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Two Types of Monetarism Author(S): Kevin D. Hoover Source: Journal of Economic Literature, Vol Two Types of Monetarism Author(s): Kevin D. Hoover Source: Journal of Economic Literature, Vol. 22, No. 1 (Mar., 1984), pp. 58-76 Published by: American Economic Association Stable URL: http://www.jstor.org/stable/2725227 Accessed: 09/09/2008 10:40 Your use of the JSTOR archive indicates your acceptance of JSTOR's Terms and Conditions of Use, available at http://www.jstor.org/page/info/about/policies/terms.jsp. JSTOR's Terms and Conditions of Use provides, in part, that unless you have obtained prior permission, you may not download an entire issue of a journal or multiple copies of articles, and you may use content in the JSTOR archive only for your personal, non-commercial use. Please contact the publisher regarding any further use of this work. Publisher contact information may be obtained at http://www.jstor.org/action/showPublisher?publisherCode=aea. Each copy of any part of a JSTOR transmission must contain the same copyright notice that appears on the screen or printed page of such transmission. JSTOR is a not-for-profit organization founded in 1995 to build trusted digital archives for scholarship. We work with the scholarly community to preserve their work and the materials they rely upon, and to build a common research platform that promotes the discovery and use of these resources. For more information about JSTOR, please contact [email protected]. http://www.jstor.org Journal of Economic Literature Vol. XXII (March 1984), pp. 58-76 Two Types of Monetarism By Kevin D. Hoover NuffieldCollege, Oxford University I am grateful to Milton Friedman, David Laidler, Seth Mastersand an anonymous referee for useful comments on an earlier draft. I would particularly like to thank Peter Oppenheimer who first asked me the question this essay seeks to answer. Without his encourage- ment and criticism it would never have been written. I. Introduction the elements of this vector, while playing down related ones. Another definition THE 1970s witnessed the rise of two may take the related ones to be more im- --fashionable macroeconomic schools of portant. The borders of such categories thought-monetarism and the so-called are bound to be poorly defined. "new classical" macroeconomics, the lat- Although the definitions may be arbi- ter usually closely identified with one of trary, the attempts to formulate them are its fundamental components, the rational not sterile. Individual monetarists may expectations hypothesis. Both schools bear only a family resemblance to one an- trace their ancestory to older economic other; nevertheless, the effort of classify- doctrines, but it is just in the last decade ing them yields clarification as a by-prod- that they have moved into the main- uct. stream of post-war macroeconomics. The new classical economics has not The increasing importance of monetar- been surveyed in quite the same spirit as ist and new classical thinking naturally re- monetarism. The emphasis has been on sulted in attempts to define each doctrine its relationship to other distinct doctrines, and to classify disparate thinkers as adher- rather than on who is or is not a new classi- ents or opponents. Monetarism has been cal (Brian Kantor, 1979; Stein, 1982). In- surveyed, inter alia, in Thomas Mayer deed, the question of whether or not the (1978), Jerome Stein (1976), Douglas Pur- new classicals are monetarists has loomed vis (1980), David Laidler (1981, 1982), and large in these discussions. James Tobin James Meade (1981). Despite these at- (1980, 1981) calls the new classicals"mon- tempts no universally accepted definition etarists mark II." He bases the title on the of monetarism and, hence, no universally similarity of the two schools' policy pre- accepted classification of who is and who scriptions. Frank Hahn (1980) agrees that is not a monetarist has emerged. The rea- they are monetarists, but bases the judg- son is, of course, that any economist is de- ment on the similarity of their theoretical scribed most fully by a vector of character- presuppositions. Laidler (1981, 1982), on istics. Any definition emphasizes some of the other hand, finds that they are not 58 Hoover: Two Types of Monetarism 59 monetarists, but rather more closely re- its most eminent proponent, Friedman, lated to the Austrian school (Kantor, by himself, while letting several econo- 1979). He rejects Hahn's classification as mists' views present the new classical doc- misleading, because it is precisely theoret- trine. One reason for doing so is that parts ical differences which, he believes, sepa- of Friedman's work are a foundation for rate the new classicals from the monetar- much of the new classical doctrine (espe- ists. cially Friedman 1968; Lucas 1972a, In this essay, I do not want to enter the 1981b). Another reason is that Friedman debate over titles-"monetarist" or not has contributed to economic methodol- "monetarist."I do want to clarify the rela- ogy, as well as to monetarist thought. As tionship between