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Summary: CAPITALISM & FREEDOM by Milton Friedman

BIBLIOGRAPHY OF MILTON FRIEDMAN Born on July 31, 1912 in New York to Jewish immigrants, Milton Friedman was one of the most prominent advocates of the free market. He attained a B.A at 20 years, from Rutgers University, an M.A from the University of Chicago in 1933, and a Ph.D. from Columbia University in 1946. He received The John Bates Clark achievement which honours economists under 40. In 1967, he served as an adviser to President Richard Nixon, and was president of the American Economic Association. In 1976 he was awarded the Nobel Prize in economics for his achievements. He retired from the University of Chicago in 1977 and became a senior research fellow at the Hoover Institution at Stanford University (Liberty Fund Inc, 2008). He passed away on November 16 2006 in California. His most famous words were: “A society that puts equality before freedom will get neither. A society that puts freedom before equality will get a high degree of both.” He was referred to as ‘the economist’s economist’. CHAPTER 1: The Relationship Between Economic Freedom And Political Freedom Friedman started his book by examining the two major forms of freedom: economic freedom and political freedom; the relationship between these freedoms; the economic systems that support them and the contribution of freedom in general to society. Freedom is the liberty to act as one chooses so long as others are not affected. From this point of view, economic freedom is the liberty to carry out any transaction as one chooses. Friedman considered ‘democratic socialism’ as absurd as it was impossible to attain a combination of political and economic freedom, but equally important and necessary for a good society. He analyses their coexistence as he thought economic arrangements that supported economic freedom, namely capitalism, also promoted political freedom since it enabled economic and political powers to offset each other through separation. Bearing in mind that, the fundamental threat to freedom is the power to coerce, be it in the hands of a monarch, a dictator or an oligarchy. However, Friedman concedes that the relationship between economic and political freedoms is complex and by no means unilateral. This is because history is silent about a largely politically free nation whose economic system was not something comparable to free market; although fascist Italy, fascist Spain, tsarist Russia were all fundamentally capitalists, but could not be described as politically free. Thus, economic freedom is necessary, but not sufficient for political freedom. Again, political freedom is not always the means to economic freedom as was seen by Bentham and the classical liberals. 19th century democracies such as England are cited as examples where welfare and collectivism dominated freedom and individualism. The fundamental problem of every society is how to coordinate its economic activities to effectively use its resources. This problem scales up as people increase. The challenge to liberalists is

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Summary: CAPITALISM & FREEDOM by Milton Friedman

ensuring that such widespread interdependencies also preserve individual freedom. The solution is voluntary exchange between parties as long as it is bi-lateral and informed. However, the government is essential in determining the rules and enforcing the laws decided upon. Freedom does not means its abuse though. The contributions of freedom are diversity and advocacy for causes, including unpopular ones (which may, in the long run benefit society). CHAPTER II: The Role Of The Government In A Free Society Chapter 2 begins with challenging the objection to a totalitarian society which regards the end as justifying the means. This objection is illogical and poses the question that if the end does not justify the means then what does? Friedman argues that “to deny that the end justifies the means is to assert that the end in question is not the ultimate end, that the ultimate end is itself the use of proper means”. To a liberal, the “proper means” involve free discussions and voluntary co-operation. In addition, Friedman talks about the role of the market in a free society. The market should allow agreement by all people in a free society without compliance to laws. He however says that agreement on every issue cannot be achieved thus majority rule. If the minority has no strong feelings about being overruled then plurality suffices. If the minority has strong feelings about an issue, then the minority retaliates. Thus, the market is a system of effective proportional representation. Friedman compares a good society to a good game. In his point of view, just as a good game requires the gamers to accept the rules of the game, a good society requires members to agree to the rules that would govern their day to day activities. He claims that in a society, no set of rules can prevail unless a majority of the society conforms to them without external sanctions. According to Friedman, the basic roles of the government in a free society are: to provide a means whereby rules can be modified, to meditate differences among citizens on the meaning of rules and to enforce compliance of the rules. In a free society, the government is needed for regulation: men’s freedom can conflict, when they do, one’s freedom must be limited to preserve another’s thus absolute freedom is impossible. Friedman also outlines the major problem in declaring appropriate government activities as being how to resolve conflicts amongst freedoms of different individuals. This is because in a liberal society individual freedoms and rights are highly regarded and respected. In an economic setting the problem in declaring government activities arises when conflicts between freedom to combine and compete arise. He continues to address economic areas that raise difficulties for example the definition of “free”, what property rights entail and the monetary system. According to USA “free” means that anyone can set up an enterprise thus existing enterprises cannot keep out competitors other than lower their prices or sell their products at the same price as those of their competitors. Whereas, “free”

