Chapter 4
The Free Market Intellectual Movement
Alongside his academic work, Friedman played a pivotal role in building an influential network of free-market thinkers through organizations like the Mont Pelerin Society, founded in 1947 to preserve and advance classical liberal ideas. At their historic Swiss mountaintop gathering, which brought together 39 scholars from 10 countries, Friedman advocated for a "dynamic and progressive" liberalism that would address poverty through innovative policy solutions. His signature proposal was "progressive negative taxation" - a guaranteed minimum income linked to the tax system that would provide support while maintaining work incentives.
In a landmark 1951 Norwegian magazine article, Friedman articulated what he termed "neo-liberalism" - presenting it as "a new faith to offer" that transcended the simple "negative philosophy" of traditional laissez-faire economics. Unlike earlier classical liberals who maintained that "the state could do only harm," Friedman developed a more nuanced position, arguing that "new liberals must explicitly recognize that there are important positive functions that must be performed by the state." These included preventing monopolistic practices, ensuring monetary stability through responsible central banking, and addressing "acute misery and distress" through targeted interventions.
This carefully calibrated position distinguished him from both Herbert Hoover's emphasis on local solutions and Friedrich Hayek's strict non-interventionist approach to the Great Depression. It also reflected Friedman's evolving political views as he aligned himself with the moderate wing of the Republican Party, supporting Eisenhower over Democrat Adlai Stevenson in 1952 while firmly rejecting Joseph McCarthy's anti-communist extremism and witch hunts.
The Free Market Study at the University of Chicago, generously funded by the William Volker Charities Fund, became another crucial vehicle for developing and disseminating Friedman's ideas. While initially conceived as an American version of Hayek's influential "The Road to Serfdom," the project evolved under Friedman's leadership into a rigorous research initiative rather than mere "hack work." He was particularly focused on examining the nature of monopoly power, questioning whether it truly existed in a sustainable form or if market forces naturally caused it "to disappear" over time - a significant departure from Henry Simons' assumption that monopolies invariably required aggressive government intervention.
By the mid-1950s, Friedman had moved decisively away from Simons's interventionist views, concluding after extensive research that "private monopoly may be the least of evils" compared to permanent government regulatory agencies that often became captured by special interests. He increasingly placed individual freedom, rather than equality, at the center of his economic philosophy - a principle that resonated powerfully in the Cold War era and helped unite various conservative factions in American politics. This intellectual evolution would later influence his more comprehensive works like "Capitalism and Freedom" (1962), which systematically presented his vision of the relationship between economic and political freedom.
Through his leadership in the Mont Pelerin Society, his research at Chicago, and his growing public presence, Friedman helped transform classical liberal ideas into a modern political and economic framework that would profoundly influence policy debates in the latter half of the 20th century.
Chapter 5
Hidden Figures: The Women Behind Monetarism
Behind Friedman's monetary theories stood several unrecognized women whose contributions were essential yet largely invisible. Anna Schwartz, a meticulous economic historian, significantly shaped his work, convincing him to expand their project into a comprehensive monetary history of the United States spanning nearly a century. With her deep love for historical research and exceptional attention to detail, Schwartz developed crucial narrative sections that became foundational to their book, "A Monetary History of the United States, 1867-1960." Though Friedman initially dismissed her historical interests as tangential, her insistence on thorough historical documentation and analysis proved invaluable in establishing the empirical basis for monetarist theory.
Schwartz's methodology was particularly crucial in analyzing the Great Depression, where she meticulously traced the Federal Reserve's policy failures through thousands of documents. Her work established the critical connection between monetary contraction and economic decline that became central to monetarist thinking. Despite her pivotal role, she was often referred to merely as Friedman's "collaborator" rather than an equal contributor to the groundbreaking research.
