Renewed capitalism | 18 | The Origins of the Twenty First Century

ABSTRACT

Keynesian economics gave the world what the French have called les trente glorieuses, the thirty glorious years (1945-75) of the greatest economic growth in history. But the model had a problem: it was designed to avoid depressions, but not to control inﬂation. In the long run, inﬂation proved right those who criticized Keynesian economics. Inﬂation also forced a return to a classical economic model based on monetary restriction. Even in the triumphal years of Keynesian economics the model had its

detractors, such as Wilhelm Roepke in Germany, Jacques Rueﬀ in France and, above all, Milton Friedman in the United States. Friedman belonged to the famous Chicago school, characterized by its strict monetary conservatism. Although a professor in Chicago for many years, Friedman was not as conservative in monetary matters. In spite of the fact that he defended the classical school which Keynes had even ridiculed at one point, Friedman knew and understood Keynes’s work perfectly. His criticism was based on a full recognition of the contributions made by Keynes, while not going so far as to accept the more extreme points in Keynesianism. Although on occasion his sarcasm led him to make excessive claims, such as when he aﬃrmed (Friedman 1953) that the most important Keynes was John Neville Keynes, John Maynard’s father, for his work on methodology, Friedman incorporated into his theories, if in modiﬁed form, most of John Maynard Keynes’s contributions, such as the theory of the consumption function, the Keynesian version of the theory of prices, etc. This famous theory about the formation of prices is precisely what Friedman used to construct his criticism of Keynes and his defense of the classical theory. Simplifying matters considerably, we will say that Keynesians, much more

so than Keynes himself, had maintained that prices were determined not by the amount of money in circulation, but by real factors, in particular shortages and tensions, the monopolistic elements which could force prices to rise regardless of the performance of the money supply. Some might consider this a purely academic matter, but it is not. It has political implications, because if inﬂation were due to real rather than monetary causes, monetary policies

would be useless. What should be needed in these cases would be structural (profound) reforms and ﬁscal policies. Another consequence derived from the Keynesian analysis was that inﬂation is not bad, on the contrary: inﬂation is necessary in order to ﬁght depression and maintain economic growth. Concerning this matter the Keynesians had plenty of empirical evidence: the thirty glorious years seemed to prove Keynes right. The Manual de historia económica de España of J. Vicens Vives (1964), a remarkable book in many ways, repeatedly identiﬁed inﬂation with prosperity and deﬂation with depression as a result of the inﬂuence of works by Keynes and Earl Hamilton, an American economic historian who studied price rises in Spain and Europe after the discovery of the New World, and considered this inﬂation a prologue to the Industrial Revolution. Against the almost unanimous prevalence of Keynesian doctrines,

Friedman, from the end of World War II, defended the pertinence and eﬀectiveness of monetary policies, denying the more extreme aspects of the then pervasive Keynesianism. To do this he undertook a series of remarkable empirical studies of the consumption function and about American and British monetary history (Friedman 1957; Friedman and Schwartz 1971, 1982). These works made clear that monetary variables were much more stable than Keynesians had assumed. In the ﬁrst place, the public tended to spend an almost ﬁxed proportion of its income. The wealthy did not save proportionately more than the poor. This meant that redistributive ﬁscal policy was not as eﬀective a stimulus as had been claimed. In the second place, if macroeconomic variables were stable, price levels would be aﬀected by the amount of money in circulation and not by real factors. Inﬂation had to be controlled, therefore, via the amount of money, and this vindicated monetary policies. In the third place, Friedman himself and a series of his disciples developed a research and study program of the history of prices which tended to prove that inﬂation, far from stimulating development, would curtail it in the long run. In addition, during these years (the 1950s and 1960s) other independent works appeared which supported Friedman’s thesis, such as the well known article by Phillips (1958), which, according to Friedman’s interpretation (1977), showed how inﬂation turned out to be less and less eﬀective in ﬁghting unemployment. On the other hand, Friedman was a defender of the classical economic model in general, that is, of laissezfaire as the best means to promote growth and an equitable distribution of income. It must be stated in defense of Keynes that, as happens with most impor-

tant thinkers, his followers simpliﬁed and deformed his thought. He was considerably less inﬂationary than his supporters. He always maintained that budget surpluses had to be pursued in boom times to compensate for the deﬁcits in periods of depression so that the budget would be balanced over the length of the cycle. His academic and, above all, political adherents ignored this recommendation. Keynes was also a monetary quantitativist, although not exactly in Friedman’s terms. For Keynes, monetary policies at times of

depression were not enough. Money had to be injected by means of ﬁscal policies. In this, however, they did not diﬀer much. Friedman’s paradigm was practically complete at the end of the 1960s.

However, as often happens, events rather than reason convinced the politicians in charge that it would be convenient to adopt it. A few years later he received the Nobel Prize.