Milton Friedman (*1912)
The market as the ultimate problem solver

[ By Christoph Wagner ]


I. Biography

Milton Friedman was born on 31 July 1912 in New York as the fourth child of a Jewish immigrant family. He grew up in the industrial heartland of New Jersey and graduated from Rutgers University in 1932 with a B.A. in Economics. He then moved to the University of Chicago, which became his intellectual home and where he later was to achieve great academic influence. After his Masters degree in 1933, he remained in Chicago as a lecturer until 1935, before going to Washington D.C. to work as an economist on the National Resources Committee. From 1937 to 1940, he worked for the National Bureau of Economic Research in Washington after being invited by Simon Kuznet, who later won a Nobel Prize. From 1941 to 1943 he worked as a principal economist in the Division of Tax Research of the US Treasury Department and from 1943 to 1945 in the Statistical Research Group of the War Research Division at Columbia University. He was awarded a PhD from this university in 1946 and in the same year returned to Chicago, where he taught economics for 35 years (1948 to 1983). From 1948 to 1981 he was again a member of the National Bureau of Economic Research. Friedman served several presidents as a policy advisor. President Ronald Reagan appointed him to his Economic Policy Advisory Board (1981to 88). The highlight of Friedman’s career was the Nobel Prize in Economics in 1976. On the 9th of May 2002, Milton Friedman was honoured by US president George W. Bush as “the most significant economist” of the past century.

Friedman did in fact influence the economic policy of many countries beyond the borders of the USA. “Neoliberalism”, which was so closely linked to his name above all others, became mainstream. National economic policies throughout the world were geared towards its principles. The concept of structural adjustment, which had largely been inspired by Friedman, shaped the development policies of the past two decades.


II. Work

Milton Friedman is probably the most prominent representative of modern monetary theory, which largely came about as a reaction to Keynesianism and, in the late 1960s, became known by the term monetarism. As a result of his studies on John Maynard Keynes, Friedman published “A Theory of the Consumption Function” in 1957. In his major work, “A Monetary History of the United States 1867 – 1960”, co-authored by Anna Jacobson Schwartz and published in 1963, he investigated what influence the quantity of money has on the economy, in order to empirically disprove Keynes’ stance of “money doesn’t matter”. According to Friedman’s (neo)quantity theory, monetary policy should not be steered by interest rates but focus on the quantity of money. Contrary to Keynes’ ideas, governmental (deficit) spending is not considered a useful way of controlling cyclical downturns. Rather, the government can only contribute to economic growth during recessions or depressions by expanding the monetary supply – but only to a sensibly limited extent, in order to ensure that inflation does not rise. (Keynes mocked this as being comparable to trying to get fatter by buying a longer belt.)

With his economic theoretical and political considerations reaching well beyond quantity theory, Friedman became the figurehead of neoliberalism, which essentially advocates privatisation, deregulation, reducing expenditure, fighting inflation and foreign-trade liberalisation. At the same time, he supported Adam Smith’s “simple system of natural liberty”, according to which, under the condition of unrestricted competition, it is the conduct of individuals steered by property rather than regulated by the government that leads to the common good. The market in competitive capitalism automatically is said to create an optimal allocation of resources (“the invisible hand”) and governmental intervention is regarded as harmful because it throws the market off balance. Very early on, Friedman espoused the cause of the withdrawal of the government from the economy and society as a central requirement. In 1947 he was one of the 39 founding members of the Société du Mont Pèlerin, which, with Friedrich August von Hayek as the driving force, made the strengthening of liberal principles their objective. It is still considered the first example of a neoliberal think tank.

Of relevance to development theory and practice, Friedman’s considerations are not restricted to the economy but involve society as a whole. In his most significant work from a socio-political perspective, “Capitalism and Freedom” (1962), Friedman put forth his notion of society. He declares the freedom of the individual to be the ultimate objective of all social arrangements. At the centre of his considerations, he suggests that it is wrong to regard the freedom of the individual as a purely political issue and material wealth as a purely economic matter. On the contrary, economy and politics are closely related, but only certain combinations of economic and political structures are possible. In this sense, a socialist society cannot be democratic because it does not guarantee personal freedom. Accordingly, the economic structure that brings about economic freedom is competitive capitalism, which does not only ensure economic freedom but also political liberty. For Friedman, capitalism is thus a necessary, though not sufficient, precondition for political freedom.

Friedman generally judges governmental intervention as problematic because it always means a restriction of individual freedom. Therefore, state intervention must be cut back to a minimum – not only in the economy but in society in general as well. The government’s right to exist in a free society, according to Friedman, arises solely from the fact that the freedom of one person has to be restricted in order to safeguard the freedom of others. The government must ensure that contracts are enforced and property rights are guaranteed. In short, Friedman only assigns the government the role of referee.

Friedman explicitly identifies three exclusive cases, in which the government can and should intervene. It should do so
a) if there is a threat of technical monopolies emerging;
b) if the conduct of individuals has a negative impact on fellow human beings (the pros and cons of governmental intervention must nevertheless be carefully weighed up on a case by case basis); and
c) if there are paternalistic reasons such as the care and protection of people who cannot look after themselves.