Similarly crucial but unacknowledged were Rose Friedman, Dorothy Brady, and Margaret Reid, whose collaborative discussions led to Milton's field-changing 1957 book, "A Theory of the Consumption Function." These conversations, often held during summer gatherings at the Friedmans' New Hampshire cabin, tackled the inconsistencies in the Keynesian consumption function-the mathematical relationship between income and spending that formed "the cornerstone" of Keynesian economics. Rose Friedman, in particular, contributed significant insights from her own research on consumer behavior and family economics, while Brady and Reid brought expertise in household economics and consumer research methodology.
The permanent income hypothesis they developed together challenged the Keynesian notion that consumption was directly tied to current income. Instead, they proposed that consumers based spending decisions on their expected long-term average income, considering factors such as future earnings potential, job security, and anticipated lifestyle changes. Their research incorporated innovative survey methods and statistical analyses that went beyond traditional economic modeling. While their collaborative discussions produced what Friedman initially called "our tentative hypothesis," he gradually claimed ownership, transforming it into "my hypothesis" as he developed it into a manuscript.
This work helped restore Friedman's reputation in mainstream economics while delivering what he saw as "a direct blow against the Keynesian consensus." By challenging the relationship between income inequality and savings rates, the theory undermined key New Deal assumptions about secular stagnation and the economic benefits of progressive taxation. The hypothesis suggested that temporary tax changes would have less impact on consumer spending than previously believed, as people would smooth their consumption patterns based on long-term income expectations rather than responding dramatically to short-term income fluctuations.
Chapter 6
Conscience of a Conservative
By the 1960s, Milton Friedman had emerged as the preeminent voice of economic conservatism through his influential Newsweek column, where he alternated with liberal economist Paul Samuelson, offering competing visions of economic policy. His 1962 book "Capitalism and Freedom" became a foundational text of modern conservative economic thought, articulating a comprehensive critique of government intervention in the economy. As advisor to Barry Goldwater's 1964 presidential campaign, Friedman helped craft a conservative economic platform that directly challenged the New Deal consensus, advocating for free markets, deregulation, and limited government. Though Goldwater suffered a crushing defeat to Lyndon Johnson, the campaign planted the seeds for future conservative revival.
The period following Goldwater's defeat proved surprisingly fertile for Friedman's ideas. Released from direct political entanglements, his policy proposals began gaining serious attention from mainstream policymakers and academics. Several controversial ideas from "Capitalism and Freedom" moved from the margins to the center of policy debates. His negative income tax proposal - a system that would provide direct cash assistance to low-income Americans through the tax system while preserving work incentives - attracted significant interest during Johnson's War on Poverty. While never implemented in its pure form, elements of the concept influenced the Earned Income Tax Credit and other welfare reforms.
Friedman's watershed 1967 presidential address to the American Economic Association fundamentally challenged prevailing macroeconomic orthodoxy. The profession had largely accepted the "Phillips Curve" - the idea that there was a stable trade-off between inflation and unemployment, allowing policymakers to "buy" lower unemployment by accepting moderately higher inflation. Friedman systematically dismantled this view, introducing the revolutionary concept of the "natural rate of unemployment" - the level consistent with labor market equilibrium given structural factors like minimum wages, union power, and worker-job matching frictions.
His accelerationist thesis argued that attempts to push unemployment below the natural rate through monetary expansion would generate ever-accelerating inflation as workers and businesses adapted their expectations. "There is always a temporary trade-off between inflation and unemployment; there is no permanent trade-off," Friedman explained. This insight would prove prophetic in the 1970s as the U.S. experienced "stagflation" - the supposedly impossible combination of high inflation and high unemployment that Friedman's framework had predicted.
During this period, Friedman also spearheaded the successful campaign to end military conscription. Working alongside economists like Walter Oi, he demonstrated that an all-volunteer force would be both more efficient and more equitable than the draft system. Their research showed that the draft imposed massive hidden costs on society by forcing young men into military service at below-market wages. This work helped convince President Nixon and other Republicans to embrace ending conscription as official policy. By 1973, the transition to an all-volunteer military was complete - a dramatic example of how Friedman's once-radical ideas could reshape major institutions when political conditions aligned with sound economic analysis.
