Second Thoughts on Friedman

After blowing off some steam about Milton Friedman in my previous post, thereby antagonizing a sizable segment of my readership, and after realizing that I had been guilty of a couple of memory lapses in citing sources that I was relying on, I thought that I should go back and consult some of the relevant primary sources. So I looked up Friedman’s 1966 article “Interest Rates and the Demand for Money” published in the Journal of Law and Economics in which he denied that he had ever asserted that the demand for money did not depend on the rate of interest and that the empirical magnitude of the elasticity of money demand with respect to the interest rate was not important unless it approached the very high elasticity associated with the Keynesian liquidity trap. I also took a look at Friedman’s reply to Don Patinkin essay “Friedman on the Quantity Theory and Keynesian Economics” in Milton Friedman’s Monetary Framework: A Debate with his Critics.

Perhaps on another occasion, I will offer some comments on Friedman and the interest elasticity of the demand for money, but, for now, I will focus on Friedman’s reply to Patinkin, which is most relevant to my previous post. Patinkin’s essay, entitled, “Friedman on the Quantity Theory and Keynesian Economics,” charged that Friedman had repackaged the Keynesian theory as a quantity theory and tried to sell it with a Chicago oral tradition label stuck on the package. That’s an overstatement of a far more sophisticated argument than my one sentence summary can do justice to, but it captures the polemical gist of Patinkin’s argument, an argument that he had made previously in a paper, “The Chicago Tradition, the Quantity Theory, and Friedman” published in the Journal of Money, Credit and Banking which Harry Johnson relied on in his 1970 Richard T. Ely lecture, “The Keynesian Revolution and the Monetarist Counterrevolution.” Friedman took personal offense at what he regarded as attacks on his scholarly integrity in those papers, and his irritation (to put it mildly) with Patinkin is plainly in evidence in his reply to Patinkin. Much, but not all, of my criticism of Friedman stems from my memory of the two papers by Patinkin and Johnson.

Now to give Friedman his due – and to reiterate what I have already said a number of times, Friedman was a great economist and you can learn a lot by reading his arguments carefully because he was a very skillful applied theorist — he makes a number of effective responses to Patinkin’s accusation that he was merely peddling a disguised version of Keynesianism under the banners of the quantity theory and the Chicago oral tradition. These are basically the same arguments that Scott Sumner used in the post that he wrote defending Friedman against my recycling of the Patinkin/Johnson criticism.

First, like earlier quantity theorists, and unlike Keynes in the General Theory, Friedman assumed that the price level is determined (not, as in the GT, somehow fixed exogenously) by the demand for money and the supply (effectively under the complete discretionary control of the monetary authority) of money.

Second, because differences between the demand for money and the supply of money (in nominal terms) are equilibrated primarily by changes in the price level (not, as in the GT, by changes in the rate of interest), the link between monetary policy and the economy that Friedman focused on was the price level not the rate of interest.

Third, Friedman did not deny that the demand for money was affected by the rate of interest, but he maintained that monetary policy would become ineffective only under conditions of a liquidity trap, which was therefore, in Friedman’s view, the chief theoretical innovation of the General Theory, but one which, on empirical grounds, Friedman flatly rejected.

So if I were to restate Patinkin’s objection in somewhat different terms, I would say that Friedman, in 1956 and in later expositions, described the quantity theory as a theory of the demand for money, which as a historical matter is a travesty, because the quantity theory was around for centuries before the concept of a demand for money was even articulated, but the theory of the demand for money that Friedman described was, in fact, very much influenced by the Keynesian theory of liquidity preference, an influence not mentioned by Friedman in 1956 but acknowledged in later expositions. Friedman explained away this failure by saying that Keynes was merely adding to a theory of the demand for money that had been evolving at Cambridge since Marshall’s day, and that the novel element in the General Theory, absolute liquidity preference, was empirically unsupported. That characterization of Keynes’s theory of liquidity preference strikes me as being ungenerous, but both Friedman and Patinkin neglected to point out that Keynes erroneously thought that his theory of liquidity preference was actually a complete theory of the rate of interest that displaced the real theory of interest.

So, my take on the dispute between Friedman and Patinkin is that Patinkin was right that Friedman did not sufficiently acknowledge the extent to which he was indebted to Keynes for the theory of the demand for money that he erroneously identified with the quantity theory of money. On the other hand, because Friedman explicitly allowed for the price level to be determined within his model, he avoided the Keynesian liquidity-preference relationship between the quantity of money and the rate of interest, allowing the real rate of interest to be determined by real factors not liquidity preference. In some sense, Friedman may have exaggerated the conceptual differences between himself and the Keynesians, but, by making a strategic assumption that the price level responds to changes in the quantity of money, Friedman minimized the effect of changes in the quantity of money on interest rates, except via changes in price level expectations.

But, having granted Friedman partial exoneration of the charge that he was a crypto-Keynesian, I want to explore a bit more carefully Friedman’s remarkable defense against the accusation by Patinkin and Johnson that he invented a non-existent Chicago oral tradition under whose name he could present his quasi-Keynesian theory of the demand for money. Friedman began his response to Patinkin with the following expression of outrage.

Patinkin . . . and Johnson criticize me for linking my work to a “Chicago tradition” rather than recognizing that, as they see it, my work is Keynesian. In the course of their criticism, they give a highly misleading impression of the Chicago tradition. . . .

Whether I conveyed the flavor of that tradition or not, there was such a tradition; it was significantly different from the quantity theory tradition that prevailed at other institutions of learning, notably the London School of Economics; that Chicago tradition had a great deal to do with the differential impact of Keynes’s General Theory on economists at Chicago and elsewhere; and it was responsible for the maintenance of interest in the quantity theory at Chicago. (Friedman’s Monetary Framework p. 158 )

Note the reference to the London School of Economics, as if LSE in the 1930s was in any way notable for its quantity theory tradition. There were to be sure monetary theorists of some distinction working at the LSE in the 1930s, but their relationship to the quantity theory was, at best, remote.

Friedman elaborates on this tidbit a few pages later, recalling that in the late 1940s or early 1950s he once debated Abba Lerner at a seminar at the University of Chicago. Despite agreeing with each other about many issues, Friedman recalled that they were in sharp disagreement about the Keynesian Revolution, Lerner being an avid Keynesian, and Friedman being opposed. The reason for their very different reaction to the Keynesian Revolution, Friedman conjectured, was that Lerner had been trained at the London School of Economics “where the dominant view was that the depression was an inevitable result of the prior boom, that it was deepened by the attempts ot prevent prices and wages from falling and firms from going bankrupt, that the monetary authorities had brought on the depression by inflationary policies before the crash and had prolonged it by ‘easy money’ policies thereafter; that the only sound policy was to let the depression run its course, bring down money costs, and eliminate the weak and unsound firms.” For someone trained in such a view, Friedman suggested, the Keynesian program would seem very attractive. Friedman continued:

It was the London School (really Austrian) view that I referred to in my “Restatement” when I spoke of “the atrophied and rigid caricature [of the quantity theory] that is so frequently described by the proponents of the new income-expenditure approach – and with some justice, to judge by much of the literature on policy that was spawned by the quantity theorists.”

The intellectual climate at Chicago had been wholly different. My teachers regarded the depression as largely the product of misguided government policy – or at least greatly intensified by such policies. They blamed the monetary and fiscal authorities for permitting banks to fail and the quantity of deposits to decline. Far from preaching the need to let deflation and bankruptcy run their course, they issued repeated pronouncements calling for governmental action to stem the deflation. . . .

It was this view the the quantity theory that I referred to in my “Restatement” as “a more subtle and relevant version, one in which the quantity theory was connected and integrated with general price theory and became a flexible and sensitive tool for interpreting movements in aggregate economic activity and for developing relevant policy prescriptions.” (pp. 162-63)

After quoting at length from a talk Jacob Viner gave in 1933 calling for monetary expansion, Friedman winds up with this gem.

What, in the field of interpretation and policy, did Keynes have to offer those of us who learned their economics at a Chicago filled with these views? Can anyone who knows my work read Viner’s comments and not see the direct links between them and Anna Schwartz’s and my Monetary History or between them and the empirical Studies in the Quantity Theory of Money? Indeed, as I have read Viner’s talk for purposes of this paper, I have myself been amazed to discover how precisely it foreshadows the main thesis of our Monetary History for the depression period, and have been embarrassed that we made no reference to it in our account. Can you find any similar link between [Lionel] Robbins’s [of LSE] comments [in his book The Great Depression] and our work? (p. 167)

So what is the evidence that Friedman provides to counter the scandalous accusation by Patinkin and Johnson that Friedman invented a Chicago oral tradition of the quantity theory? (And don’t forget: the quantity theory is a theory of the demand for money) Well, it’s that, at the London School of Economics, there were a bunch of guys who had crazy views about just allowing the Great Depression to run its course, and those guys were quantity theorists, which is why Keynes had to start a revolution to get rid of them all, but at Chicago, they didn’t allow any of those guys to spout their crazy ideas in the first place, so we didn’t need any damn Keynesian revolution.