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Summary: CAPITALISM & FREEDOM by Milton Friedman

according to continental tradition is that enterprises are free to do what they want to do e.g. fixing prices, division of markets and adapting techniques to prevent competitors. Property rights and ownership are complex issues. An example is given of someone with titles to a land. Does this person’s freedom over his property permit him to deny someone else the right to fly over his land or does the right of the owner of the plane take precedence? Using this example he emphasizes on the need to have a well specified and generally accepted definition of property rights and ownership. Friedman further talks of the monetary system. People have generally accepted that the government is solely responsible for the monetary system but they have to understand the grounds of this responsibility since the scope of government activities can spread from those the appropriate to those that are not appropriate in a free society. In summary, the organization of economic activities in a free society presumes that members of society are provided with the definition of property rights, maintenance of law and order and the framework of the monetary system. The role of the government therefore becomes to do things that the market cannot. CHAPTER III: The Control of Money Friedman discusses government intervention in the economy. He advocates for reducing governmental influence while debunking all notions that a capitalist economy lacks stability. With reference to the Great Depression he stresses on faults of the government that allow misdirection of resources, the distortion of economic growth and stability. The legalities surrounding the framework of economic activities are desired functions the government should take up in creating an environment that permits growth. In essence, the governmental policies relevant to economic strength are monetary and fiscal policy. This chapter narrows down on monetary policy discussing the importance of money to an economy with reference to words of Vladimir Lenin. He goes to state that mistrust and fear of losing freedoms are the reason why a liberal will not assign certain functions to the government. At this point, he brings in the commodity standard, which is the use of some physical commodity as money. Friedman believes that this system is neither feasible nor desirable as the cost involved in terms of resources is overwhelming. Major examples of its failure are 19th century financial crises in the US. There is some implication that from 1914 to date an unstable US economy has become the norm. The Great depression is evidence of the effect of the government’s hand in the economy. He describes the dangers of fractional reserve banking and cycles it creates that eventually lead to reductions in investment and

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Summary: CAPITALISM & FREEDOM by Milton Friedman

contributes to economic contractions. He favours the elimination of the government’s hand in investment activities. CHAPTER IV: International Financial and Trade Agreements Milton Friedman argues that, the problem of international trade is the problem of setting the right currency exchanges. He claims that, “it is not too much to say that, the most serious short-run threat to economic freedom are far reaching economic controls”, which come about from attempting to solve the problem of international payment problems. Friedman also went on to argue that, the most effective way of turning a market economy into an controlling one, is to impose direct controls on the foreign exchange trends. Friedman describes the gold market in 1934 and says that the price of gold was set above the free market price at $34 an ounce. The price of gold has not seen a drastic change even though the price of other related goods have risen, which puts the fixed price of gold below the current market price, resulting in “gold shortage”. Friedman also describes price controls as being inconsistent with free economies. He talks about the Roosevelt administration and says that it was worse than price controls. Measures like nationalization of the gold stock, prohibiting private possession of gold for monetary purposes and the elimination of gold clauses from public and private contracts were equally, if not more, harmful. The chapter talks about how the private ownership of gold was made illegal in 1933 in the United States, and how private holders of the mineral were made to sell their gold to the federal government. Furthermore, he says that, “one can imagine a measure more destructive of the principles of private property on which a society rests”. The illegalization of gold was rationalized to conserve gold for monetary use, but was actually done so the government could profit from rising gold prices. The chapter also talks about the two problems in international monetary relations; the balance of payment and the danger of runs on gold. Friedman says, “…because the US has been borrowing abroad to achieve a balance on current accounts, many are therefore now interested in converting dollars to gold or foreign currency.” He proposes four ways in which a country may respond to an imbalance of trade; US reserves of foreign currencies can be drawn down, domestic prices may be lowered, changing the exchange rates, and finally, government interventions such as tariffs and subsidies. Friedman argues in this chapter that, the increasing the exchange controls is “clearly the worst” and the most destructive to a free society. The free floating exchange is the only way to automatically and efficiently respond to the natural changes in the international trade. He concludes by saying that, “we want a system in which prices are free to fluctuate but in which the forces determining them are relatively stable” 4

