Why and how should a monetary economy be stabilized? The forgotten lessons of Milton Friedman

This chapter discusses the lessons Friedman could have for today regarding the issue of stabilization policies. After an introduction, a few critical arguments are stressed at the theoretical level: the idea that individuals (whether private agents or policymakers) face uncertainty rather than risk in the short run, and the idea that people take time to adapt their short-run nominal expectations. Hence the argument of a cyclical adjustment process that undermines our contemporary understanding of business cycles within the framework of rational expectations. The chapter then shifts attention to the policy ground. Above all, Friedman's overall policy approach makes a case for reflationism—far removed from laissez-faire principles. His specific treatment of expectations implies gradualism in policy regime changes. Last, the stabilization of a monetary economy requires that the monetary side of the economy should be rendered ‘tight' with regard to shocks and major processes of adjustment in financial markets.