Good grief! Is there a single word that makes sense? To begin with those detestable guys at LSE were Austrians, as Friedman acknowledges. What he didn’t say, or didn’t know, is that Austrians, either by self-description or by any reasonable definition of the term, are not quantity theorists. So the idea that there was anything special about the Chicago quantity theory as opposed to any other species of the quantity theory is total humbug.

But hold on, it only gets worse. Friedman holds up Jacob Viner as an exemplar of the Chicago quantity theory oral tradition. Jacob Viner was a superb economist, a magnificent scholar, and a legendary teacher for whom I have the utmost admiration, and I am sure that Friedman learned a lot from him at Chicago, But isn’t it strange that Friedman writes: “as I have read Viner’s talk for purposes of this paper, I have myself been amazed to discover how precisely it foreshadows the main thesis of our Monetary History for the depression period, and have been embarrassed that we made no reference to it in our account.” OMG! This is the oral tradition that exerted such a powerful influence on Friedman and his fellow students? Viner explains how to get out of the depression in 1933, and in 1971 Friedman is “amazed to discover” how precisely Viner’s talk foreshadowed the main thesis of his explanation of the Great Depression? That sounds more like a subliminal tradition than an oral tradition.

Responding to Patinkin’s charge that his theory of the demand for money – remember the quantity theory, according to Friedman is a theory of the demand for money — is largely derived from Keynes, Friedman plays a word game.

Is everything in the General Theory Keynesian? Obviously yes, in the trivial sense that the words were set down on paper by John Maynard Keynes. Obviously no, in the more important sense that the term Keynesian has come to refer to a theory of short-term economic change – or a way of analyzing such change – presented in the General Theory and distinctively different from the theory that preceded it. To take a noncontroversial example: in his chapter 20 on “The Employment Function” and elsewhere, Keynes uses the law of diminishing returns to conclude that an increase of employment requires a decline in real-wage rates. Clearly that does not make the “law of diminishing returns” Keynesian or justify describing the “analytical framework” of someone who embodies the law of diminishing returns in his theoretical structure as Keynesian.

In just the same sense, I maintain that Keynes’s discussion of the demand curve for money in the General Theory is for the most part a continuation of earlier quantity theory approaches, improved and refined but not basically modified. As evidence, I shall cite Keynes’s own writings in the Tract on Monetary Reform – long before he became a Keynesian in the present sense. (p. 168)

There are two problems with this line of defense. First, the analogy to the law of diminishing returns would have been appropriate only if Keynes had played a major role in the discovery of the law of diminishing returns just as, on Friedman’s own admission, he played a major role in discovering the theory of liquidity preference. Second, it is, to say the least, debatable to what extent “Keynes’s discussion of the demand curve for money was merely a continuation of earlier quantity theory approaches, improved and refined but not basically modified.” But there is no basis at all for the suggestion that a Chicago oral tradition was the least bit implicated in those earlier quantity theory approaches. So Friedman’s invocation of a Chicago oral tradition was completely fanciful.

This post has gone on too long already. I have more to say about Friedman’s discussion of the relationship between money, price levels, and interest rates. But that will have to wait till next time.


82 Responses to “Second Thoughts on Friedman”

  1. 1 Blue Aurora August 5, 2013 at 9:59 pm

    I apologise for making might be an off-topic comment, but the passage by Milton Friedman that you cited reminded me of what he once apparently said to a Time Magazine reporter, which was then edited (to his disapproval, and he wrote a letter to the newsmagazine telling them what he said):

    In one sense, we are all Keynesians now; in another, nobody is any longer a Keynesian.

    The use of the word “Keynesian” has appeared in both contexts of approval and contexts of disparagement. However – at least as far as I know – there has been no paper written on when exactly did the word “Keynesian” first appear in print. (Tracking down the first appearance of that word orally would probably be impossible by now.)

    I spoke to Daniel Peter Kuehn about this once, and he said when he looked through the scholarly literature from the first few years after The General Theory of Employment, Interest, and Money was first published in 1936, he didn’t see the word “Keynesian” appearing.

    However, he did say that he first started seeing the word appearing in the scholarly literature sometime in the 1940s, but while J.M. Keynes was still alive.

    This would be an interesting project for one to go tracking down, but I suspect it would be quite difficult and tedious, even with the advent of the Computer Revolution.


  2. 2 Tom August 5, 2013 at 10:51 pm

    Great post David.


  3. 3 Bill Woolsey August 6, 2013 at 4:22 am

    Keynes didn’t discover the demand for money.

    Do you really think that the “Cambridge k” approach is not a version of the quantity theory of money?

    Marshall mentioned in passing that the interest rate impacts the demand for money. He said that it was likely a small effect and that he would ignore it.

    While Friedman may have focused on Viner, isn’t true that all of the leading Chicago economists of the Depression period advocated increases in the quantity of money sufficient to keep the price level from falling and to raise it back up to the 1929 level? I mean Simons and Mints. I am less sure about Knight. And, of course, Irving Fisher advocated expanding the quantity of money during the Depression and returning the price level to the 1929 level.

    I was at a session on Fisher a year or two ago. It described how Fisher’ s reputation collapsed due to a failure to predict the Depression. (And by that, I mean an insistence that there would be no Depression and that the stock market would continue to rise.)

    Those who still thought that Fisher was right about the need to increase the quantity of money enough to reverse the deflation would make that argument without mentioning the name of the now disgraced Fisher. My reading of Viner, Simons, and Mints suggest that all of them promoted Fisher’s policy prescription in the thirties.

    The quotes you provide from Friedman suggest a very policy focused understanding of the “quantity theory.” Forget the hint that it was the fall in the quantity of money that caused the Depression. My reading of the “old Chicago” guys is that they favored a price level rule, changing the quantity of money to offset shifts to velocity. But still, the problem with the Depression is that the quantity of money is too small and it can be fixed by increasing it enough, getting the price level back to its initial value.

    By the way, I don’t agree that the Austrians are not quantity theorists. They are improved and modified quantity theorists. Further, Mises introduced the supply and demand determination of the value of money in the Theory of Money and Credit. No doubt that is why I think that the quantity theory as a theory of the demand for money _is_ just a modification and improvement of the quantity of theory, not some kind of anti-quantity theory approach.

    The Austrian view explains how changes in the quantity of money can impact interest rates in the short run, and also create all sorts of relative price distortions, but in the long run, they are reversed, so that the result is at least approximately long run neutrality. It is that short run distortion and reversal that is the cycle theory. Notice that according to Friedman, the problem with the Austrian/London school is the policy view that deflation should be allowed to run its course.


  4. 4 Blue Aurora August 6, 2013 at 5:15 am

    BTW, this might be slightly off-topic, but there’s one more thing I’d like to bring to the attention of David Glasner and other Market Monetarists…I know that all of you are busy with other commitments, but were any of you aware of this book by Ulrich Bindseil? It looks pretty interesting, and in case none of you were aware of it, I think that it ought to be on your list of books to read sooner or later.


  5. 5 Ray Newton August 6, 2013 at 6:22 am


    There are so many holes in the article, I cannot attend to them all.

    However, I have selected one snippet upon which to make comment.

    You wrote: ” Friedman explained away this failure by saying that Keynes was merely adding to a theory of the demand for money that had been evolving at Cambridge since Marshall’s day, and that the novel element in the General Theory, absolute liquidity preference, was empirically unsupported. “.

    My reason for selecting this is one for which I, now less frequently, take up arms (my key tapping fingers) whenever I read something on economics and when time, and the urge to do so, overwhelms my self imposed constraints ascribed to its futility.

    I hear the echo of words claimed to have been uttered a couple of millenniums ago, with a slight alteration to fit the current topic – “Lord forgive them, they know not what they writeth (or thinketh).

    Please tell me, David, any one ‘theory’, that fits its scientific meaning (Economics is claimed by Academia as a science) that has been ’empirically’ supported.

    Because, to me, this is where all arguments on this subject fall down. We have theories upon theories, almost like derivitives in the financial markets.

    All the Fed chairmen, past and present, though many times referred to as being at the worst – fools, at best, naïve, have been, extremely well informed, educated, capable men, and academically schooled economists at the most prestigious establishments.

    It is important for them to know these ‘theories’, but not for the reasons that the economic theorists who figured them, or those who extolled their believed virtues, intended.

    Anyone who believes that just one current ‘playing with the system’ – Quantitive Easing is not manipulation, let’s add another related – ‘creating easy loans without care, and fiscal responsibility, that led to bubbles and burst, is not manipulation of a discipline – wide open to it because it is all pure theory, is terminally, financially, naive and should not be let near a ‘company ledger’, metaphorical, or literal.

    At the core of economics upon which all else rests is that of supply and demand. The first a student learns is that when the demand is greater than tthe supply, it tends to cause a rise in the price. When the supply is greater than the demand, the reverse applies.

    Yes, we can argue from this ‘basic’ premise, that demand can be increased by the fear, or belief of an interuption of the supply, and so on until we create a lot of off shoots from the basic. One thing economists love to do is argue until one is lost in argument, and loses track of the point.

