Summary Capitalism & Freedom by Milton Friedman

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 support ed 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 1 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” 2 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 3 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 5 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 6 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 established firms by encouraging retention of earnings. Exemption of labour unions from anti-trust laws is yet another source of government monopoly power. Furthermore, the purpose of government should be the issuing of patents and copyrights to ensure protection of intellectual rights. Hence, good government policy is the elimination of monopoly, the abolishment of corporate tax and reduction of income tax. In Friedman’s words, “in the free society, there is one and only one social responsibility of business to use its resources and engage in activities designed to increase its profits”. It is a waste of resources for businesses to contribute to charities, such contributions should be made by the individuals who are the owners of property. CHAPTER IX: Occupational Licensure 7 Summary: CAPITALISM & FREEDOM by Milton Friedman Chapter 9 is based on Occupational Licensure (OL). OL is the tendency for particular occupations to be restricted to individuals licenced to practice them. This system, similar to the Medieval Guild and the caste system, is believed to be a retrogression of freedom and liberal thought. It restricts the freedom of individuals to use their resources as they see fit. The justification used by members of the occupation is that OL protects the public interest. OL involves control by the members of the occupation, who may have economic interests in many of the decisions involving this system. Policy issues raised by Licensure are distinguished into 3 levels of control: registration, certification and licensure. Registration involves individuals writing their names in a register if they can do certain kinds of activities. Certification is a government agency certifying that an individual has certain skills. Licensing is obtaining a license from a recognised authority, in-order to engage in occupation, which requires demonstration of competence. Competence perhaps could reduce “neighbourhood effects” of OL such as an incompetent physician creating an epidemic. The social costs of Licensure is that, the producer group can develop a monopoly against the rest of the public. Friedman says that certification on its own is better than licensure in dealing with monopolies, and protecting ignorant consumers from incompetent producers. Friedman concludes that there are many alternatives to the present organisation of practice. The impossibility of any individual or small group conceiving all the possibilities, works against the central governmental planning and against arrangements such as professional monopolies. Whereas, the great argument for the market is its tolerance of diversity. It permits the customers and not the producers to decide what will serve the customers best. CHAPTER X: The Distribution of Income Society feels strongly about income equality and the need for the government to achieve this. In a free market economy, ethical distribution of income is based on that: "each individual earns according to what he, and the instruments he owns, produces." Another way to distribute income fairly is through equality of treatment. For two equally resourced individuals, if one prefers a routine job with much time off and the other prefers a much demanding job, it is fair that, the one with the demanding job be paid more. Equal treatment means that a dirty, unattractive job should pay more than an attractive, rewarding one. Another form of ethical income distribution comes from the way the market operates. Paying people equally regardless of the amount of risks they take will de-motivate people from taking risks. In contrast, government's mode of income distribution through progressive taxation is like redistributing lottery winning, because taxes are imposed after earnings are known. Society accepts wealth that is accumulated by an individual as opposed to wealth inherited. It is illogical to say that one is entitled to what he has produced or accumulated by personal capacities, but not entitled to pass any wealth on to his children. In a market society, earning payments for what 8 Summary: CAPITALISM & FREEDOM by Milton Friedman you produce is an allocative process and not a distributive one. Individuals cooperate to satisfy their wants efficiently. Not making profit will only dis-incentivize them to cooperate willingly, hence poor allocation of resources. However, one cannot be compelled to put in their best effort. Inequalities in wealth create the patrons of the arts and sciences that make life-improving art and innovations for all; it is the wealthy that fund artists and new technologies that would not be funded by governments or individuals in socialist systems." Though criticized for materialism, the more capitalistic a country, the less spent on capital accumulation and the more paid towards worker’s productive capacities. In developing nations, nearly half of income is property based; in the developed world only one fifth. "The great achievement of capitalism has not been the accumulation of property, but the opportunities it has offered to people to extend and develop and improve their capacities. Capitalism has brought the luxuries of the wealthy to the masses, medicine aside, and have eliminated their backbreaking labour.” Generally, non-capitalist societies have wider inequalities. Governments have most often used graduated income and inheritance taxes to distribute income. Friedman concedes that it is not possible to definitively state if this has met their intended goals but believes it has done harm. They discourage the wealthy from becoming wealthier but have not made them less so. They have inspired loopholes that have made them ineffective while wasting the creative energies of competent men. Regardless, they are undesirable. Friedman generally suggests a flat-tax structure as the most just, set at 23.5%, which he believes would de-incentivize tax-avoidance loopholes and increase overall revenues. Much of the actual inequality derives from imperfections of the market. Many of these have themselves been created by government action or could be removed by government action. There is every reason to adjust the rules of the game so as to eliminate these sources of inequality. For example, special monopoly privileges granted by government, tariffs, and other legal enactments benefiting particular groups, are a source of inequality. The removal of these, will be welcomed by the liberals. CHAPTER XI: Social Welfare Measures The humanitarian and egalitarian sentiment responsible for producing the steep graduated individual income tax is also responsible for producing a benchmark for measuring the welfare of a certain group of people in society. In this chapter, Friedman lists varied welfare measures and their effects. (1) Public Housing has caused more harm than good, leaving people in bad situations and causing “urban light.” The subsidization of housing for low income earners has led to a high density of 9 Summary: CAPITALISM & FREEDOM by Milton Friedman broken homes which may lead to an increase in social crimes. In order for all these negatives effects to be avoided, instead of subsidized housing, low income earners should be assisted with cash grants to buy their own houses. (2) Minimum wage on the outside looks like a good thing that helps the poor in society but in actual it is causing havoc. Minimum wages rather increase the poverty and unemployment rates. It forces employers to pay their workers a minimum wage which they cannot afford. In the long run, employers lay off some workers which then causes slums and raises the unwanted need for public housing. (3) Farm price support does not achieve its main objective of helping the farmer, instead it worsens the situation. The main purpose of this is to increase the production of the farmer, instead the consumer ends up buying the products at a higher price with taxes for the price supports. The farmer in need is then left with restrictions and a detailed centralized control while the nation suffers from bureaucracy. (4) The Social Security program involves a large-scale invasion into the personal lives of a large percentage of the country without any justification. The government then requires some people to purchase specific annuities then they later engage in the redistribution without using the device of annuity. This then results in inequitable and unjustifiable income redistribution. CHAPTER XII: The Alleviation of Poverty In this chapter, Friedman argues that contrary to the inequalities argument provided against capitalism; capitalism instead reduces the poverty levels. Private charities have thus proven to be more effective than government welfare programs as they were all based on individual freedom to give. Government welfare programs instead resulted in negative income tax, in which money is taken from some and used to subsidize for others. Friedman argues on how the effectiveness of poverty alleviation can only be achieved through voluntary action, in which people give off privately and not through government coercion. CHAPTER XIII: Conclusion Friedman concludes by acknowledging that government intervention will always be viewed as good whilst free markets are seen as evil. Government intervention was more immediate and materialistic than freedom but its evils more gradual. Eventually, government intervention would give the state a monopoly. It was only through freedom that could ensure that men are free to pursue their interests. 10