 Now, as a monetary economist, I don't pretend to judge Rothbard's other economic contributions. Rothbard was mediocre to bad. His version of the Austrian business cycle theory was naive. It depended on an equation that holds only with the help of about a dozen auxiliary assumptions, all of which are patently false. Milton will always seem to be me, the bigger man, as well as a better monetary economist. The foregoing statement was, I told you to be surprised, was written by the prominent free banker, George Selgen, in a blog post on July 28th, 2011, entitled, I think rather modestly, Me, Murray and Milton. Now, Murray Rothbard does not need to be defended from the slings and arrows of lesser critics in any area of economics, let alone monetary economics. And I here refer to Selgen as a lesser critic in the same sense that I would refer to myself as a lesser scholar when compared to Rothbard. Rothbard was first and foremost a monetary economist, and I would argue the leading monetary economist of the latter half of the 20th century. But it is an interesting and instructive exercise to compare the monetary economics of Murray Rothbard and Milton Friedman. I will do so by contrasting the analyses and predictions offered by Milton Friedman with those of the proponents of Rothbardian monetary theory with respect to the monetary policy that culminated in the housing bubble asset boom and financial meltdown of the last decade. I choose to proceed in this manner because Milton Friedman was an avowed positivist, the very first in economics, for whom the one and only test of the truth quotation marks of a theory is how well it predicts. Actually, Friedman explicitly rejected the idea that a theory can never be verified, that is, that its truth can be ascertained. According to Friedman, a theory is merely a conjecture based on observed empirical regularities in history, which is only tentatively valid until it is falsified by new evidence that contradicts its predictions. Once a theory fails an unspecified number of empirical tests, it is supposed to be revised or discarded completely. Friedman's theory of method of deriving economic theory is best exemplified in his great book A Monetary History of the United States, an 800 page tome that he authored with Anna Schwartz and has become one of the most influential works on monetary economics published in the latter in the second half of the 20th century. In this book, Friedman and Schwartz sought to establish the validity of a very mechanical and aggregative version, macro version of the quantity theory of money. Friedman Schwartz concluded their study from their study that, quote, inflation was always and everywhere a monetary phenomenon or more famously and concisely that money matters. It was this work and Friedman's stream of scholarly and popular articles defending its main thesis that eventually persuaded most monetary economists to abandon the naive Keynesian income expenditure framework and to adopt the quantity theory as an explanation of inflation and depression. By the late 1970s, Friedman's arguments had prevailed even among policymakers at the Fed and in government agencies. There is undoubtedly an important kernel of truth in the quantity theory, as Friedman states it, which is the positive causal relationship that runs from money to prices. In other words, a change in the supply of money and circulation will cause a change in prices in the same direction, all of the things equal. But there are also numerous flaws in Friedman's version of the theory. For my purposes, I'll only need to briefly mention one. Because Friedman treats the relationship between money and prices in a macro and mechanical manner, he focuses narrowly on the effect that a change in the total quantity of money in the economy has on a single variable called the price level. The price level is defined in terms of an arbitrary average of prices, of which there are many, the CPI, the CPI with energy and food, prices excluded, the GDP deflator, something called the PCEPI, which is the Personal Consumption Expenditure Price Index, and Alan Greenspan's favorite, the CTPIPCE, for chain type price index for personal consumption expenditures, and so on. Actually, the real problem is not that there are too many indexes, but that there are too few. In fact, everyone has his own personal index of inflation based on the kinds of goods he purchases and in what quantities and qualities. So any statistical index that presumes to identify the price level is completely arbitrary. Murray Rothbard always delighted in pointing out to me that his personal rate of inflation was grossly understated because he bought such an enormous number of books, an item that was not included in the official price indexes or had only minuscule weighting. Rothbard argued, all such indexes are strictly arbitrary and there are a huge number of possible indexes. All of which create insuperable economic distortions. Which one should be