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2 Dec 2023

Remember phone books? No tome was larger. The pages were about double the normal 8½ by 11-inch size. One for a big metro like Detroit or Philadelphia might run a thousand pages. You could stand on one to reach things high up on a shelf, they were so broad and thick. They could not quite stop a door. Their pages were light. This was of necessity, because otherwise only hulks could lift them. The point of a phone book was to enable common use, for anyone to look up anyone else’s phone number in a region. In terms of total ink on total pages, they were giants.


Cut that crabgrass—this place is important! (Photo by Jim WATSON / AFP) (Photo by JIM WATSON/AFP via ... [+] Getty Images)

AFP via Getty Images

To get a load of an example, you could watch an old movie like All the President’s Men (1976). Or you could look at contemporary books on Federal Reserve history. Allan H. Meltzer’s official history of the Federal Reserve, in three volumes from the University of Chicago Press finished in 2009, is an excellent approximation of the phone books of yesteryear’s size. Meltzer’s three volumes totaled two thousand pages easy, on quality paper that could indeed stop a door. Just as good is the three-volume biography of economist Milton Friedman by Federal Reserve economist Edward Nelson, also from the U of C Press, the last volume forthcoming. Total pages for the three volumes must edge up to two thousand. Milton Friedman, the dear economist who talked incessantly about the money supply and the importance of the Fed in getting that money supply right, is the greatest thing ever to happen to the Federal Reserve in modern times.

Last month, a most delightful and informative biography of Friedman, by Stanford’s Jennifer Burns, came out. At but 500 pages, we must set it aside for our purposes here. It does not qualify as a phone book. But it does give rise to the question—why so much university-press serious, scholarly, dedicated expression about the history of the Fed and its great watcher and exhorter Friedman?

To be clear, the Meltzer and the Nelson are like the Burns most enjoyable books to read. If one has a yen for matters political economic, they are beautifully researched candy. But what if the Fed is irrelevant?

Fischer Black, the economist of Black-Scholes option-equation fame, all but proved mathematically, in the 1970s, the obvious point that the Fed is irrelevant in its major arena, discretionary monetary policy. Black showed that “active” monetary policy is impossible. If the Fed tries to push people to hold more cash and less in bonds or whatever, people will react by holding what they want irrespective of the wishes of some wannabe manipulator. Black said that if the Fed could affect asset allocation, or if there were “lags” as Friedman taught in the effect of Fed monetary policy actions on the public’s money-holding outcomes, the profit opportunities in arbitrage would be gigantic. The arbitragers would attack, and the manipulation would cease. The status quo of an irrelevant Fed would hold.

Goldman Sachs noted this and hired Black out of MIT in the 1980s. If Friedman was right that there are lags in monetary policy, and monetary policy does matter, our clients can arbitrage all of it and make beaucoupbucks, the thinking went. The white-shoe firm found, however, that in the latter 1980s and the 1990s, as it featured Black in its roadshows, its clients were so busy making money in all the real businesses sprouting up in the Reagan-era boom that there was no attention span for indulging the idea that the Fed might be able to conduct active monetary policy. There was too much action in real businesses. Everyone forgot about the idea of arbitraging the Fed. Black himself became an ornament.

Enter the Fed/Friedman historians. If the smart money confirms that monetary policy is impossible, how do we justify the Fed and attention upon it? Phone books are one way. Thousand-page, university-press, peer-reviewed, gravitas tomes are by their form important and relevant. Official intellectual resources devoted at scale to a subject means that the subject must be deserving of such devotion. It is a case of special pleading. If the Fed were relevant, the books would be 250 pages. The books would prioritize rhetorical efficiency, comporting with the practicality of relevance, and the case would be clear as a bell.

Friedman in emphasizing the imperativeness of getting active monetary policy right assumed the premise, that active monetary policy is a thing. Black presented his views in Friedman’s seminar at Chicago in the 1970s, and apparently things got very argumentative in that session. Black would obtain his institutional backers, in Goldman Sachs, as Friedman would his, in the vast staff of the Federal Reserve and the academic support apparatus in the field of economics sympathetic to the concept of active monetary policy.

Freidman was a relentless critic of the Fed, but the core of his argument was that the Fed was relevant and could do better, much better, than currently. He gave a permanent mandate to the Fed, namely to bear down and do much better. This played right into the hands of the Fed and its advocates and beneficiaries in economics, inclusive of the bloated rational expectations literature predominant in the field from the 1970s on.

If the Fed can always do better, saying so is a mandate to study like crazy and nail things down ever more. The Ph.D.’s by the scads employed at the Fed and in the ivory towers studying monetary policy, the thousand-page tomes, the parade of papers, the peer-reviewed seriousness, all of this took advantage of Friedman’s urging of the Fed to do better. Friedman was so immensely popular among the public that the Fed and its employees-by-extension in academia saw an opportunity. Use the endorsement of the idea of active monetary policy by this popular and beloved personage to justify work at and on the Fed.

None of this had anything to do with the real economy, about which Black was clear. The Fed has real economic power when it comes to banking regulation, to be sure. But its view that the facticity of active monetary policy is an unarguable point is self-serving.