some sorts of monetar- a result, since the principal distinction be- ism and the new classical school. To do tween Friedman and the new classicals this I will compare Milton Friedman, in- examined in Parts IV and V is method- disputably a monetarist, with Robert Lu- ological, Friedman's writings give us an cas, Thomas Sargent, Neil Wallace and explicit formulation from which to work. others, as representative of the new classi- Part of the imbalance can be set right cal school. The principal theme of the es- by defining the new classical economics. say is that, although we may wish to clas- It has rarely, if ever, been explicitly de- sify the new classicals as monetarists (for fined by its adherents. The territory, how- Tobin's or for Hahn's reasons) or we may ever, has been surveyed (Sargent, 1979, not (for Laidler's reasons), Friedman, as 1982; Michael Beenstock, 1980; Willem one important monetarist, differsfrom the Buiter, 1980). And the subsidiaryelement, new classicals on a fundamental point of rational expectations, has been exten- methodology: he is a Marshallian;they are sively covered (Robert Shiller, 1978; Da- Walrasians. vid Begg, 1981; Lucas and Sargent, 1981; Part II attempts to define the new classi- Rodney Maddock and Michael Carter, cal economics and to clarify its relation 1982). to the rational expectations hypothesis. Three tenets are keys to the new classi- Part III explores the practical and theoret- cal doctrine. First, agents' real economic ical relations between Friedman and the decisions for example, about savings, new classicals that give plausibility to To- consumption or investment-are based bin's title, "monetarist mark II," and inter- solely on real, not nominal or monetary est to the debate over its- aptness. Part factors. Second, agents are, to the limits IV introduces the fundamental methodo- of their information, consistent and suc- logical distinction between Friedman and cessful optimizers; i.e., they are continu- the new classicals. Part V shows how this ously in equilibrium. Third, agents make distinction underlies and accounts for the no systematic errors in evaluating the eco- differences between Friedman's and the nomic environment: i.e., they hold ra- new classical views on equilibrium and dy- tional expectations (Lucas, 1977; Sargent, namics. Finally, Part VI summarizes the 1979, Ch. 16). argument. The rational expectations hypothesis is perhaps the most striking feature of the II. The New Classical Economics Defined new classical doctrine. The universally ac- cepted formulation is due to John Muth In view of the difficulties of definition (1961, p. 316): "Expectations . tend to and classification mentioned in the Intro- be distributed, for the same information duction, it may seem odd to represent the set, about the prediction of the theory (or older monetarism by the views of even the 'objective' probability distribution of 60 Journal of Economic Literature, Vol. XXII (March 1984) outcomes)."1 Muth claims that this hy- agents are consistent and successful op- pothesis involves three assertions: first, timizers. information is scarce and the economic The importance of the rational expecta- system does not waste it; second, expec- tions hypothesis is to carry these features tations are formed from the specific struc- over to the dynamic problem. If agents ture of the relevant system describing are to optimize over their future behavior, the economy; and, third, public predic- their expectations of the future are bound tions can have no substantialeffects unless to be important. Rationalexpectations im- there is "inside" information; i.e., a (true) plies that what they do expect is (within economic forecast does not give anyone a serially uncorrelated error) what the a special opportunity to profit from it if true model says they should expect. This it is known to everyone. guarantees that they will be consistent Muth's notion of an information set can and successful. be taken broadly, but if taken too broadly Not everyone who uses the rational ex- it is of little use. Typically the information pectations hypothesis should be classified set is defined to include all the exogenous as new classical. The principle of rational variables, all past values of endogenous expectations can be employed by anyone variables and, crucially, the structure of seeking a convenient and, in some sense, the model (i.e., Muth's "relevant system"). neutral way of introducing endogenous This amounts to claiming that the model expectations into an economic model. adequately captures those features of the One may adhere to the rational expecta- world relevant to the formation of expec- tions hypothesis, yet violate the other te- tations, and that agents act as if they know nets by, for example, holding that prices the model when forming their expecta- are not flexible or that agents do not op- tions. timize (Stanley Fischer, 1977; Edmund While the rational expectations hypoth- Phelps and John Taylor, 1977; Tobin, esis is a fundamental part of the new classi- 1980).
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