used? There is no non-arbitrary answer. Even if we confine ourselves to the consumer cost of living index, the obstacles are insurmountable. Whose cost of living do we measure? That of the classic date in Ohio, blue collar housewife, two kids, or that of a bachelor professor in California, Murray's aspiration. Every individual and group in the country experiences different costs of living indexes. And one overall index will fit none of the actual living individuals concerned. Unquote. Mises puts the matter more pointedly. He says, a judicious housewife knows much more about price changes as far as they affect her own household than the statistical averages can tell. She has little use for computations disregarding changes both in quality and the amount of goods which she is able or permitted to buy at the prices entering into the computation. If she measures the change for her personal appreciation, by taking the prices of only two or three commodities as a yardstick, she is no less scientific and no more arbitrary than the sophisticated mathematicians in choosing their methods for the manipulation of the data of the market. But really there's a much more important problem with the Friedmanite quantity theory, which is embodied in the use of a single valued price index. And that is the assumption that the main effect of an increase in the supply of money is to cause prices to rise at the same time and in equal proportion. This yields a definition of inflation that refers exclusively to the general movement of prices and completely ignores other more important effects of changes in the money supply that include artificially depressed interest rates, distorted structural production and relative prices, and the falsification of profit and wealth calculations, which we are seeing being unwound today. All of this leads to asset price booms and bubbles, which are left out in the monetarist telling of the story. This one-dimensional and unrealistic view of inflation has led quantity theorists from Irving Fisher to Friedman to advocate a monetary policy that stabilizes prices as a necessary and sufficient condition for preventing an inflationary boom and its inevitable collapse into a depression. Yet prices were stable during the 1920s, leading up the stock market crash and the onset of the Great Depression. And it was Irving Fisher, the leading proponent of the mechanical macro-quantity theory, and according to Friedman, the greatest American economist to ever have lived, who assured Americans in 1928 that they had entered an era of perpetual prosperity, his words, because the Fed had learned how to stabilize the price level. Now, the Austrian economists, such as Mises and Hayek, strongly dissented from this view at the time. And they warned that any attempt by the central bank to stabilize prices by spending the quantity of money that would artificially depress interest rates and stimulate an inflationary boom that was concealed in the 1920s by stable prices. But nonetheless, there would be a resulting depression. So Hayek commented very bitterly a few years later on this tragic course of events in 1932. He wrote, we must not forget that for the last six or eight years, monetary policy all over the world has followed the advice of the stabilizers. It is high time that their influence, which already has done harm enough, should be overthrown. And I would say the same thing about the price stabilizers since the mid-1980s. OK, so now let me turn to Friedman's predictions and interpretations of events after 1985. So as a leading advocate of Fisher's quantity theory after World War II, whereas the leading advocate, Friedman also adopted Fisher's views on the importance of a stable price level to a well-functioning economy. To achieve this aim, he advocated that the Fed increase the money supply at a rate sufficient to offset the price-reducing effects of increases in the demand to hold money and of increases in real output. He held this view until his death in 2006, as we'll see. In fact, he reiterated this view in a number of remarkable articles that he wrote between 2002 and 2006, where he effusively praised the Fed and especially Allen Greenspan for finally learning how to maintain price stability. He argued that Fed monetary policy was significant in promoting unprecedented prosperity and growth in the US economy beginning in the mid-1980s. In these articles, he was totally oblivious to the formation of the greatest bubble in US history. His bad monetary theory led to a bad interpretation of the development of economic events in the 20 years leading up to the financial meltdown. So let me go through the articles and give you a taste of what he was saying. In a Wall Street Journal article in 2002, Friedman argued that the Fed on the Greenspan was acting correctly to avoid a repeat of the Great Depression after the recession of 2001 by rapidly expanding the money supply to prevent price deflation. Now, he wrote, what the future brings