America's most influential and outspoken economist is convinced that - as usual - most of his colleagues are focusing on the wrong problem.
In an exclusive interview with this column, Nobel laureate Milton Friedman said the widespread predictions of a resurgence of severe inflation will be discredited before the year is out."I personally have no fear of a runaway inflation," Friedman told me. "In fact, I think we are seeing the high point of the current inflation this quarter or next, and the rate will then begin to decline gradually."
Friedman made these other key points during the wide-ranging interview:
- Federal Reserve chairman Alan Greenspan deserves high praise for keeping monetary policy on "a pretty even course" over the past two years, and "on the whole has been doing very well, as compared with his predecessors."
- The country "may be" heading for recession - "We've had them for 200 years, and we're not going to be through with them" - but an attempt to prevent a downturn through easier monetary policy would merely repeat the disastrous policy errors of the 1970s.
- The true cause of today's savings-and-loan crisis was the 1970s inflation. Radical reform of the entire banking system might be the best solution now. The remaining S&L's "ought to be allowed to go out of business."
Friedman's praise for Greenspan was not unalloyed. The retired University of Chicago professor, now living in northern California, said Greenspan made "one real boner" when he suggested that balancing the budget was more important than how you balanced it. Not so, declared Friedman, who believes the overwhelming problem is to reduce the share of federal spending in the United States economy.
But Greenspan came off far better, in Friedman's ratings, than either Arthur Burns, who talked a good game on inflation but contributed to its explosion, or Paul Volcker, whose eventually successful policies followed a wildly erratic - and needlessly harmful - course.
"The recent run-ups in prices are, in my judgment, a delayed reaction to the very high rates of monetary growth under Volcker in 1985 and 1986," Friedman said. "This inflation is just about on time; there's generally a two-year lag. But we don't need tighter money now. On the whole monetary policy has been on a pretty even course over the last two years."
Friedman's faith is unbroken that a steady monetary policy, reducing the rate of money growth by about one percent a year, is the desirable route to a sounder American economy. He denounces those who say monetarists like himself failed to predict the 1980s as "just wrong," arguing that "it is precisely because I have never believed that there is a short-term relation" that he consistently called for keeping policy steady over extended periods of time - and not trying to "fine tune" the economy.
The 76-year-old economist's fire was similarly undimmed when he denounced as "a bunch of nonsense" the idea that deposit insurance alone explained the reckless management of many S&L's. "There was an incentive to avoid risk as long as there was substantial stockholders' equity, as there was in the 1960s and 1970s" Friedman told me. "The effect of the accelerating inflation of the 1970s was to erode this equity. Once the equity was eroded, stockholders had no incentive not to take risks."
Friedman thinks S&L's made sense when they began, in the 19th Century, as a community savings institution, but he would now let them disappear. Indeed, he favors a shift to what he calls "l00-percent banking": abolishing all government insurance but requiring any institution that takes deposits for checking accounts to keep an exactly matching reserve in government securities.
As for the overall economy, Friedman warns that it would be equally foolish to substitute recession fears for inflation fears. He observes that abrupt government action, aimed at either, generally has led to far worse developments.