Milton Friedman and the Euro

Milton Friedman did not like the euro. In early 1999 I wrote to him mentioning my daughter Erika's thesis and, in a letter dated March 127 1999, he wrote back: Erika's thesis on Euro and the Dollar is one the subjects I have been maintaining a real interest in. As you know, I am very negative about the euro and I am very doubtful about how it will work out. However, I am less pessimistic about it now than I was earlier simply because I never expected that the various countries would display the kind discipline that was required in order to qualify for the euro. The convergence in inflation rates, interest rates, and so on was greater and more rapid than I would have expected. I believe that the monetary-fiscal constitution adopted with the introduction the European single currency is consistent with Friedman's intellectual legacy. Let me explain. The ideas Milton Friedman on money have been so largely spread and absorbed that it may appear trite to repeat them once again. But, since there still is a lot misunderstanding on the issue, I may be forgiven for giving a summarized version them. Discretion versus Rules In the field money and public budgets, the market-liberal view, which stresses the need for impartial roles and constraints on the discretionary powers government, has been contrasted with the Keynesian one, which viewed money and the public budget as instruments short-run discretionary policy. (1) For the better part the last 50 years, the Keynesian view has been prevalent: only the accurate manipulations monetary aggregates and especially the public budget by the authorities in charge economic policy could prevent the instability, the cyclical Fluctuations, and the crises that were typical a capitalist system. It was up to economic policy--the enlightened action government officials--to remedy the deficiencies a market economy, and prevent stagnation, recession, and mass unemployment. Today, the traditional liberal wisdom is vindicated: a growing number economists support the need to take monetary policy decisions away from the discretion monetary authorities, and entrust money to a monetary constitution, a set impartial rules, aimed at providing that framework stability without which markets cannot efficiently operate. Similar considerations apply to fiscal policy: a decreasing number economists today believe that full employment, price stability, and economic growth can be achieved by the expert manipulation budget deficits, while more and more economists all persuasions have finally come to accept the need for a fiscal constitution--a set rules making it impossible for governments to borrow their countries into bankruptcy. The Keynesian ideas that inflation was the unavoidable price economic growth, that there was a stable tradeoff between inflation and unemployment, that it was possible to reduce interest rates through monetary expansion, and that the time horizon for monetary policy decisions had to be dictated by the needs short-term stabilization policies have 'all succumbed to the empirical evidence and the theoretical analyses the last 30 years. There is no evidence that economic growth inevitably involves price inflation. On the contrary, there are good reasons to believe that monetary instability hinders long-term projects and makes economic growth more difficult, as evidenced by the experience a number of Latin American countries. The idea a stable tradeoff between inflation and unemployment is thoroughly discredited: an unexpected acceleration inflation may temporarily reduce unemployment below its natural rate, but this effect is short-lived. Only an accelerating inflation could keep unemployment below its natural rate, but even that unappetizing possibility is dubious. …