will depend, of course, on how monetary policy evolves while the current rate of monetary growth of more than 10% is sustainable and perhaps even desirable as a defense against economic contraction and in reaction to the events of September 11th. Continuation of anything like that rate of monetary growth will ensure that inflation rears its ugly head once again. In other words, Friedman was endorsing a policy of quantitative easing as early as 2002, so you get the economy back on track by flooding it with money and then you pull back. In August 2003, in another Wall Street Journal article, Friedman blithely ignored the housing market bubble and the rapid run-up in stock prices that was becoming apparent even to many media commentators. Instead, he addressed the question of why the macroeconomic performance of the US economy had become so good after 1985. He maintained that the reason was that the Fed and other central banks had found the correct thermostat, which was the equation defining the quantity theory. So, according to Friedman, quote, the basic responsibility of the Federal Reserve is to produce as close an approximation as possible to price stability. Sometime around 1985, the Fed appears to have acquired the thermostat that had been seeking the whole of its life. And then he goes on to say that a convenient way to talk about monetary theory and policy is to use the equation of the quantity theory, M times V, money times the velocity of spending money, equals P, the price index, times Y, which is the output. He thought that this, in fact, was the correct thermostat. And he talks about how anytime people want to hold more money, the Fed should expand the money supply, that is, if velocity slows down, and they should also expand the money supply when there is an increase in the amount of goods and services being sold in the economy. So going back to quoting him, he says, prior to the 1980s, the Fed got into trouble because it generated wide fluctuations in monetary growth per unit of output. Too much money chasing too few goods. Far from promoting price stability, it was itself a major source of instability. Yet, since the 1980s, it has managed to control the money supply in such a way as to offset changes, not only in output, but in velocity. And then he asked the Alibis question, which he says, where did this new thermostat come from, and why did it occur then? He goes on to say that central banks to world over perform badly prior to the 1980s, not because they lack the capacity to do better, but because they pursued the wrong goals according to a wrong theory. He's here referring to the Keynesian theory. So he goes on to explain, the accumulation of empirical evidence on monetary phenomena improved understanding of monetary theory, and many other phenomena doubtless played a role. But I believe they were nowhere near as important as a shift in the theoretical paradigm. The MV equals PY is the key to a good thermostat and was there all along, okay? All right, so no word at all about the bubbles that we were experiencing. Okay, he didn't see any clouds on the horizon in 2003. That was August. What about 2004? In 2004, in his contribution to a retrospective on the publication 40 years earlier of his great book, Monetary History of the US, Friedman's assessment of the Fed and other banks' performance, other central banks' performance was absolutely glowing. He still saw no ominous clouds on the horizon, only an onward and upward movement toward greater macroeconomic stability as central bankers continued to learn and implement the policies of price stabilization taught by his book and his numerous followers. Friedman reported, since the 1980s, central banks around the world have reacted to the mounting evidence of monetary research by accepting the view that their basic responsibility is to produce price stability. More important, they have succeeded to a remarkable extent as they have discovered that, far from there being a trade-off between price stability and economic stability, they are mutually supportive. The variability of prices is less by an order of magnitude since the mid-1980s than it was before, not only in the United States, but elsewhere in the names of many other countries. So he says, their success in controlling inflation has altered the empirical relationship between short-run movements in money and enominal income. Short-term changes in the quantity of money can no longer be regarded as largely exogenous. In other words, the Fed now is simply responding to changes in velocity. That is, if the spending of money slows down, the Fed has a method of responding automatically to that, and also to changes in output. As output grows, you want more money to support that growth. So he concludes, if the central banks continue to be successful in curbing price fluctuations, they will have converted the quantity of money from an unruly master to an obedient servant. Again, no problems at all in 2004. He