    Economics, like no other, fits a saying we had at school when we wanted to get the best of an argument, or impress – ‘blind them with science’.

    So, I ask again – what economic theory has ever been subected to, and/or passed empirical examination, that would be permited to claim to be so supported.?


  6. 6 Ray Newton August 6, 2013 at 6:38 am

    I find it hard to understand how you could publish that short comment I made, above, yet not the post to which it refers. As I said, there was not even an acknowledgement. Yet, when I tried to post it again, thinking it might not have gone through, I get a OO-OOPS! I think this is a duplicate of what you have already posted – or words to that effect.

    If you are witholding a post for moderation, then at least please acknowledge its receipt.


  7. 7 David Glasner August 6, 2013 at 10:10 am

    Blue Aurora, Yes, I am aware of that quote. I think that I referred to it either in replying to a comment on my earlier post or perhaps in replying to Scott Sumner on his blog. I nominate you to track down the first use of “Keynesian,” both as an adjective and as a noun.

    Tom, Thanks, but I am not sure that your view is that of most readers.

    Bill, I did not say that Keynes discovered the demand for money. What I said was that he made a major contribution, both before the General Theory and in the General Theory toward developing a coherent theory of the demand for money.

    The “Cambridge k” approach was developed to be used in conjunction with the quantity theory of money. I don’t view it as being equivalent to the quantity theory of money. But aside from that semantic point, Friedman’s restatement of the quantity theory was essentially an articulation of a version of the cambridge k approach. But rather than identify it as such, Friedman chose to market it as the expression of a Chicago oral tradition, which, even if we accept Friedman’s account of what the Chicago oral tradition was, had absolutely nothing to do with the Cambridge k, or for that matter, anything resembling the theory of the demand for money that Friedman asserted was the essence of the quantity theory.

    I don’t deny that the Chicago economists in the 1930s were anti-deflationists and advocated monetary and fiscal policies aimed at stopping and reversing deflation. That policy position has nothing to do with a theory of the demand for money which is how Friedman characterized the quantity theory.

    You may explain why Viner, Simons and Mints didn’t mention Fisher, but what excuse did Friedman have for not mentioning Fisher?
    As for a policy focused understanding of the quantity theory, that would certainly be one way to describe it. However, Friedman first described it as a theory of the demand for money. When he was called on the lack of any Chicago oral tradition relating to the demand for money, he changed the subject and starting talking about those terrible Austrians at LSE who drove Abba Lerner into the arms of the Keynesians.

    As for whether the Austrians are or are not quantity theorists, I think you can argue it either way, but if they are, they are a very exotic species of that genus. Mises may have introduced the term demand for money, but what he described as the demand for money was a complete misunderstanding of what the demand for money is. I didn’t say that the theory of the demand for money is an anti-quantity theory, I just object to Friedman’s conflation of the quantity theory with the theory of the demand for money. Holding a theory of the demand for money does not commit you to the quantity theory of money as an explanation of its value or of the determination of other macrovariables.

    Ray, I understand why you think that economics is not scientific, and I sympathize with your skepticism. Economics has established very few empirical regularities that can be relied on with the confidence with which we rely on Newton’s Laws of motion. Is that the fault of economics and economists? Perhaps, but I also blame nature. The social world is complicated and it’s hard to come up with any simple laws, that are as robust as Newton’s Laws (which turned out not to be true after all). Nevertheless, a downward-sloping demand curve doesn’t do a bad job of describing reality. And the proposition that if you place a price ceiling on a product, you will create a shortage of the product is, I think, fairly well supported empirically. I could mention a few others, but for purposes of this discussion, I will just leave it at that. If you haven’t seen it you might be interested in a recent post by Noah
    Smith on his blog “the death of theory?”

    Sorry, your first comment was for some reason trapped by the WordPress spam detector, but not your second. When I saw your second comment I hunted down your first in the spam folder and posted it in the comment section. I rarely individually acknowledge comments. WordPress holds up the posting of comments from email addresses that have not previously been approved to comment as a way of limiting spam, but it apparently does not do a very good job of identifying what is and what is not spam, at least not for me at any rate. Again, sorry to add to your frustration level, which seems rather high today. Hope it recedes real soon


  8. 8 Tom August 6, 2013 at 11:42 am

    Bill, don’t you think there is value in drawing a distinction between quantity theorists who argued for proportionality between money and prices and I guess what you’d call modified quantity theorists who argued that the relationship between credit (money) and prices was more complex? I’ve always thought this was the more interesting aspect of the debate given the current focus on price stability.

    Hayek and Keynes did not believe in proportionality which I think distinguishes them from Fisher and Friedman. This may have been due to the Wicksell connection, although as Hayek pointed out there was a flaw in Wicksell’s argument whereby stable prices were in fact incompatible with equilibrium in a dynamic credit-based economy. (I dont think Keynes ever accepted this point of view whereas the Stockholm School were strong proponents)


  9. 9 Tom Brown August 6, 2013 at 11:43 am

    David, what do you think of these two separate sets of assumptions on the exchange equation variables (which underlies the QTM, correct?) (see pages 1 and 4, small print):

    I don’t agree completely with either set, but I favor the 2nd set. What’s your take?

    The author cites Friedman when presenting the 1st set. Do you agree that those represent something close to his assumptions?


  10. 10 Ray Newton August 6, 2013 at 1:01 pm

    David, I trust you accept my comments are not personal, they are aimed at Academian economics as taught, and continually touted as having relevance in macro economics. And, if we do not figure out what rules macro economics is governed by, then, sooner or later, all that is below crumbles.

    You claim Newton’s ‘laws’ in physics were found to be untrue. You did not single one out in particular which infers – all. I would love to know what is ‘untrue’ re gravity, or motion? (Or any for that matter).

    Further, you missed my point completely detailed in my post. This being that all the economic theories no matter how well they sound, and expounded reveal their weakness of macro economic relevance by being subject to continual manipulation, by those charged with its governance.

    If you doubt, I can give many current examples to support my point.

    I do believe you see my point, and I also understand the difficulty for you to hint at agreeing. I merely wanted to let you know that ‘enlightenment’ is growing, and much is being questioned, that has been so readily accepted by academic conditioning. In time, perhaps, with more ‘enlightenment’ we will get more economists ‘getting it right’, or at least, not so many getting it so wrong. And more telling it as it is.. But I won’t sit holding my breath.

    I will now bow out. Though I will check to see if you explain why Newton’s laws (physics) have been found untrue. I am always eager to learn.

    Thanks again David.


  11. 11 sumnerbentley August 6, 2013 at 3:44 pm

    David, I have trouble following your argument:

    1. Yes, Keynes improved the earlier theories of the “demand for money”. But Friedman didn’t rely on the improvements, so he’s hardly a “Keynesian” just because he has a demand for money in his model. Even Hume was aware that money hoarding could prevent increases in the quantity of money from being inflationary.

    2. The Austrian economists were quantity theorists of some sort.

    3. I wasn’t there to hear the “oral tradition” but surely the Chicago economists in 1932 and 1933 were talking a lot about money hoarding at low interest rates, and the need to print more money to overcome that problem. Indeed lots of people in and out of academia were talking about the problem of money hoarding. I presume that’s what Friedman meant when he claimed they were aware of the importance of the demand for money. Obviously if he’s claiming an oral tradition he’s saying they didn’t write down explicit models. So I really don’t see how Friedman can be criticized here.

    4. As far as Friedman being “ungenerous to Keynes” regarding the centrality of the liquidity trap to the model, that’s also my view, and I’ve read the GT a couple times. It was also Hicks’ view after reading the GT. It may be wrong, but it’s certainly a respectable view.


  12. 12 Tom Brown August 6, 2013 at 3:56 pm

    Ray, excuse me for butting in, but take a look here:

    “it [Newton’s law of gravitation] implies that the interaction between the objects is transmitted instantaneously and it must be inconsistent with special relativity (SR).

    If say the Sun suddenly started moving away from the Earth at a speed very close to the speed of light, SR tells you that the Earth must still move as if the Sun were in its old position until about 8 minutes after it started moving. In contrast, Newtonian gravitation would predict an instantaneous deviation of Earth from its old orbit.”

    It’s been a while since I took physics. What do you think? I’d also be surprised if Newtonian Mechanics isn’t contradicted in part (at least) by General Relativity (which also explains gravity). Just today I saw a short clip on how Quantum Mechanics and Gravity (and more generally General Relativity) have never been reconciled… so I guess that I wouldn’t be surprised if Quantum Mechanics also contradicts Newtonian Mechanics. The above quote was found after a 5 second Google search and it sounds plausible to me. Here’s some others:


  13. 13 robertwaldmann August 6, 2013 at 7:10 pm

    I’m puzzled here you write “First, like earlier quantity theorists, and unlike Keynes in the General Theory, Friedman assumed that the price level is determined (not, as in the GT, somehow fixed exogenously) by the demand for money and the supply ” On what page in the GT is the price level assumed to be “somehow fixed exogenously” ?