Such exceptions aside, governmental intervention is fundamentally harmful, in Friedman’s view, for both economy and society, because it automatically curbs individual freedom. Unlike 1998 Nobel Laureate Amartya Sen, another development theorist for whom the notion of freedom is essential, Friedman sees no other positive function for – and no other reasons that might justify – governmental intervention. The notion that the government can support freedom by creating conditions of equal of opportunity in order to enable individuals to pursue independent life paths is foreign to Friedman. He dismisses such ideas as social claptrap.


III. Impact

Milton Friedman is not a development theorist in the sense of dealing with special development challenges in Africa, Asia and Latin America. However, his ideas have had an extraordinarily strong influence on the development policy of the North, above all in the USA and within the multilateral financial institutions. As an economist, he claims that his concepts have acquired universal validity and are independent of regional peculiarities. He did not define his own development model but rather supports the notion of the free market economy – “capitalist competition” in his words – as the key to successful economic policy. This is because liberal economies give people what they want instead of what a particular group thinks they ought to want (Capitalism and Freedom). In this context, Friedman – together with James M. Buchanan, Robert Nozick and others – has decisively influenced the debate on the roles of governments and markets in development. Accordingly, he has had considerable impact on practical development policy since the 1970s.

For almost four decades, he has been considered the leading mind of the Chicago School, which produced a series of other Nobel laureates in Economics (George J. Stigler, Gary S. Becker, Robert W. Fogel, Robert E. Lucas, Ronald H. Coase, James M. Buchanan) and whose scholars secured leading posts in the administrations of many countries actively contributing to economic policy. A prime example of this is Chile.

The Universidad Católica de Chile had an exchange programme with the University of Chicago, enabling students to do a doctorate in the USA. Thus, a group of several dozen economics students, who came to be known as the Chicago Boys, secured key positions in government and business and triggered a radical change of Chilean economic and social affairs during the Pinochet dictatorship. The majority of state-owned enterprises were privatised – covering the sectors of profitable copper mines, energy, telecommunication, haulage, water supply and pension schemes. This initially sparked an economic upturn but, after a short time, led to social unrest because the tariffs were increased excessively and, as Senator Jorge Lavandero established last year, only three of the 47 large mining companies pay any tax.

In terms of development policy, Friedman gave an impetus for reorientation, which can be broken down into two neoliberal formulae. The first demands a move away from budget policies to market strategies. The second is about a shift from industrialisation and import substitution to free markets and international competitiveness. Thus, the “minimal-state” paradigm has guided the structural adjustment policy of the World Bank and IMF. Besides the multilateral financial organisations, particularly the US administration and large banks have advocated this approach as the most promising path in economic policy. The “Washington Consensus” became the prevailing development model. Market liberalisation, privatisation, deregulation and expenditure reduction were imposed by external players on many developing countries and were implemented by the respective governments. National central banks – strengthened by the idea of monetarism – tried to control the quantity of money in order to come to grips with the spectre of inflation.

However, since the second half of the 1990s, the neoliberal paradigm has lost some of its influence in development policy. The “Washington Consensus“ has even attracted criticism from within its own ranks due to dubious successes, extreme social rejection and the negative experiences of international financial crises. The appropriateness of the measures concerned was also questioned inside the World Bank, in particular by its chief economist in the late 1990ies, Joseph Stiglitz, who was awarded the Nobel Prize in 2001. Based on investigations dealing with the unequal distribution of information, Stiglitz questions the efficiency of the market. The debate about success and failure of the neoliberal development model has led to governments’ roles being viewed more discriminately today. This is particularly so with respect to regulatory functions, which prevent market failure. The neoliberal slogan of bad government and good market, which had become mainstream in terms of development strategy, is being increasingly superseded by the concepts of “good governance” and “capable state”, which have, at their core, the paradigm of adequately functioning institutions.

Publications by Milton Friedman

1957: A Theory of Consumption Function. Princeton
1962: Capitalism and Freedom. Chicago
1962: Price Theory: A Provisional Text. Chicago
1963: Inflation: Causes and Consequences. Chicago
1963: (with Anna Jacobson Schwartz): A Monetary History of the United States 1867-1960. Princeton
1963: Postwar Trends in Monetary Theory and Policy
1969: The Optimum Quantity of Money, and Other Essays. Chicago
1973: Money and Economic Development. New York
1980: (with Rose Friedman): Free to Choose. A Personal Statement. New York
1984: (with Rose Friedman): Tyranny of the Status Quo. New York, London
1998: (with Rose Friedman): Two Lucky People. Memoirs. Chicago


Publications about Milton Friedman:

– Eamonn Butler (1985): Milton Friedman: A Guide to Economic Thought. Aldershot, Hampshire
– William Frazer (1994): The Legacy of Keynes and Friedman: Economic Analysis, Money, and Ideology. Westport
– Abraham Hirsch, Neil de Marchi (1990): Milton Friedman, Economics in Theory and Practice. New York
– Thomas J. Sargent (1987): Some of Milton Friedman’s Scientific Contributions to Macroeconomics. Stanford
Dr. Christoph Wagner
works at the Institute
of Political Science at the
University of Mainz in Germany.
cwagner@mail.uni-mainz.de