didn't see any, didn't predict any. Now for 2005, and I recommend this televised interview with Friedman very highly. On December 26th, 2005, Friedman sat for a remarkable televised interview with Charlie Rose, which covered a broad range of topics, including the performance of the Fed under Alan Greenspan. He gave no indication, even at this late date, that he had a clue that monetary policy had stimulated a dangerous housing bubble, or that a bubble even existed. In fact, he again effusively praised Alan Greenspan and gave his approval to the Fed's recent monetary policy. The interview is worth pointing at length because it demonstrates how a very bad monetary theory gives rise to wildly false interpretations of the economy's performance. Note how Friedman is almost monomaniacal and his sole focus on price stability in this interview, and how this drives his appraisal of the state of the US economy. So let me read part of the Charlie Rose interview. Friedman, the United States is at the peak of its performance in its history, it's 2005 now. There has never been a time in the United States when we have had the state of prosperity, its level and its spread, that we have had in the last 10 or 15 years. There has never been a 15 year period in which there has been so little fluctuation in prices, in inflation. Prices meaning this price index, this arbitrary price index. Inflation has a state around two or 3% or less for the last 15 years. And I would ask, according to which price index, Milton, it's unprecedented. I certainly do give credit to Alan Greenspan for that. I think monetary policy is primarily responsible for it. Charlie Rose, you think that Alan Greenspan was the greatest Federal Reserve Chairman ever? Ever? Friedman, there has been no chairman since the founding of the Fed who has anything like as good an outcome. Because he took the containing of inflation as a chief task of the Fed. Let me put it this way. In the first 75 years of its existence, the Fed on average was a major negative feature in the economy. We never would have had the Great Depression if there hadn't been a Fed. Well, I agree with that, but for different reasons. Since then, since 1982 or 1983, the Fed has been a beneficiary for, he means to say, has been beneficial for the economy. So that I had never, I very seldom had anything good to say about the Fed before the 1980s. But since Alan Greenspan took over, I have very little but good to say. I think his successor is a very able man, meaning Bernanke, and he like Greenspan takes keeping stable prices as a major function of the Fed. And I have a good deal of confidence that he will continue in Alan Greenspan's path. And so now for the kicker, he says, you can make a good argument that the Fed overdid easing money a little, that they kept the Fed funds rate at 1% a little too long. But of course, he brushes this aside. And you know, that it's a natural tendency that you overdo things, he says. You almost never go right along, and he make those like this with his hand, on a stable path. You go up and then you go too far. It's very hard to calibrate. That was Greenspan's genius, his words unquote. Okay. On November 17th, Milton Friedman passed away on November 16th. On November 17th, one day after his death, 2006, an article by Milton Friedman was posthumously published in the Wall Street Journal. Its title was Why Money Matters. In the article, Friedman compared three episodes of monetary policy, which he called, in positivist jargon, a major natural experiment. These episodes were the booms of the 1920s and 1990s in the United States, in the US. So he hasn't seen any boom yet in 2000, has never mentioned in any of these articles, since 2001. And of the 1980s in Japan. So we have the 20s and 90s in the US and the 80s in Japan. He does a very good job of showing that all three booms occurred during periods of rapid economic growth, sparked by technological change, and were accompanied by a stock market boom that terminated in a crash. Monetary policy, according to Friedman, was also very similar during all three booms. And I would agree with him up to that point. But monetary policy diverged widely among the three economies after the boom. The monetary supply contracted sharply after the 1920s boom collapsed in the US. After the Japanese boom of the 1980s ended, the money supply stagnated, it was pretty flat, and then began to grow very slowly. After the collapse of the 1990s, tech bubble in the US, high tech bubble in the US, the money supply continued to grow rapidly, 10% more, as he has admitted in an earlier article, or pointed out in an earlier article. The conclusion that Friedman drew from this natural experiment was that the highly, that the highly expansionary monetary policy that the Fed pursued after the 1990s boom in the US caused a recession of 2000 and 2001 to be very mild and allowed the US economy to avoid a 1930s style, great depression, or a 1990s Japanese style, great