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Getting a grip on the demand for and the supply of money is where the Fed is stumbling in deciding what interest rates should be, as it tries to return from its overlong frolic with “quantitative easing” zero-interest-rate policies. The result has been the recent “wild ride” on Wall Street.
After President Nixon cut the last link to gold in 1971, the 1970s became a nightmare of double-digit inflation and double-digit interest and mortgage rates. With no market guidance on money supply growth, that was the result of Keynesian reliance on seat-of-the-pants monetary policy.
Milton - Friedman - Close - Advisor - Reagan
Milton Friedman, a close advisor to Reagan, finally won the debate that the double-digit inflation of the 1970s was due to excessive money supply growth. Friedman advocated a fixed rule of money supply growth at 5 percent.
That would have worked in the 1970s to end double digit inflation, because Keynesians, for whom faster money supply growth was considered pro-growth policy, had dominated the policy debate for so long that the entire economy was predicated on double-digit growth of both the demand for and the supply of money.
Friedman - Demand - Money - Fed - Money
Friedman thought the demand for money was so stable that it could be considered practically fixed. But as the Fed worked money supply growth, and hence inflation, down from the 1970s double digits after Reagan took office, the need for a surer guide to the demand for money became obvious.
For long term prosperity, money supply must equal the demand for money. But where can the demand for money be found? The answer is that you can only find the demand for money in market prices. And that is why the Fed stumbled onto the “Price Rule” during the Reagan era.
Fed - Inflation - Time
Back then, the Fed was trying to ramp down inflation, but trying not to overdo it at a time when it was also...
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