One of the most passionate debates among American free market advocates concerns the question whether one should focus on the abolition of government institutions or incremental reform. Murray Rothbard is closely associated with the “abolitionist” outlook and Milton Friedman is closely associated with the “given that it exists” outlook. One thing that is often overlooked in this debate is that the issue may only be relevant to high profile public personalities. For the average person it does not really matter whether he takes a reformist or abolitionist position. In both cases, the effect on government operations is negligible.
To abolitionists, “Monetarism” represents a prime example of the reformist approach. A number of its high profile representatives (such as Milton Friedman himself) occasionally express a preference for abolishing the Fed and in favor of free banking, but the bulk of their writings and public statements are concerned with how the Fed should be run “given that it exists.” It is interesting to note that the latest blogosphere-incarnation of Monetarism, which has been called “Market Monetarism,” stays true to classic Monetarism in this regard. The “given that it exists” approach is not just confined to the Fed, but to price stickiness as well:
Obviously, if all prices and wages were fully flexible, then any imbalance between money supply and money demand would be corrected by immediate changes prices and wages. However, Market Monetarists acknowledge, as New Keynesians do, that prices and wages are sticky. It should also be noted that Market Monetarists are critical of the equilibrium always views of money held by both New Keynesians and New Classical economists.
It is not likely that Market Monetarism, which seems to incorporate an important effect of interventionism, (increased) price stickiness, in its analysis, will be well received by those with a more abolitionist mindset. To them, the most important objective of free market economists is to identity policies and events that prevent market clearing, and to propose institutions that further it, not to advise government how to resolve problems associated with intervention in free markets. A potential rejoinder is that poor Fed policies can aggravate price stickiness.
From a New Classical free market perspective, Market Monetarism has one major advantage over orthodox Keynesian approaches. As Robert Lucas has noted about monetary policy:
It is fast and flexible…It entails no new government enterprises, no government equity positions in private enterprises, no price fixing or other controls on the operation of individual businesses, and no government role in the allocation of capital across different activities. These seem to me important virtues.
If monetary policy is conducted but fails because market participants are already responding in the most efficient manner to economic conditions, that is still better than if fiscal policies (“stimulus”) are conducted and major distortions in the real economy are produced.
One of the most intriguing parts in Lars Christensen’s review of Market Monetarism is where he links nominal GDP targeting to free banking:
Selgin in his masterpiece “The theory of Free Banking” shows that in a perfect competition model of Free Banking with private money insurance the money supply will be fully elastic so any increase in money demand will be met by a one-‐to-‐one increase in money supply and hence in equilibrium NGDP will be stable. Therefore, from a welfare theoretical perspective, one can say that a central bank, which is an NGDP level targeter is “emulating” the market outcome in a perfect competition Free Banking model.
Demonstrating that nominal GDP targeting by the Fed is the most realistic candidate (absent free banking) to produce what we would expect to occur in the absence of centralized control of money would be an effective response to Austrian critics of Market Monetarism.
It remains to be seen to what extent Market Monetarism follows classic Monetarism in staying mostly silent on the virtues of free banking. The stronger emphasis on expectations and the idea of publicly traded futures guiding monetary policy, as expressed in the writings of Scott Sumner, indicate a movement towards a bigger role for market-based money.