    In the earlier post to which you link, you correctly ascribe the mysterious exogenous price level to Hicks’s paper on Keynes and the classics. It was definitely there and definitely not in the GT. You are a very very careful scholar of Keynes. What happened ? I ask for information.

    to go on an on

    In GT through chapter ??? “the General Theory Restated” the price level isn’t considered at all. All calculations are in terms of “the wage unit” or what we call the wage level. In later chapters the price level is assumed to be endogenous. Diddling with algebra Keynes wrote down equations which would be Phillips curves if one assumed that all greek letters with subscripts were fixed constants. He also very specifically warned that the elasticities labeled with those symbols change. My view of his work on the price level was that it can best be explained to modern economists as “don’t put a stable Phillips curve in your models” . I’d say he anticipated Friedman (1968) (which was impressive writing more than two decades before Phillips).

    (of course Samuelson & Solow (1960) also anticipated Friedman’s critique of the Phillips curve. I think it is very clear that Friedman was critiquing a straw man


  14. 14 David Glasner August 6, 2013 at 8:17 pm

    Scott, 1. Keynes in chapter 20 17 of the General Theory presented a general theory of asset holding incorporating for the first time his theory of liquidity preference which is formally indistinguishable from the theory of the demand for money that Friedman advanced. The liquidity trap analysis may have been crucial to Keynes’s conclusion about an unemployment equilibrium, but to say that that was his only contribution to the theory of the demand money is simply false. I will provide documentation of this with relevant quotes from Hicks and Keynes in a separate post. So I don’t accept that Friedman didn’t rely on Keynes’s improvements to the demand for money just because he rejected the idea of absolute liquidity preference.

    2. I think it is possible to argue that Austrian economists were quantity theorists of some sort; I think that it is also possible to argue that Austrian economists were not quantity theorists. I don’t think that it possible to argue that they were in any sense in the mainstream of quantity theorists.

    3. Money hoarding was a problem recognized by Ricardo and Thornton, Mill and Bagehot. They all advocated providing money to avoid or cure financial crises. What is so special about Chicago? If the quantity theory of money is a theory of the demand for money, and he is providing a theory reflecting the Chicago oral tradition, why did Friedman present Keynes’s theory of the demand for money, albeit minus the part about absolute liquidity preference, but nothing in any way identifiable as a contribution of Chicago. The only answer that Friedman seems to provide is that they weren’t like those crazy Austrians.

    4. To repeat what I said above. There is a difference between saying that Keynes’s result about unemployment equilibrium depends on the liquidity trap, and saying that the liquidity trap was Keynes’s only contribution to the theory of the demand for money was the idea of absolute liquidity preference. Hicks may have said the first, but he certainly did not say the second.


  15. 15 Blue Aurora August 6, 2013 at 9:52 pm

    David Glasner: Are you sure you got the right chapter of The General Theory? Although it is in Book V of The General Theory, Chapter 20 discusses the employment function, AKA the aggregate supply curve. However, he does say this on Page 285:

    This equation is, as we shall see in the next chapter, the first step to a generalised Quantity Theory of Money.

    The equation that is placed above (but which I can’t reproduce cos’ I’m not sure whether the code on this blog would allow for mathematical notation) the sentence is done in the form of an elasticity analysis.

    However, if you did mean Chapter 21, then you are correct to point out that Keynes presents a model that incorporates liquidity preference. Also, just for the record, Keynes makes references to Chapter 21 through footnotes in Chapters 10 and 15 (on Pages 119 and 209 respectively). He also makes multiple references to Chapter 20 throughout the book…like in Chapter 3, where he makes reference to it in a footnote on Page 25.


  16. 16 David Glasner August 6, 2013 at 10:02 pm

    Blue Aurora, No I meant chapter 17. Thanks for catching that one.


  17. 17 Ray Newton August 7, 2013 at 2:40 am

    Hi Tom, Thanks for your response. First let me say I do not see it as you ‘butting in’. As I explained, my comments were not personal to David. He is, just like most, ‘standard issue’ by courtesy from academia’s economics faculties.

    They are well versed in their ‘theories’, and if our world were in the hands of men with unblemished ethical standards, motivated by creating win/win situations in all their dealings, we may not have a perfect world, that will always remain, I fear, an unrealised dream, of such men and their followers, but I feel it would be a far more benign one than we have so far experienced.

    Without going into a long explanation, to me, it would be more meaningful if more time were spent by the many, represented here by a few, in debating why our world could have allowed that which has been media termed ‘Financial Crisis’ brought about by ‘Banking Lunacy’ to have occurred, instead of someone’s over debated theories. It surely should have sent out a warning to Academia along the lines – ‘Huston, we have a problem’.

    One banker suffering mental breakdown and committing a mere 10% of the failings ascribed to the whole debacle, would have been cause for concern of how it could have gone so far before he was removed to the ‘funny farm’ by men in white coats. That is assuming (that which I reject) that economics as taught is meaningful at the macro level. Why macro? To truly test the validity of a system, one should extend it to, and view it from, the extreme. This is especially true of anything where ‘finance’ is involved (which leaves very little).

    ‘Real’ economics which practice reveals an underlying simple law – Any theory (cause) that is capable of being manipulated to produce an effect which creates a ‘winner take all’ result, is liable to be so manipulated, is missing from the curriculum. By ignoring even potential manipulation it allows it to remain with impunity to rot and impregnate the whole.

    Knowing something, making people aware, does not necessarily stop it, but it can make it harder to accomplish, and/or more benign in its result.

    I am fully aware, Tom, without reaching to Google, that there are those who love to challenge ‘great minds’, I for one could be said to not miss a challenge if I feel on solid ground. However, I do not engage in the practice of thinking up highly improbable (impossible?) scenarios to blind my opponent with science.

    Let’s look at – “..If say the Sun suddenly started moving away from the Earth at a speed very close to the speed of light…..” If the sun suddenly started moving away, or towards the earth, there would be no life left here, certainly as we know it, to debate anything. I am not a physicist, far from it, but I do not need Google to figure that out.

    Taking something to an extreme (within probability), does not mean taking something away from the bounds of probability, in order to dig up some hypothetical analogy, or example.

    As far as practice goes, in the world of technology or wherever the laws of physics need to be applied, I have no reason to believe that those of Newton are not held valid, without question, or debate. And they have not been responsible for any cataclysmic failures as a result. Nor, am I aware, they have been manipulated, for gain or any other reason.

    I do not want to go down the road of deviating from the main topic, it would be unfair to others, and could evolve into a ‘never ending story’.

    I thank you again Tom, and for the manner in which you projected your response.


  18. 18 Blue Aurora August 7, 2013 at 4:30 am

    You’re welcome…now are you going to free my other post that is stuck?


  19. 19 Bill Woolsey August 7, 2013 at 4:44 am


    I take a quantity of money and demand to hold money view. And it still results in the proportionality of the price level to the quantity of money. It follows simply and directly. Given the demand to hold real balances, an increase in the quantity of money results in a proportional increase in the price level, resulting in the real quantity of money falling back to the demand to hold real balances.

    If the demand for money depends on real income, then only if real income is fixed, would “given the demand to hold real money balances” hold true.

    Only if the demand for money is unit income elastic would velocity be constant in the face of changes in real income.

    And I do think it is easy to see that changes in the difference between the yields on money and other assets should impact the demand to hold money.

    Further, at least to me, it has never seemed especially likely that the demand to hold money would be come kind of constant.

    The notion that velocity depends on payments technology, which doesn’t change much, might seem plausible.

    Still, the proper equation of exchange analysis is that given velocity and real income, the price level is proportional to the quantity of money.

    But given the quantity of money, the price level is also proportional to changes in velocity.


    To me, Keynes’ precautionary motive is what the demand for money is about, as it was for Mises. It isn’t just the possibility of “absolute” liquidity preference that is odd about Keynes. It is making the interest elasticity of the demand for money mostly about avoiding capital losses on long term bonds that was peculiar.

    In Mises, it is pretty clear that people trade off the marginal utility of holding money with current consumption as well as real and financial assets. The alternative approach is to say that people allocation consumption through time. And then, the assets they hold due to their saving is allocated between money and other assets. The tradeoff is then between the services of money and the yields on these other assets. Still, the monetarists always insisted that these “other assets” include a variety of real assets, including consumer goods that are not counted as durable, like clothing.

    When you go with the value theory that it is the flow of services from consumer goods that are valued, then the yield represented from that flow can be traded off with the yield from the services on money. Of course, the point is that the trade off isn’t just between money and bonds, and in particular the long term bonds that might suffer a capital loss, creating the speculative motive for the demand for money.

    I a


  20. 20 Ray Newton August 7, 2013 at 6:59 am


    I just looked over your earlier response, and the following statement jumped out to me as in need of comment.

    You state “…..And the proposition that if you place a price ceiling on a product, you will create a shortage of the product is, I think, fairly well supported empirically…..” It illustrates, at least to me, how these economic theories, taken as ‘fact’, because that what is meant by ‘law’ ( a theory supported by empirical examination) in Science, can cause such anomalies in economic prognosis.

    Let us take the perfume business, for example. It is accepted that the selling price of even the most sought after fragrance is way above its production cost. If sold as half its price it would return a handsome profit.