Chapter 7
The Great Inflation and Monetarism's Rise
The 1970s brought Friedman's ideas to the forefront as America faced an inflation crisis. When Richard Nixon took office in 1969, inflation was accelerating toward 5% due to Vietnam War spending and Federal Reserve policies under William McChesney Martin. Nixon appointed Friedman's mentor Arthur Burns as Federal Reserve chairman, initially delighting Friedman who expected Burns to implement monetarist policies.
However, Burns shocked Friedman by endorsing wage-price controls to fight inflation-a policy both had long opposed. In an anguished midnight letter, Friedman expressed feeling "betrayed" by Burns's reversal. The relationship turned cold as Burns rejected Friedman's theory that inflation was primarily a monetary phenomenon, instead believing inflation could be isolated and controlled through wage-price policies.
By summer 1971, Nixon was determined to change economic course despite his free market rhetoric. Treasury Secretary John Connally devised the New Economic Plan (NEP), which included tax cuts, a wage-price freeze, and most dramatically, ending dollar convertibility to gold-effectively closing "the gold window" and dismantling the Bretton Woods international monetary system.
Friedman immediately criticized the freeze in Newsweek, predicting "more inflationary pressure, not less" and warning Nixon had "a tiger by the tail." When Nixon invited Friedman to the White House to smooth things over, Friedman reportedly responded: "I don't blame George, Mr. President, I blame you."
Despite opposing domestic price controls, Friedman saw opportunity in the international monetary crisis. He had long advocated floating exchange rates-letting currency values be determined by market forces rather than fixed rates-and now worked through his friend George Shultz to shape policy. Though the Smithsonian Agreement temporarily restored fixed exchange rates, Bretton Woods was effectively dead, with gold convertibility permanently eliminated.
As inflation worsened under Burns's Fed chairmanship, reaching 11 percent by 1974, Friedman's warnings proved prescient. A new group of Fed critics emerged-the Shadow Open Market Committee (SOMC), founded by Anna Schwartz, Allan Meltzer, and other monetarists to publicly criticize Burns's "poorly conceived" policies. Monetarism expanded beyond just Friedman and Schwartz, becoming a distinct school with new journals, conferences, and publications.
Chapter 8
Six Days in Santiago: Friedman's Controversial Legacy
Friedman's 1975 visit to Chile marked a pivotal moment in his career and sparked intense debate about the relationship between economic and political freedom. The six-day trip occurred during the second year of General Augusto Pinochet's military dictatorship, which had violently overthrown Salvador Allende's democratically elected socialist government in a bloody coup. The economic situation was dire - while inflation had declined from its catastrophic Allende-era peak of 600 percent, prices were still spiraling upward at over 300 percent annually, devastating Chilean households and businesses. A group of economists dubbed the "Chicago Boys" - Chilean students who had completed graduate studies at the University of Chicago under Friedman and his colleagues - had gained influence with Pinochet and convinced him to experiment with radical free-market reforms, leading them to invite their former mentor for consultation.
The meeting between Friedman and Pinochet proved consequential. During their private discussion, Friedman observed that the general seemed "sympathetically attracted" to the idea of shock treatment for the economy but was "clearly distressed" about the potential for increased unemployment. Friedman employed vivid metaphors to make his case, comparing economic reform to "cutting a dog's tail" - arguing it was better to make swift, decisive changes rather than prolonging the pain through gradual adjustments. His persuasive presentation appeared successful; within a month, Chile announced a comprehensive National Recovery Program that closely followed Friedman's recommendations for rapid privatization, deregulation, and monetary tightening.
Throughout his visit, Friedman maintained a studied clinical detachment about Chile's political situation, despite the omnipresent military presence with soldiers carrying "small machine guns slung over bodies" on street corners. He compartmentalized Pinochet from the regime's brutal repression, noting somewhat dismissively that torture was "standard procedure" among South American intelligence agencies. At a dinner hosted by the French embassy, Friedman encountered vocal regime critics, including a Lutheran bishop who provided detailed accounts of human rights violations, disappearances, and torture. However, this single evening of exposure to the dark reality of Pinochet's Chile could not overcome the sanitized version presented during his week of policy briefings with government officials and economists.
