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What Would Milton Friedman Say About Fed Policy Under Bernanke? -

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David Beckworth emails:

Greetings from Texas. Since you just had a post on Milton Friedman, I thought you might like this Op-Ed I coauthored on him. It is in the Investor’s Business Daily today and makes the case that Friedman would be calling for more Fed action.

And here it is:

What Would Milton Friedman Say About Fed Policy Under Bernanke?: [W]at would Milton Friedman say about our current monetary policy?

First, [he would say that] low interest rates do not necessarily mean monetary policy is loose.

Friedman criticized the policies of the Fed in the 1930s and the Bank of Japan in the 1990s on this very point. Both central banks claimed to be highly accommodative at these times, pointing to low interest rates as evidence of easy monetary policy. Friedman countered, however, that low interest rates may reflect a weak economy rather than easy monetary policy.

Back in 1997, in fact, he called the idea of identifying low interest rates with easy monetary policy an interest-rate fallacy. The only time low interest rates do indicate loose monetary policy is when they are below the neutral interest-rate level.... The implication for today's Fed is that although its target federal funds rate is low, its stance still may not be very stimulative given that the neutral interest rate is also low....

Second, [he would say that] the Fed should aim to stabilize inflation expectations. In his 1992 book "Money Mischief," Friedman called for legislation requiring the Fed to stabilize the spread between the nominal yield on regular Treasury bonds and the real yield on inflation-protected Treasury bonds (TIPS).... Friedman wanted the Fed to target expected inflation, and to promote price stability. As a forward-looking approach, this would also avoid the "long and varying lag" problems associated with backward-looking monetary policy...