    Its high cost does not create any shortage of the product. However, it does lessen the sales, but not the true demand. Now take that fragrance and make it available through supermarkets and discount outlets and, for a while there would be high sales, until the novelty wore off buyers in the mass market, because the original ‘exclusive market’ no longer wished to use a product that had lost its exclusivity by price. Yet there has been no deterioration of quality.

    Now the point being made here is that economics deals with human behaviour, it exists, solely because of human behaviour, and human behaviour is fickle. Human behaviour can be manipulated, and is, constantly, especially on TV advertising in a grand scale.. And this is why I maintain that its theories, any of them, can NEVER have empirical support.

    They should be treated as ‘guides’, with applied liberal understanding.
    A grounding, and preferably an in-built ‘feel’, for human psychology, to me, is a must for any economist.

    I could go on, but I have consideration for attention span, and over kill


  21. 21 Tom Brown August 7, 2013 at 11:03 am

    Bill, thanks. I wonder if you could help me out a bit with a concept. I got into a discussion with David Beckworth wherein he was making an argument that seemed to be predicated on the idea that the rate on short term Tsy debt could rise above the IOR rate, while maintaining the stock of excess reserves (ER) > 0 in the banking system. During the discussion, David provided a link to a post he did using a “cashless” system as an example. I liked the cashless simplification and proposed two more simplifications:

    I haven’t heard back yet from David.

    Any thoughts?


  22. 22 Tom Brown August 7, 2013 at 11:10 am

    Bill, looking at my post to David there again, I guess I could add a fourth thing to do w/ reserves:

    4. Trade them to Fed (where they’d be destroyed) for Tsy debt or MBS, if the Fed was selling, which it’s not.

    Also, this wasn’t addressed, but in that simplified world, ANYTHING the bank bought from the private sector would be through the mechanism of crediting bank deposits (i.e. creating inside money). That would include buying loan agreements (i..e making loans), 2nd hand Tsy debt, stock, office supplies, employee’s time, etc.


  23. 23 Tom Brown August 7, 2013 at 11:23 am

    My #4 above = OMOs in the original. I guess I did cover that!


  24. 24 David Glasner August 7, 2013 at 6:51 pm

    Tom, I think that there are two important characteristics of the quantity theory, first, that under some conditions the quantity of money can be treated as exogenous, and second that changes in the nominal quantity of money can be treated as approximately neutral (what you refer to as proportionality) in the long run. Austrians satisfy the first, but definitely not the second, which is why I think it is ambiguous whether they should be considered quantity theorists. For Austrians the important effects of a change in the quantity of money are on relative, not absolute, prices.
    I looked over the piece that you linked quickly. Allowing for the oversimplifications in the presentation for a not very sophisticated audience, I would say that his exposition seems reasonable. I think Friedman over time came to accept that velocity is much less stable than he thought it was, but that was only late in his career, not at the time when he was writing the stuff that I am talking about.

    Ray, What I meant was that Newtonian physics was superseded by Einstein’s theories of relativity. You are right that I missed that point, but I find it too abstract to understand, so I have nothing to say about it.

    Tom, Thanks for the physics lesson.

    Robert, Thanks for your praise of my Keynes scholarship, which I am afraid is overly generous. My scholarship such as it is relates only to a few parts of the General Theory that I have tried to make sense of because of difficulties I had understanding what he was saying or because of some specific issue that I wanted to understand, like the Fisher effect. You are right that Keynes does sometimes discuss inflation and changes in the price level, but I brought up fixity of the price level in the context of the assertion that Friedman’s model was a variation of the standard IS-LM model, so if referred to Keynes and the General Theory, I really had in mind IS-LM.

    Bill, I think the general model of asset holding laid out in chapter 17 of the GT covers everything that Friedman said about the demand for money. The three motives, transactions, precautionary and speculative, can be fit into the general model of money demand, and his specific hypotheses about the relative importance of the three motives do not the exclude the possibility of alternative hypotheses about the specific motives for holding money and their relative importance. I actually don’t think it is clear in Mises at all because he was confused, as was Marshall, about the difference between the service flow from holding money and the utility of whatever is exchanged for money. At any rate, if there is one thing that we can be sure of it is that Friedman did not take his theory of money demand from Mises.


  25. 25 Tom Brown August 7, 2013 at 7:08 pm

    David, thanks for your reply about the quantity theory. Also, although I addressed the above to Bill:

    By all means, jump in there if you think you might have something to teach me! Thanks!


  26. 26 Blue Aurora August 7, 2013 at 9:08 pm

    David Glasner: Thanks for freeing my stuck post. Now can you please answer the question I had in it?


  27. 27 david stinson August 8, 2013 at 8:33 am

    Hi David,

    Another thought-provoking post.

    Sorry for the cross-post comment but in your previous Friedman post, you stated:

    “[Friedman’s] theory of international monetary adjustment was a naïve version of the Humean Price-Specie-Flow mechanism, ignoring the tendency of commodity arbitrage to equalize price levels under the gold standard even without gold shipments, thereby misinterpreting the significance of gold shipments under the gold standard.”

    Can you recommend a good paper or two that explains the “tendency of commodity arbitrage to equalize price levels under the gold standard even without gold shipments”?


  28. 28 David Glasner August 8, 2013 at 6:18 pm

    Blue Aurora, I’ll try, but you have remind me what the questions was.

    David, The two papers to read are by McCloskey and Zecher, “How the Gold Standard Worked 1880-1913” in the volume The Monetary Approach to the Balance of Payments edited by Frenkel and Johnson. Actually the introductory essay by Frenkel and Johnson is also really excellent. The other paper is by Samuelson “A Corrected Version of Hume’s Equilibrating Mechanisms for International Trade,” in the volume, Flexible Exchange Rates and the Balance of Payments edited by J. S. Chipman and C. P. Kindleberger.


  29. 29 Tom Brown August 8, 2013 at 7:06 pm

    Congrats on getting a link from Krugman! At least I *think* that’d be a good thing for you ;). Did you see an upturn in traffic?


  30. 30 david stinson August 9, 2013 at 6:28 am

    Thanks David for the pointers on the papers.


  31. 31 Blue Aurora August 9, 2013 at 8:55 am

    This was what I asked regarding Ulrich Bindseil’s book…\

    BTW, this might be slightly off-topic, but there’s one more thing I’d like to bring to the attention of David Glasner and other Market Monetarists…I know that all of you are busy with other commitments, but were any of you aware of this book by Ulrich Bindseil? It looks pretty interesting, and in case none of you were aware of it, I think that it ought to be on your list of books to read sooner or later.


  32. 32 Greg Ransom August 11, 2013 at 7:50 pm

    In referring to the LSE quantity theory, Friedman was likely referring to Edwin Cannan’s writings on the quantity theory.


  33. 33 David Glasner August 11, 2013 at 7:55 pm

    Greg, I think that’s unlikely because, if you look up the passage, you will find that he explicitly identifies London with the Austrian school.


  34. 34 Blue Aurora August 12, 2013 at 12:40 am

    Sorry to get testy David Glasner, but…

    Did you get a chance to take a look at Ulrich Bindseil’s 2005 book, Monetary Policy Implementation: Theory, Past, and Present?


  35. 35 James Hilferty September 26, 2013 at 1:44 am

    Did Friedman know anything about Maths or was he depending on others being as ignorant as he appeared to be? I seem to recall that he appeared to profess a knowledge of economics and yet he endorsed the ludicrous Black – Scholes formula (along with Eugene Fama and Paul Samuelson) and landed us with this new “funny money” a.k.a. derivatives. Admittedly he did it for money; In other words he was paid to endorse it. He certainly loved money.


  36. 36 David Glasner September 29, 2013 at 1:52 pm

    Blue Aurora, That’s OK, but I have just been too busy to do more than look at the Amazon page. Sorry I can’t offer you much in the way of comment.

    James, Friedman was actually quite adept mathematically, especially in statistical theory in which he published a lot early in his career. He was also close to and worked with both Jimmie Savage and Abraham Wald, two of the greatest statisticians of the first half of the twentieth century. I am not sure what you mean by endorsing the Back Scholes formula for valuing an option. Options existed before Black-Scholes, so I don’t know why the Black Scholes formula “landed” us with derivatives. I don’t know what money you think Friedman was paid in connection with the Black Scholes formula. The formula was published in a scholarly journal, it became freely available after that.