Friedman seemingly failed to grasp how his meeting with Pinochet would be perceived internationally. While he took some precautions - declining honorary degrees to avoid appearing to endorse the government and reportedly telling Pinochet that economic liberalization would eventually necessitate political freedom - his actions often suggested otherwise. His "Fragility of Freedom" lecture in Santiago focused primarily on criticizing Allende's socialist policies rather than addressing Pinochet's authoritarian brutality.
The Chile experience gradually forced Friedman to evolve his thinking about the relationship between economic and political liberty. While Chile's economy eventually showed impressive results with lower inflation and sustained GDP growth around 10%, the persistent protests and international criticism led him to more explicitly acknowledge the connection between economic and political freedom. At a 1981 Mont Pelerin Society meeting held in Chile, Friedman publicly rejected the increasingly popular notion that only authoritarian governments could successfully implement free-market reforms. In a subsequent Newsweek column, he significantly revised his earlier position, arguing that while economic freedom remained essential for prosperity, political freedom was "a necessary condition for the long-term maintenance of economic freedom." This shift marked an important evolution in his thinking about the interplay between markets and democracy.
Chapter 9
The Volcker Shock and Friedman's Legacy
Paul Volcker's appointment as Federal Reserve chairman in 1979 marked a turning point in American monetary policy. Facing inflation approaching 11 percent, Volcker announced a dramatic shift: "We will talk about growth in the aggregates as the fundamental objective of the economy." This meant focusing on controlling the quantity of money rather than interest rates-essentially adopting Friedman's long-recommended approach.
Despite Volcker's monetarist turn, Friedman remained skeptical. His doubts were soon validated as the Fed struggled to control monetary aggregates, which fluctuated wildly. Meanwhile, interest rates soared past 12 percent before reaching a shocking 22 percent by 1981. These elevated rates rippled through the entire credit system, affecting home, car, and business loans and eventually triggering a severe recession with unemployment approaching 10 percent nationally.
The Fed lost its traditional anonymity as public anger mounted. Home builders mailed lumber chunks to the Fed while bankrupt auto dealers sent car keys. Volcker faced hostile activists at speeches and protesters outside Fed headquarters. Monetary policy had moved to the center of national economic, political, and social life-proving Friedman's arguments about money's importance and the Fed's power.
By October 1982, with inflation tamed at 5 percent, Volcker formally announced the Fed would return to focusing on interest rates. Friedman declared Volcker's experiment a failure, warning of imminent inflation resurgence. But his predictions proved wrong-Volcker had permanently defeated inflation, which would remain subdued for the next forty years.
Though monetarism as a technical approach had faded, its core principles-that money matters, central banks control inflation, and rules beat fine-tuning-had become conventional wisdom. The world increasingly reflected Friedman's vision: free-flowing capital, lower taxes, educational vouchers, volunteer military forces, Chicago-influenced antitrust policy, and monetary rather than fiscal approaches to growth.
In his later years, Friedman refined his thinking on freedom, identifying three distinct types: "economic freedom; social or civil freedom; and political freedom." While acknowledging that political freedom could be sacrificed without endangering the other two (as in Hong Kong and Singapore), he maintained that ultimately political freedom required economic freedom to maintain "some independent source of authority" beyond the state.
Friedman's ideas proved persuasive because they matched experience, offered new solutions to old problems, and successfully predicted outcomes. His enduring contributions include volunteer armed forces, educational vouchers, floating exchange rates, monetary interpretation of the Great Depression, consumption function, universal basic income, and monetarism. Whatever social and political order emerges next will not be a clean break with the past but will incorporate elements of Friedman's thinking, which has deeply shaped our current moment.
