Salient to Investors:

Caroline Baum writes:

Paul Krugman at Princeton says Milton Friedman has virtually vanished from the policy discourse and a few decades from now, historians will regard him as little more than an economic footnote. I believe Krugman,  not Friedman, will end up as the footnote.

Krugman’s claim that the post-2008 period demonstrates that monetary policy is ineffective when interest rates are close to zero and that fiscal policy saved the day is wrong, and the evidence suggests just the opposite.

The FRB of San Francisco said the results of federal fiscal policy more expansionary than since the Great Depression were lousy and the Fed is mostly to blame. Fiscal policy gets its bang from monetary policy, and monetary policy was still tight when the economy slipped into recession in December 2007. Government spending, without expansionary monetary policy, is just a transfer of resources from one party to the next.

The federal deficit started to shrink in mid-2010 and is falling fast now. This time, the Fed was proactive, offsetting the effect with asset purchases. Forecasts of dire consequences from automatic spending cuts have failed to materialize.

David Beckworth at Western Kentucky University said continued economic growth in the face of contractionary fiscal policy is one big piece of evidence that monetary policy is effective at the zero bound. Beckworth says unconventional monetary policy in the face of contractionary fiscal policy is the reason why the US is outperforming Europe

M2 never collapsed during or after the recent recession, as it did in the early years of the Great Depression. In Japan’s two lost decades the Bank of Japan never committed to a permanent increase of the monetary base. The BOJ is finally following Friedman’s advice and is committed to doubling the monetary base. Europe’s tepid recovery and fallback into recession shows that money matters.

Michael Bordo at the Center for Monetary and Financial History said Friedman was a pragmatist and said the US needed an authority to set the nominal anchor for the dollar and act as a lender of last resort.

Friedman believed a monetary standard provided a degree of certainty and that deposit insurance was key to preventing 1930s-style bank runs. Robert Hetzel at the FRB of Richmond said Friedman was basically a free-market guy for the non-financial sector and not a free-banking guy.

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