recession. Now, there is an interesting point to be made about this article. Friedman did not give the slightest recognition to the fact that the rapid growth in the money supply, which had continued through 2005, from 2001 through end of 2005, the money supply increased at about $1 billion per day. Okay, and it had doubled, increased by $2 trillion, okay. But Friedman doesn't refer to that at all. And so he doesn't refer at all to the housing stock market bubbles that were clearly evident and peaking by 2006, when he had written this article presumably. In fact, Friedman argued, from this article I'm quoting, monetary policy played a role in these earlier three booms, but only a supporting role, his words. Technological change appeared to be a major player, unquote. Now, of course he couldn't, of course he could not admit that monetary policy caused these booms because what occurred in those three decades? Prices didn't rise during the 20s in the US, that is, consumer prices, rose, didn't rise very rapidly in the 80s in Japan, and they rose pretty slowly in the 90s in the US. So this contention perfectly exemplifies the mindset of price stabilizers like Friedman and Fisher. Since there was very little change in some randomly selected price index, or set of price indexes, in the 1920s, 1980s, and 1990s, well then monetary policy could not have been the cause of the boom. And the same thing was true, of course, from 2001 to 2006, when Friedman was writing these articles. So he didn't see any boom. Let me just say a few words about the Rothbardians who foresaw the bubble beginning in 2003. I don't want to, I don't have much time, but I'll just mention that there's a very good article and Mark Thornton that points out that people like Peter Schiff, Christopher Meyer, Frank Schostek, and Mark Thornton himself had a number of articles, clearly foresaw the housing bubble, okay? And pointed out the reasons for it, the fact that an increase in the money supply has not just increased prices, but more importantly, distorts interest rates, distorts the structural production, and causes entrepreneurs to miscalculate. I myself wrote an article in 2004, and I'll read a little part of that, in which I predicted, I hadn't realized this, Mark never cited me, but I went back and I looked and I actually did write something. I was commenting on Greenspan's monetary policy report to Congress in mid-2003, and there's a very slow recovery occurring from the 2000-2001 recession. And I wrote the following, if we look more closely at Greenspan's testimony, we find that in his cynical attempt to manipulate markets, he has profoundly contradicted himself. While he was pointing to the remote probability of deflation with one hand, he was encouraging the housing bubble with the other, okay, and that's 2004, I'm writing this. Thus he noted a solid advance in the value of owner-occupied housing, I'm quoting Greenspan here, noting changes in technology and mortgage markets that have dramatically transformed accumulated home equity from a very illiquid asset into one that is now an integral part of households' ongoing balance sheet management and spending decisions. Now, from that Greenspan speak, what he was saying in plain English, I'm getting back to what I'm writing about him, this statement means that the ready availability of cheap mortgages via internet shopping has fueled consumption spending as people cash out some of the gains realized in the ever-expanding housing bubble. And I regard myself as a hardcore Rothbardian and following along in his path. I don't think I was doing anything original here. Others also, as I pointed out, made the same points. And then I continued, by the end of 2003, the September 2003, the yield on 10-year treasury bonds and the rate on conventional mortgages had risen by nearly one percentage point, indicating spreading anticipation of future inflation as the Fed continued to expand the money supply rapidly to get the economy back on track. So I see this, why doesn't Freedman see this? Indeed, one perceptive journalist in Campbell pinpointed the real and present danger to the economy, unrestrained monetary creation, blah, blah. And then I provingly quote Campbell, and I'll stop here, he says this. He says, the danger to our minds is that Greenspan's solid advance is not solid at all. It is all based on flooding markets with liquidity, forcing down mortgage rates to indecently low levels, cutting rates on savings deposits, encouraging the creation of more and more debt, and encouraging spending based on extracting equity from an asset whose price is inflating recklessly and which subsequently, like the equity markets, is likely to fall. So I conclude that based on this comparison of the Freedman-Knight and Rothbardian interpretations and predictions of the sequence of events that culminated in the financial meltdown in 2007, as a monetary economist, Mill Freedman is manifestly much inferior to Murray Rothbard. Thank you.