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Money: Whence it came, where it went
`Money` is an easily read and easily comprehended history of how the western industrialized countries have created, adapted, and managed their monetary systems. Written by one of the post-WWII-era`s most famous economists, John Kenneth Galbraith, `Money` is as much a lesson in American history and politics as it is in economics. Galbraith seeks to show how the management of monetary systems, driven by the interests of the rich and supported at times by conservative ideology, has been fraught with error, corruption, and more commonly--simple incompetence. But he protests the inefficacy of monetary management too much. Published in 1975, Galbraith`s book can be seen as a response to the rise of the `monetarist` school of economics which, in many ways, was a challenge his economic philosophy.
An ardent supporter of the Keynesian school of economics, Galbraith rose to prominence during the late Depression era and especially during WWII as a government official in charge of controlling prices (He later served in the several Democratic administrations including a post as Ambassador to India for Kennedy). With the Depression still in full force just prior to WWII, he was chosen specifically to help implement a Keynesian economic policy which emphasized the use of fiscal policy--government spending and more activist management of the economy--to bring about full employment.
In 1963, Milton Friedman and Ann Schwartz published the now famous `Monetary History of the United States, 1867-1963`. Friedman and Schwartz laid out, in convincing empirical fashion, what became known as the `monetarist` school of economics which emphasized the management of the monetary system as the key to macroeconomics stability and growth. While `Monetary History` acknowledges the managerial shortcomings of past monetary officials--those shortcomings were the result of a lack of understanding of the monetary system rather than an inherent flaw in monetary policies themselves. In contrast, Galbraith`s `Money` emphasizes that monetary policy is itself flawed. In addition to showing how attempts to manage monetary systems over the past 200 years have generally been abysmal, Galbraith goes on to assert that even when managed well, monetary policy has a limited impact on macroeconomic health compared to Keynesian-influenced fiscal policies.
Galbraith may have a point. In the 30 years since he published `Money`, activist fiscal policy has been replaced by activist monetary policy as the tool of choice for maintaining macroeconomic growth and stability. Yet, monetary crises have remained a significant feature of the economic landscape: The stagflation of the late 1970s, the early 80s recession as a result of the monetary policy response of Paul Volcker`s FED; the Asian Financial Crisis; and the current housing bubble brought on by the FED relaxation of interest rates in response to the previous dot-com bubble. The art of managing a monetary system seems no more under control than it did earlier in the 20th century. What has changed over the past 30 years is the realization that increasing economic centralization under the aegis of Keynesian-influenced government intervention has been shown to be problematic to economic growth as well. In addition conservatives also call upon the works of Hayek to show that economic centralization--an inherent feature of heavily Keynesian governments--has political implications that put individual freedoms at risk as well
Ultimately Galbraith`s `Money` is an excellent and understandable introduction to the various efforts over the last several centuries to manage monetary systems. But the reader is given more than monetary and Keynesian theory and is engaged in a wonderful, if broad-brushed economic history of the United States. Fifteen years ago, an argument could be made that `Money` was out of date. A second look at recent crises born of monetary policy suggests that `Money` is a relevant reminder that there is still much to learn.
On one side of the world is a broad swath of professional mystery-makers, who stand in awe at the world`s complexity, quite often view it as unanalyzable or irreducible, and let it stand pretty much as it was before. Then there are people in this world who want very much to take apart all the world`s complex systems and machines, show you what they`re made of, and say, `See? It`s not all that awe-inspiring after all.` I`ve decided that John Kenneth Galbraith, on the basis of `Money`, is one of the latter.
Among those peddling mystery rather than clear thinking around money are some of Galbraith`s own economist colleagues, who enshround the topic in hefty terminology and bestow upon money men an authority that, as it turns out, they don`t deserve. Here`s Galbraith clarifying a couple often-heard terms from the world of finance (after another connected paragraph that I`ve had to leave out for brevity):
`Few phrases have ever been endowed with such mystery as open-market operations, the bank rate, the discount rate. This is because economists and bankers have been proud of their access to knowledge that even the most percipient of other citizens believe beyond their intelligence. Open-market operations are the sale of securities just mentioned by the central bank which removes the loanable cash or reserves from the commercial or ordinary banks. The bank rate and the discount rate are the same; they are what prevent the banks from too painlessly recouping their cash by borrowing from the central bank. This is it. Viewed in the context of their development in the last century it is hard to regard these mysteries as anything but a simple, even obvious, accommodation to circumstance.`
That same tone, in a couple of particulars, is what makes `Money` such a tremendous book. First there`s the persistently arched eyebrow, aimed at other economists. Then there`s the urge to make the world clearer. The whole book is quite admirable in this way.
Money`s pace is a little funny: perhaps 80 pages get us from the start of world history up to the Bank of England, then another 100 pages from the 19th century to World War I. The remaining 150 pages covering the practical collapse of the gold standard through the Depression and its aftermath. It`s like Zeno`s Monetary History.
Galbraith`s central observation about banking is that, beyond its most primitive forms, all banks suffer from one single, ineradicable problem: they have more money on the books than they actually have on hand. And every now and again, panic spreads from bank to bank, justly or unjustly: a nearby bank fails, so all my depositors rush to empty out their accounts. They are all shocked to discover that I don`t have a special bag of gold coins labeled `Doris`s savings account.` My bank fails, as do all the other banks. My bank wasn`t necessarily any worse just before the failure than it was a week earlier, but expectations combined to make it collapse. If I`m not mistaken, observations of this form are distinctly Keynesian.
Indeed, Galbraith is an old-school Keynesian, responsible in some fashion for price controls during World War II. Some of the most interesting parts of `Money`, to me, were Galbraith`s defenses of this centralization. It all worked quite well, says Galbraith, and people seemed generally satisfied with it. When the price controls were lifted, inflation did not go through the roof; there was no pent-up demand waiting to explode, but for the evil central planners. This, and much of the rest of the book, is a more or less direct response to Milton Friedman, maybe especially Friedman and Stigler`s `Roofs or Ceilings?`
Part of `Money` is in fact a direct attack on Friedman`s monetarism. The standard Keynesian attack seems to go like this: there comes a point in an economic crisis when the interest rate just cannot be productively lowered any more -- we are at the `zero lower bound`. Banks are afraid to lend out any more money, so they hoard it. Lower interest rates near the ZLB just lead to more hoarding. The distinctive Keynesian response is to emphasize fiscal policy here over monetary policy: the government should actively spend money to put it in consumers` pockets to get people spending, get them borrowing (clear out those hoards), etc. When read today, Keynes sounds somewhat naïve about the prospects for apolitical control of the economy by a technocratic élite; so does Galbraith.
Some of Galbraith`s naïveté comes from a belief that the world is moving to greater centralization: fewer corporations controlling production, and unions representing workers in bulk. It sounds like commerce really was more concentrated during World War II, and consequently that the central planner had a much easier task than he would now. Galbraith doesn`t seem to have updated this picture of the world since 1945.
Still, `Money` is a terrific read. A lot of what Galbraith says makes perfect sense, and I have a much better picture of how monetary policy works. He`s maybe less reliable on Keynesian demand management; just read the final 50 pages or so with the same skepticism that you brought to the rest of the book, and you`ll be fine.