Summary: CAPITALISM & FREEDOM by Milton Friedman

CHAPTER V: Fiscal Policy Milton Friedman says that the US government expanded the New Deal using the excuse that it was necessary to eliminate unemployment. He claims in this chapter that, government has been promoted to act as a balancing wheel. He also says that, when private spending goes down, the government must spend to keep economic levels stable. He says that, “the haste with which spending programs are approved, is not matched by an equal haste to repeal them”, which leads to an increase burden on federal taxes. If one accepts the idea of the balancing wheel, the tax side would be more effective than the expenditure side. He argues that, taxes should be raised during expansions and lowered during recessions. It is difficult to raise taxes in prosperous times, keeping the budget low. Milton Friedman however, does not advocate the balance with theory on either side. He says, “we simply do not know enough to able to use deliberate changes in taxes or expenditure as a sensitive mechanism” without having negative effects. This is linked with the Keynesian analysis which says that, “government expenditure relative to tax receipts is necessarily expansionary and a decrease contributes to a shrinkage.” Milton Friedman however thinks this claim is false. He says that, it is built on assumptions of how people will spend their monies, which is difficult to predict. It also does not take account inflation, nor does it explain where the expenditures come from. The actual results can only be judged on experimental evidence. Friedman in this chapter, cites his own research. The results of which showed that rises in government expenditure are not expansionary. CHAPTER VI: The Role of Government in Education Government imposition of a minimum required level of schooling and the financing of this schooling by the state can be justified by the "neighbourhood effects" of schooling, and paternalistic concern for children and irresponsible individuals. Schooling adds to the economic value of the student whereas education promotes a democratic society and welfare stability of people. Government may require a minimum amount of schooling of a certain kind. If the costs can be met by most families, they should pay directly, with subsidies for the needy. This would reduce government's tax-collecting burden in many neighbourhoods as well as equalize the social and private costs of having children. Subsidies would decline with rising income levels. Government administration of a school is not accepted by everyone in the society. Some people believe that if the government is subsidizing the cost of the school, then the government is running the institution. This issue has divided opinion as some are in support for government subsidizing the cost of running public schools while others feel that the government should give parents

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Summary: CAPITALISM & FREEDOM by Milton Friedman

vouchers to take children to any school of their choice and only have the government regulate the minimum requirement of the school. Those in support of government subsiding school argued that this is beneficial due to the following reasons: (1) it creates healthy variety of schools and flexibility into school systems as parents can take their children to expensive schools if they choose to, (2) provides an opportunity of better education for the poor, (3) promotes diversification since students from different backgrounds can mingle in school. Hence schools become nationalized. However, one disadvantage of nationalization of schools is that good schools are in highincome neighbourhoods and the poor cannot afford to live there. Though the education is subsidized, it would be hard for the poor to rise above poverty levels. On the other hand, de-nationalizing will be advantageous because: (1) parents will have an option of taking their children to schools of their choice, (2) equalizes the social and private costs of having children hence promote a better distribution of family sizes, (3) reduces likelihood of government administrating schools, (4) reduces subsidiary government expenditure as subsidies decline with increasing general levels. Government funding for state institutions places unfair disadvantages on private schools; instead vouchers should be given based on need and merit to attend any university of choice. In summary, adopting such measures would create more effective competition among schools and more efficient use of resources. This would eliminate pressure for direct government assistance to private colleges, thus preserve their full independence and diversity whilst enabling them to grow relative to state institutions. CHAPTER VII: Capitalism and Discrimination In this chapter, Friedman argues how capitalism lessened the economic discrimination suffered by minority groups. Critics of capitalism have always argued that capitalism led to the segregation of the poor, of which most minority groups Jews and Negroes in 19th century America were victims of the century’s capitalist state. Friedman however argues that capitalism, through its emphasis on the free market decreased any economic discrimination and allowed for incentives to be gained based on individual capabilities; and not minority or majority status. He views discrimination as being fluid and vague in definition as a preference in taste, principles, quality and characteristics might be misinterpreted as discrimination. In a free society, individuals should be allowed to change their discriminatory minds through free speech and discussion, and not state coercion. According to Friedman, in a free society, state coercion will always crush on the freedoms of one individual whilst trying to enforce the freedoms of the other. An example is an employment law requiring that employers hire blacks. If a business’ customers are racist, then the business would lose customers resulting in its closure. From this perspective, a business owner loses his or her business though he was just trying to freely provide for his customers’ taste. According to Friedman, within any capitalist society, because

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Summary: CAPITALISM & FREEDOM by Milton Friedman

freedom reigns, it costs money to discriminate, and it would be difficult, given the impersonal nature of market transactions. Friedman views the outcome of discriminatory activity as unpredictable, therefore the government should not be involved in coercion of people. He believes men should be left to follow their own interest. Based on chapter 1, Friedman believes that free markets were able to effectively separate efficiency from the factors which he considered irrelevant such as race, religion and gender. Chapter VIII: Monopoly and the Social Responsibility of Business and Labour Monopoly as defined by Friedman is a situation whereby a “specific individual or enterprise has sufficient control over a particular product or service to determine significantly the terms on which other individuals shall have access to it”. The problem monopoly poses to the free society is the limitation on voluntary exchange through a reduction in alternatives available to the individual. To Friedman, there are three main sources of monopoly in an economy; technical monopoly, government assistance and private collusion. Technical monopoly arises when it is economical to have a single firm supply certain services than many firms e.g. electricity. This source of monopoly is inevitable. However, whenever a technical monopoly arises, there is always a choice among ‘three evils’: private unregulated monopoly, private state regulated monopoly, and government operation. Of these three, private unregulated monopoly is the best because the other two are difficult to reverse. Government possesses monopoly power in two forms: direct assistance as in government establishment, support and enforcement of cartel and monopoly arrangements among private producers and subtle indirect assistance like tariffs, taxation and legislation in labour disputes. Thus, whilst tariffs create monopoly for local industries by limiting foreign competition, corporate taxation creates monopoly for establ...