  37. 37 James Hilferty October 29, 2013 at 6:47 am

    Too busy just now but I am just dying to reply


  38. 38 James Hilferty October 29, 2013 at 12:32 pm

    I thought that everyone knew that Milton Friedman was paid about $70 000 away back circa 1970 be Leo Melamed; I actually have the notes but let us get back to the maths.You know what they say about Statistics; Lies; Dammed Lies; and Statistics and this is only too true If you know statistics. B-S. claimed that the Gaussian Normal Distribution Curve was almost 97% accurate when it wasn’t even 30% which I know from bitter experience.
    Then there is the little matter of whether this is a “Continuous Time” sum but I am of the opinion that this is about the only sum which isn’t C.T.
    I was trying to figure out why the mathematicians never noticed but then it dawned on me; they are much good at Physics and were too easily fooled by a simple “three card trick”. Maths men don’t seem to understand the concept of time; eg. Divide time into three zones, Yesterday; Today; and Tomorrow using four Cartesian co-ordinates; t (0), t(1), t(2), t(3) but and this is important the t(0) given by Merton and Scholes is actually t(expiry) which you could justifiably call t(0) but not t(zero) because you then have to divide Time into Past and Future using three co-ordinates t(1), t(zero) and t(expiry) this is how you find t(zero) so we now know that they used the wrong t(zero) and we all know that you can’t differentiate across zero.
    The rest of the formula is full of Fatal Flaws, one which stuck out like a sore thumb and it only took me ONE minute to spot. So Much for Milton Friedman’s mathematical ability. Let me know what you think


  39. 39 James Hilferty October 30, 2013 at 3:08 am

    I know that options were traded long before the Black-Scholes formula by I believe Jimmy Goldsmith and some Antipodean with a French sounding name but they were used to set a new price for some new asset and since they were “the market” their price became the real price. Vanderbilt did the same thing away back about the 1880’s so as you say it’s not new.


  40. 40 David Glasner October 30, 2013 at 7:43 pm

    James, A quick search on Friedman and Melamed led me to this article by Melamed. According to Melamed he paid Friedman $7500 to write an article about the need for a futures market in foreign currencies in the wake of Nixon’s abandonment of a fixed dollar price of gold in August 1971. Unless you are referring to some other article you are only off by one order of magnitude. The Black and Scholes paper was not published till 1973, so I don’t see the connection between Friedman and Black and Scholes. The article Friedman wrote was about a futures market not about an options market. So I have no clue why you are associating Friedman with Black. As I have pointed out on in some of my other posts on Friedman, he actually treated Black rather nastily while Black was at Chicago.


  41. 41 James Hilferty October 31, 2013 at 2:52 am

    That’s the correct figure; but we are dealing in “Quantum Maths” ie. “REAL MONEY” not nominal money and if we use Merton’s TIME VALUE of money formula or as he calls it “the future discounted rate; say 5% inflation and 5% interest and their formula (Le to the power (rt)}; I will work it out later and if I remember correctly it is more $100,000 see you later. Perhaps we can compare answers later.Duty calls and I have to take the daughter’s dog out for a walk.


  42. 42 James Hilferty October 31, 2013 at 6:43 am

    I went to a good school to learn maths (Inverness Tec.) and it must be better than Cambridge Uni. LSE. Harvard, M I T and Chicago Uni. and UCLA. but I must stress that this is only in Quantum Maths and not in any other type. I first came across Milton Friedman in that renowned figure magazine, Playboy and I thought that he should have been the centrefold as he was the biggest tit in the in the publication; and that’s me being nice to him. Has anyone solved my sum about { t (0) } yet? Copernicus was the first I remember with a “Quantity of Money” theory. Let us get back to the $7500 sum of money; this was the first fatal error in the B-S formula and it took all of One minute to spot it. Where on earth would you find a banker to lend you money @ Le to the negative power (rt) as claimed in this silly sum? (e) is of course Exponential (e). The banks always charge you to “Le to the positive power; check your power. So let’s do some sums;
    L=$7500; e= 2 point 72; r = % 6 and t =40years so
    e^rt= 0 point 06 multiplied by 40=2 point 4 and e^to that power=11 . 0232
    $7500 times 11=$82500 in todays money. Now and it’s a big now B-S uses the RECIPROCAL of that formula which gives $82500 mult.1/11=$7500.
    Did I get anything wrong?


  43. 43 James Hilferty October 31, 2013 at 11:08 am

    If I remember correctly Lord Gresham; Queen Elizabeth 1 of England’s treasurer wrote something on the “Quantity of Money” theory circa 1588.


  44. 44 James Hilferty October 31, 2013 at 11:30 am

    I have a memory like a hen, but I am often on the CME. site trying to get someone to come out and defend this stupid formula, but all to no avail.
    They, the Chicago Mercantile Exchange said to me that they use the Black-Scholes Formula to price Derivatives. I told them that they they only used it as a smokescreen to keep inquisitive economists at bay; but they didn’t bite. They have used it successfully in this role for 44 years. I knew that it never worked 44years ago because I am a very good economist who simply loves fraud and was just too good to be true.


  45. 45 James Hilferty October 31, 2013 at 2:36 pm

    In the debate between Friedman and Keynes the Englishman coined the phrase “Priming the Pump” (vacuum ) and just what did the Right Wing Chicago economists do? Bail out the banks and other financials. Is that not Keynesian? But just for the very rich. I was accused of being cruel to the Dean of Maths at the University of Chicago when I claimed that they couldn’t do maths but they never contradicted me. his friends said ” ;Bob’s a nice man” I nearly forgot the DERIVATIVES, It is common knowledge that there are $800 trillion of BAD DERIVATIVES out there and that is why interest rates are NEGATIVE in real terms and the Fed is still bailing out the banks.
    The B-S formula was ignored for years but Friedman and Fama endorsed the formula and the STOCKBROKERS were all for it as it opened up the so called Futures Options Market and the CME. did rather well. The Nobel prize was awarded to them about 1997 and LTCM. went belly up the next year and Merton and Scholes being unaware that their formula didn’t work lost a great deal of money. Now I have told both of them this on the CME. site.


  46. 46 James Hilferty November 1, 2013 at 4:54 am

    Stochastic maths is actually gambling. I hate to tell you but I studied this too and its gambling with a bit of logic thrown in but it’s still gambling. If you read the instructions on the B-S you will see that by magic the formula turns into a “stochastic process” which neither God nor Man can stop (some people will swallow anything) this simply means that the Distribution Curve suddenly turns into Probability Curve and they never reach ZERO (there is always a chance). I n a Distribution curve it’s unlikely to get more than 3 S.D.s but in a Probability curve you can get 25 s.d.s and that’s called “A Hundred Year Storm” . By the way there is a very enjoyable video lasting an hour by Garry Gensler about The Commodities Futures Trading Commission but don’t believe his spiel at the start.


  47. 47 James Hilferty November 1, 2013 at 12:26 pm

    My two favourite economists are J K Galbraith and FDR. Now a little argument between me and the Financial Times I wonder if you could arbitrate. Did the U.S. devalue in 1934? or did they simply revalue and since America had all the gold how could they devalue against themselves. Samuel Britain says that they devalued. I value your opinion. I still want learn.


  48. 48 David Glasner November 1, 2013 at 12:52 pm

    James, Sorry, but I can’t follow your argument, Merton did not invent discounting and compounding. Nor did Black and Scholes. Just because money invested at a given interest rate eventually grows into a larger sum doesn’t mean that $7500 is the same as $70,000. When you compound interest into the future you do so by taking the exponential raised to a positive power, when you discount future sum into the present, you take the exponential raised to a negative power. An exponential raised to the negative power doesn’t mean that the interest rate is negative, it means that you are discounting a future value into a present value.If that is what you think is wrong with the Black-Scholes formula, I am afraid you need to think again.

    I am not aware that Keynes ever had a debate with Friedman, and it was not Keynes who invented the term pump-priming, which I don’t think even appears in any of Keynes’s writings. I didn’t know there was a “dean of maths” at the University of Chicago. Did you retain his name in your memory? I still do not see any connection between Friedman and the Black-Scholes model other than the coincidence that they all happened to be at Chicago at the same time in the early 1970s. As I have already pointed out several times on this blog, Black and Friedman did not get along while Black was at Chicago. Nor have you shown that Friedman had anything to do with the Black Scholes formula.

    I didn’t bring up the Black Scholes formula, which you seem to be rather obsessive about, which is certainly your prerogative. But I wonder if you wouldn’t mind terribly taking your obsession elsewhere.


  49. 49 James Hilferty November 2, 2013 at 4:06 am

    I surely don’t have dot every ( i ) and cross every ( t) ; I am assuming that you know something about Economics but apparently not much about Maths; if you thought that Friedman was any good at maths and; the banks are getting money today at negative rates that’s called “Quantative Easing”
    Today no one wants to know about the B-S formula (it was just an economic metaphor for a world that never was ) ” Krugman and Stiglitz”. The CME. told me that Bob Fefferman was the Dean of Mathematics at Chicago and they are just down the road. I thought we were discussing Economics but this silly formula is “The gordian knot” of Economics;stifling logical discussion. Everything you said about (e) above is true and I like to think that I am the master of exponential (e) , I just love it; but even if we had used the normal compounded interest formula (without daily compounded interest rates) $7500 would have grown to $77,142 you just use Napiarian Logs they still come in handy The real point here is that there should be no forward discount rate since the money (L) is actually spent at time [ t(k)} the strike price which is in the present time (that is now) and not in the future.


