There was Keynesian dogma, which justified increased government spending as a full employment policy. Phillips Curve dogma, which specified trade-offs between inflation and employment. And market failure dogma, which justified inefficient government interventions and regulations.
Friedman pointed out to the Keynesians that deficit spending would not increase total demand unless the central bank accommodated the deficit by increasing the money supply. Otherwise, the rise in the government's spending would be offset by the decline in spending by the bond purchasers. In making this point, Friedman arrived at the conclusion reached earlier by Michael Polanyi in Full Employment and Free Trade (1945). Polanyi had taken the point to its logical conclusion and wrote that it was nonsensical for government to incur interest charges by selling bonds when the point was to increase the money supply.
Friedman was skeptical of Phillips Curve trade-offs between employment and inflation. He addressed the issue as "more inflation, more unemployment." But it was supply-side economists who explained "stagflation" as the consequence of a wrong policy mix that pumped up demand with easy money while restraining real output with high marginal tax rates. The long economic expansions of the 1980s and 1990s were the results of the reversal of the Keynesian policy mix by supply-side economists in the Reagan administration.
Friedman won the Nobel Prize in 1976 for his permanent income hypothesis (1957), a necessary correction to the Keynesian consumption function. But his most important work was the Monetary History of the United States (1963), co-authored with Anna Schwartz, especially the section explaining the collapse of the money supply during the 1930s as the result of perverse monetary policy by the Federal Reserve. Economists had come to the conclusion that the Great Depression in the US was caused by insufficient aggregate demand to support full employment. However, economists had no convincing explanation for the cause of inadequate demand. Friedman and Schwartz showed that the Federal Reserve had reduced the supply of money by one-third and that this dramatic contraction was the cause of insufficient demand to maintain full employment.
The Great Depression and mistaken explanations of its cause gave us the New Deal and its assaults on the Constitution, in particular the New Deal assault on the principle that the law making power of Congress cannot be delegated to regulatory agencies in the executive branch. Since the time of the New Deal, "laws" passed by Congress are simply authorizations for executive branch agencies to legislate by writing the regulations that interpret and implement the acts passed by Congress.
It was the failure of the Federal Reserve's monetary policy in the 1930s that caused the Great Depression and the enormous growth of central government power. Despite Friedman's work, this story is still so little known that Lawrence Stratton and I addressed it anew in The Fed's Depression and the Birth of the New Deal (Policy Review, No. 108, 2001). Contrary to New Deal historians, the Great Depression was not a failure of the old order. It was the failure of the new order that had just begun.
Friedman was an insightful economist, and his theoretical gifts did not prevent him from being a real world economist who could address the public. Friedman regarded this task as one of his functions as an economist. In his book, Capitalism and Freedom, and in his television series, Free to Choose, Friedman reminded people, who had been taught to look to the government for protection from economic dislocation and exploitation, that historically government was the threat to social and political freedom. Friedman, thus, did what he could to correct the change in the American outlook toward government that resulted from the Fed's mistaken monetary policy in the 1930s.
Friedman never grew arrogant or inaccessible from his fame. He was a friend to younger scholars with inquiring minds and respected the efforts of others to arrive at the truth. Small of stature, he was a giant of intellect and character.
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Paul Craig Roberts [email him] was Assistant Secretary of the Treasury in the Reagan Administration. He is the author of Supply-Side Revolution : An Insider's Account of Policymaking in Washington; Alienation and the Soviet Economy and Meltdown: Inside the Soviet Economy, and is the co-author with Lawrence M. Stratton of The Tyranny of Good Intentions : How Prosecutors and Bureaucrats Are Trampling the Constitution in the Name of Justice. Click here for Peter Brimelow's Forbes Magazine interview with Roberts about the recent epidemic of prosecutorial misconduct.