turned into a theory of output determination if the variables that affect velocity can be explained. Equation 1 can spotlight a theory of price by solving for price in terms of the other variables, particularly income determination. Friedman's restatement is now carried in textbooks in a simplified form as follows:
[M.sup.d]/p = f([y.sub.p], R -[R.sub.m], [[pi].sup.e] - [R.sub.m]) (2a)
The income variable [y.sub.p] is permanent income, which we explain more fully in the consumption function section. The other two terms explain that demand for money depends on the opportunity cost of holding money. The term R - [R.sub.m] measures deviation of financial return R, from the return on money, [R.sub.m], and the last term measures deviations of the returns of holding money from the expected inflation rate. A major difference between this specification form and the Keynesian demand function is that Keynes prefers to separate the transaction and speculative demand, while Friedman is concerned more with total asset demand. This broader approach introduces more interest rates into the demand function, rather than just a single interest...
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