  50. 50 James Hilferty November 2, 2013 at 3:30 pm

    What I said Is that Merton just used Le^ (rt) because he wanted to use it; actually that is not the correct formula as the exponential is not used in the correct formula for the TIME VALUE of Money it is { L(1+r)^ 40} and you can use a T.I. BA 2 calculator to do the sum for you; the difference is $82500
    – $77142 a slight sum of $5358; I have the formula some where. I think that he only used the D.C.I.R. as it is easier to fool the unwary Since in my opinion he needed the money at TIME t(k); the strike time I feel that he should have used L(e^ rt) and not the RECIPROCAL L(e to the negative power) Another couple of comments and the B-S formula will be demolished for good and we can get back to real maths. ps. That’s what I told Bob.


  51. 51 James Hilferty November 3, 2013 at 2:20 pm

    I have just read Friedman’s paper on Forex kindly provided by CME. and as you say it’s not all that exciting but they think that they got their money’s worth from the paper. CME are very fulsome in their praise for him and the connection I see between Friedman and B-S is that CME seem to be the only company to successfully use this formula but they dropped the idea that the formula could see into the future and this would indicate to me that it is not a Continuous Time sum or in other words they used the wrong { t(zero)} in the formula. Any thoughts?


  52. 52 James Hilferty November 4, 2013 at 2:18 am

    David, you are correct I am obsessed; but it is with Good Maths or is it Bad Maths,and the b-s formula seems to be a repository for all the bad financial maths but we are both ignoring “The Elephant in the Room” the Money Supply.. R.I.P..Friedman was a Monetarist and he must be spinning in his grave at what’s happening today. No more, Mo; 1; 2, 3. It’s not the Money Supply but the “Supply of Money” we are more interested in the “Debt Ceiling”. Here is a true story; The greatest mathematician in America (he has a Field’s Medal in maths) and I (Inverness Tech.) did a Derivation of the B-S formula and he thought that it was elegant and that he could “Hedge” anything and was so pleaded with himself that he stood on Black, Scholes, and Merton’s pile of bad maths and Crowed ” Quid erat Demonstratum” I was too slow to come back with,”Domine, ab homine iniquo et deloso erue me” The Romans knew a thing or two about maths it would seem. The poor soul was too innocent and fell into every every trap set for him. When I kindly put him right he quickly shut up like a clam and stopped crowing but just show me that he could do maths he sent me a copy of the Frustenberg Correspondence Principle which I believe is a new Probability formula and he want’s me to provide input. Modest Jim! There’s those four numbers again.


  53. 53 James Hilferty November 4, 2013 at 4:43 am

    David the greatest mathematician in America; and perhaps the world has just sent me an e-mail asking for my assistance on some fancy problem (he doesn’t hold a grudge) and in sober reflection I may have been a little harsh on him with my remarks on the “Q.E.D. thing and I will apologize to him unreservedly as he was crowing about his improvements to the Formula and not the formula itself.H e had come up with the idea of constructing a matrix of coefficients A, B, C, D. and find approiate values and “et voila”.
    all is revealed..


  54. 54 James Hilferty November 4, 2013 at 11:09 am

    A wee tip, never quote Cambridge an authority on Maths or economics as they are hopeless at both, and the only half decent economist there seems to be Michel Chossudovsky. I just noticed the name Samuelson in the main article and if it is The Paul Samuelson then he is one of the main villains in the Black- Scholes formula; and I get the impression that he may have actually have written it as he was Merton’s mentor but he didn’t have the courage (brass neck) to give the big speech and Merton carried it off;and the rest is history. However on one of his last appearances just before he died; when asked about it he said “if something is too good to be true then it usually is” Not much of a “mea culpa” those Romans get everywhere.


  55. 55 James Hilferty November 5, 2013 at 2:34 am

    David; this is what I did to Bob;I said that Chicago; if it was teaching the b-s formula was teaching bad maths and that he should be ashamed of himself. It worked or it didn’t work but Bob took the wise course and declined to comment but I comforted him by saying that all the other universities got it wrong too I said the same to Merton and Scholes on the CME site and if they can’t defend their own formula than who can? Merton made the rather lame excuse that they were blown off course by Exogenous forces. What kind of forces did he expect? Some one claimed that it was a Hundred (or was it a thousand ) year storm.


  56. 56 James Hilferty November 5, 2013 at 11:46 am

    Were almost finished David,were almost there and you have shown that you understand the difference between exponential (e) to the positive power and to the negative power so let us look at LTCM the hedge fund.Hedge funds try to manipulate the Target’s share price either up or down and they can do this by starting rumors and by using options and derivatives to influence the share price of the target. but they have to pay a Margin Price and since you are trying to influence the future price it is a good idea to do this before TIME t(k) and this is in the present time and not at t(expiry) or as Merton and Scholes wrongly call it t(0). The logical conclusion that they need the Money at t(k) time and not at t(expiry). So to my way of looking at it there should have been no forwarded discounted value of money. This just makes the sum look good but this is only in the field of Bad Maths
    So it should have been Le^rt.


  57. 57 David Glasner November 5, 2013 at 1:27 pm

    Sorry, James, but I am still not following you, and if you feel it is too hard to explain yourself so that I can understand you, by all means don’t bother, as I will not take even the slightest offense. Again although their opinion is certainly not conclusive, if Abraham Wald and Jimmy Savage thought highly of Friedman’s mathematical ability, I would, WADR to your superiority in the field, regard that as very powerful evidence that he was a competent mathematician.


  58. 58 David Glasner November 5, 2013 at 1:33 pm

    Yes, as a matter of fact. You apparently are now conceding that there is no connection between Friedman and Black-Scholes. Thank you for that concession, though you might have been slightly less opaque in your concession.


  59. 59 David Glasner November 5, 2013 at 2:00 pm

    James, Then, why are you wasting your time talking to me?


  60. 60 James Hilferty November 5, 2013 at 2:14 pm

    I was too busy watching Man. United and Real Sociedad to finish my post. and rushed things. LTCM. had a $ 1b. in derivatives when they hit the rocks and they if their gamble (stochastic Maths) had come off they wouldn’t have needed any money at Expiry Time. They needed the money when their bet went wrong; sometime between T (k) and T(Expiry). They were in danger of running out of money and had to be rescued by you should know who. This was to save the whole American financial from crashing. If Friedman was as good at maths as you say he was why then did he not notice that the Black -Scholes formula was not quite right.
    The CME simply adore and love Milton because he was good to them and If I remember correctly some of that crowed were employed by CME.
    I notice that no one has yet divided time correctly into “yesterday; today; and tomorrow; or the even simpler “past and future” using Cartesian co-ordinates and untill you do I can assure that you will not understand Financial Maths. United never won. Thank goodness.



  61. 61 James Hilferty November 5, 2013 at 2:24 pm

    I thoroughly enjoyed this discussion and you are a much braver man than Merton, Scholes, and Fama. Good luck.


  62. 62 David Glasner November 5, 2013 at 2:32 pm

    James, Thanks for that explanation, which I am not sure I understand, but maybe I will figure it out if I think about it some more.


  63. 63 James Hilferty November 5, 2013 at 8:27 pm

    I have a video of Bob Merton explaining why it all went wrong and I congratulated him on his honesty


  64. 64 James Hilferty November 6, 2013 at 1:16 am

    Dear David I can assure that I didn’t waste my time debating with you as you have no idea just how valuable you were as my “counter-party”. Normally people are afraid to argue especially maths PhD as they don’t seem to know much about Quantum Maths, which by the way my youngest daughter is trying to teach primary school children. That is the way I feel when I talk to a maths professor. Remember that “apparent nonsense” I was trying to explain about “t (1); t(2); t(3); t(0); well it turns out that it is all true.Bob Merton has on video, raised the white flag of surrender and admitted that the celebrated Black-Scholes formula doesn’t work and that bit I was trying to explain was only a small part of the overall formula. So Bob Fefferman the dean of Chicago University was quite right not to argue with me.By the way Bob that offer still stands.


  65. 65 James Hilferty November 7, 2013 at 2:38 am

    If nobody can do the simple sum “find {t (0, or zero) }” we should dispense with the maths and concentrate on Milton Friedman in simple English.In my opinion he and Eugene Fama are responsible for the entire “financial fiasco” through both of them endorsing “BAD AMERICAN MATHS” and if either of these two clowns had have had the ability to do MATHS properly then they should have noticed what damage this stupid formula would cause. Friedman was just the “Ayan Rand” of his his generation. In other words he offered a philosophical justification for naked greed.


  66. 66 James Hilferty November 7, 2013 at 5:38 am

    David whilst checking to see if I had spelt Mizz Rand’s name correctly I came across a very good headline; “Ayn Rand, the SOCIOPATHETIC inspiration of the teabaggers”. I suppose this word perfectly describes Friedman and Fama. By the way David, our BoE interest rate is set at 0 point 5% and with inflation at %6 ; I think that is NEGATIVE interest rates and this is just to bail out the banks and here in the UK. Quantitative Easing is at £375billion; but is that a year or a month? I am told it is the same in the US. I have noticed that most of the Bad Economists seem to come from the RAND corporation and I wondered if this QUANGO was inspired by her in any way.Now I just love a bit of gossip so here’s the question. What was the personal relationship between Greenspan and that advocate of “FREE LOVE” and no Christian guilt complex: AYN RAND ? I remember my young days, for younger I’ve been, I remember my young days by the Mutton Burn stream. I’am going to cry; so good-bye. I almost forgot MASS. INS.of TECH. were told by Bob Merton in 2010 that the Black-Scholes formula didn’t work back then and they never said a word to anyone. WHY?


