Milton Friedman commented on Powell’s Fed in 1978

Watching today’s press conference with Fed chief Jerome Powell reminded me of something Milton Friedman said in 1978:

“Nearly a dozen years ago, I warned of an inflationary recession (Newsweek, Oct. 17, 1966). We have since then had three inflationary recessions and a fourth is almost surely on the way. During the first, the brief mini-recession of 1967, consumer prices rose 2.4 per cent per year; during the longer and more severe recession from December 1969 to November 1970, prices rose 5.3 per cent per year; during the still longer and even more severe recession from November 1973 to March 1975, prices rose 10.8 per cent per year; during the coming recession, prices are likely to rise at least 7 per cent per year.

Each scenario has been the same: rapid growth in the quantity of money followed by economic expansion and then, much later, by rising inflation; a public outcry against inflation, leading the authorities to reduce monetary growth sharply; some months later, an inflationary recession; a public outcry against unemployment, leading authorities to increase monetary growth sharply; some months later, the beginning of expansion, along with a decline in inflation. Back to the starting point.”

Friedman also had the answer:

“What is the right policy now? That is easy to say, hard to do. We need a long-term program dedicated to eliminating inflation. The Fed should announce that it proposes to increase M2 at the annual rate of, say, 8 per cent during 1978, 7 per cent during 1979, 6 per cent during 1980, 5 per cent during 1981; and 4 per cent during 1982 and all subsequent years. To relieve the fiscal pressures on the Fed, such a monetary policy should be accompanied by a budget policy of reducing Federal spending as a fraction of national income—also gradually but steadily.

Such a monetary and fiscal program would eliminate inflation by 1983—for good. Such a gradual program would avoid economic disruption

Today I would formulate it slightly differently as:

“The Fed should announce that it over the coming 2 years gradually will reduce the growth rate on nominal spending to an annual rate of 4% and keep it growing at that rate – year-in-and-year-out thereafter.”

And yes, US fiscal policy makers obviously should support such policy by balancing the US government budget by immediately bringing growth of nominal (non-cyclical) government spending down well-below 4%.

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  1. talldave2

     /  July 27, 2022

    great post, I do think Fed is looking quite hard at NGDP right now… and I suspect Milton would too

    ironically Fed probably should be inflating at around 5-6% at the moment, which would be historically high but would of course mean NGDP was growing at 4%

    otoh we’re quite fortunate we didn’t badly undershoot instead since that would have involved even more pain than 9% inflation and probably spiralled into even larger falls in RGDP with major business/labor dislocations

    unfortunately the fiscal/regulatory authorities keep sending us unprecedented supply shocks in the form of sanctions, misguided environmental policies, and of course everyone’s favorite illegally NIH-funded escaped PLA gain-of-function bioweapon, so Q2 recession was inevitable

    we still don’t know exactly what effect the continuing QT money-shredder ramp-up will actually have at the planned $100B/mo peak dollar destruction (bit of a natural experiment), but I suppose now the question is how much expectations matter (i.e. how much fed action is priced by markets into inflation already) vs the impact of the trades’ actual manifestation in markets, and to what extent Fed wants to play catch-down by overshooting a nominal 4-5% target the other way to average out

  2. marcus nunes

     /  July 28, 2022

    Constant money growth is only viable if velocity is (forever) stable. In 1971, MF in his a Monetary Theory of Nominal Income (JPE, 1971) recognized that “velocity can be whatever people wanted”. Ergo, to keep nominal income on a stable level path, money growth has to appropriately offset changes in velocity. Therefore, given the abrupt and acute fall in velocity in early 2020 (pandemic related), the record high increase in money growth was the appropriate action.


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