  67. 67 David Glasner November 7, 2013 at 1:32 pm

    James, Ayn Rand was seven years older than Friedman,so I am not sure what generation you think that Friedman was the Ayn Rand of. I don’t think that Friedman ever offered a philosophical explanation of greed (naked or otherwise) that differed in any way from that of Adam Smith.

    “It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard to their own interest.”

    As I have said a number of times, I am not not a big fan of Friedman, but he was a great economist and you haven’t been able to provide any evidence of his mathematical incompetence and you have even admitted that you are unable to do so, so why do you keep making the charge. As for Ayn Rand, I am as repulsed by her as you are, but you haven’t established any connection between her and Friedman. And I suspect that Rand had no more use for Friedman than she did for F. A., Hayek, whom she loathed and detested.

    And although I make no pretensions to expertise in the Black-Scholes formula, I am quite sure that when the interest rate appears in the formula it is the nominal interest rate, so you are just confused when you tell me that the real interest rate is negative, because the real interest rate is irrelevant to the Black-Scholes formula.


  68. 68 James Hilferty November 8, 2013 at 10:02 am

    David I read the Milton Friedman “Interview” in Playboy more than a dozen times and the only theme I could detect in it was “hammer the little guy” force them to work harder and he was in favour of Globalisation to push down the American workers wages. I believe that is still a big problem today in America and in Britain. Adam Smith on the other was Scottish like myself and like me and was a sensible fellow. I remember seeing a statue to him somewhere but they tell me that the only folk that would want statue of Friedman are the Chinese. Friedman and Irving Fisher were consigned to the dustbin of history but I know more than enough about him to defeat any fan of his. Like Friedman he was wrong when it counted “shares have reached a high permanent plateau” just before The Wall St Crash and he lost all his money. Did the Yanks ever erect that statue they were talking about? Friedman and Ayn Rand were rather strange people and I was just trying to update my knowledge on them but it was Greenspan I asked about.and not Friedman; because they socialised.


  69. 69 David Glasner November 9, 2013 at 7:14 pm

    James, I would take your opinion of Friedman a bit more seriously if you told me that you had read A Theory of the Consumption function or Essays in Positive Economics 12 (or even 3) times. I never read the Playboy interview so I have no idea if your characterization of his views is accurate or not, but I would be astonished if he ever said anything close to “hammer the little guy in the face,” and certainly not in public. He was too smart for that. Fisher’s problem was not that he didn’t understand the economy, but that he couldn’t imagine that policy would be as bad as it turned out to be. I never heard about the statue you’re talking about.


  70. 70 James Hilferty November 10, 2013 at 4:21 am

    Take it from me David you should read the Playboy Interview as there are good simple economics truths in it. I believe that Jimmy Carter was President; just before Reganomics and Bad American Maths were unleashed on a poor unsuspecting financial world with the laughable “Laffer Curve”or what do you think about Philip’s Curve? In economics I bow to no man, David; and I wasn’t “taken in” by the nonsense spouted by Samuelson, Fama; Merton Miller. Could you make a statement like that and still feel confident. I remember my first University Economics lecture and it was utter rubbish and I approached the lecturer and told him so but unfortunately he was the head of the Economics dept. and he too was receiving extra money from the government to spread Friedman’s lies. The simple truth is he couldn’t do the maths. If he could then he should have warned everyone that the B-S. formula didn’t work. its as simple as that and that is what I said to the Dean of Chicago University and I am trying to say the same to The London School of Economics and Cambridge University too but they are just stubbron to admit it I notice that the Chinese are not going get involved in Financial Derivatives. That article also contained the Great Truth “A Smith and Wesson will beat 4 Aces any day.
    Greenspan went to Ayn Rand’s funeral.


  71. 71 James Hilferty November 11, 2013 at 1:30 pm

    In life you need to understand what the English means and of course Friedman never said “hammer the little guy” but that is what he meant and that seems to be what has happened in America. If people had understood what the English in the B-S formula meant then it wouldn’t have lasted a week for example Ito’s Calculus gives the velocity but not the volatility; the words look similar but have different meanings. Also “stochastic” means “gambling” pure and simple. So on your evidence Friedman was a chancer.


  72. 72 James Hilferty November 12, 2013 at 5:39 am

    Actually David I quite like Ayn Rand; as she saw her opportunities and she took them.Your not an “Agent Provocateur” I hope; your not testing me by saying that interest rates don’t matter?. Interest rates always matter unless they are at zero or even negative. So in your opinion Irving Fisher was a good Economist who only let you down when it mattered. I seem to remember Alan Greenspan when pressed by some Senator reluctantly admitted that he got things wrong because he didn’t think that Bankers and Economists could be so stupid. Watch a real economists. Watch Max Keiser and Peter Schiff. and leave Fisher and Fama in the dust bin of economics.


  73. 73 James Hilferty November 12, 2013 at 9:32 am

    Dear David you assumed wrongly that the interest rate is given in the B.-S. formula; it is only suggested; or alluded to; or something vague. It’s a bit like them accidentally giving the wrong t(zero) which seems to have fooled everyone and it was the first fatal flaw which took me all of ONE minute to discover. Now if Friedman was any good at REAL maths he should have informed his colleagues. There are about another five fatal flaws and you claim that he was a competent mathematician. He couldn’t have been all that stupid so was he in on it? I mean the Fraudulent Formula which has caused so much damage to our economies.


  74. 74 David Glasner November 16, 2013 at 6:24 pm

    James, Thanks for your comments. At this point, I simply have nothing left to say to you.


  75. 75 James Hilferty July 22, 2014 at 8:05 am

    Dear David I had joked the last time that we corresponded that another few comments and we would destroy the B – S Formula for ever and expose Friedman and Fama as two economic charlatans who almost destroyed the Western World’s economic system.
    I have to confess that I was a little too quick at dismissing “the Trillion Dollar Formula as rubbish because of the “term” Le to the minus power ( r t ) which I rejected as just plain silly but after someone abused me because I am not a “real” mathematician but just a self-taught amateur but one who knows the power of EXPONENTIAL ( e ). Actually exponential ( e ) shouldn’t be in “The Forward Discounted Time Value of Money Formula”. The Trillion Dollar Formula is not the B-S formula but ” The Dynamic Delta Hedging Self Financing Replicating Portfolio” I have been off the Internet for about seven months due to flitting and I am not very good at typing. The professionals are not doing very well at solving the quite simple mathematics. The question is why?


  76. 76 James Hilferty December 10, 2016 at 4:35 am

    Dear David
    I have just proved conclusively that time is not continueous in the Black-Scholes formula and The University of Chicago has admitted that they used the wrong ( T zoro ) and that the formula has now been DOWNGRADED to a NODEL.
    I simply used Physics and it was child’s play.
    I think that I can also prove that they also used Negative Interest Rates which by Definition can’t exist. (look up the dictionary ). So our chat on the TIME value of money: and the Discounted time value of money will help me a great deal.


  77. 77 James Hilferty December 13, 2016 at 3:39 am

    How many fatal wounds can any silly sum survive and still keep standing?

    I have exposed the University of Chicago for using the wrong (T zero) in their sum, the one you can’t differentiate through: you have to stick to the “Domain of the function Jim”

    I am going to expose what I think is the most simple flaw of all to detect, namely
    (Le to the [rt] ). Now what is this supposed to be? It can’t be a an interest rate as it is negative and there is no such thing as negative rates no matter what bad economists may claim. Just look up the dictionary. The answer is
    almost Metaphorical. Interest is what the Borrower pays to the Lender for the use of his money So with negative rates he is already being subsidised
    for taking out the loan.


  1. 1 David Glasner: Second Thoughts on Milton Friedman: Noted for August 6, 2013 Trackback on August 6, 2013 at 8:04 am
  2. 2 Brad DeLong : David Glasner: Second Thoughts on Milton Friedman: Noted for August 6, 2013 Trackback on August 6, 2013 at 9:20 am
  3. 3 Isn’t Economic History grand | TVHE Trackback on August 8, 2013 at 2:36 pm
  4. 4 Milton Friedman, Monetarism, and the Great and Little Depressions | Uneasy Money Trackback on March 31, 2015 at 2:48 pm
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About Me

David Glasner
Washington, DC

I am an economist in the Washington DC area. My research and writing has been mostly on monetary economics and policy and the history of economics. In my book Free Banking and Monetary Reform, I argued for a non-Monetarist non-Keynesian approach to monetary policy, based on a theory of a competitive supply of money. Over the years, I have become increasingly impressed by the similarities between my approach and that of R. G. Hawtrey and hope to bring Hawtrey’s unduly neglected contributions to the attention of a wider audience.

My new book Studies in the History of Monetary Theory: Controversies and Clarifications has been published by Palgrave Macmillan

Follow me on Twitter @david_glasner


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