Free To Choose: a personal Statement

Figure 6. INFLATION FOLLOWS MONEY:
THE CASE OF JAPAN
Percent increase from
same month year earlier
Source: Japanese Economic Planning Agency

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The Cure for lnflation
281
mental change in monetary policy. Emphasis shifted from the ex-
ternal value of the yen—the exchange rate—to its internal value
—inflation. Monetary growth was reduced sharply, from more
than 25 percent a year to between 10 and 15 percent. It was kept
there, with minor exceptions, for five years. (Because of Japan's
high rate of economic growth, monetary growth in this range
would produce roughly stable prices. The comparable rate for the
United States is 3 to 5 percent.)
About eighteen months after monetary growth started declining,
inflation followed suit, but it took two and a half years before in-
flation fell below double digits. Inflation then held roughly con-
stant for about two years—despite a mild upturn in monetary
growth. Inflation then started moving rapidly toward zero in
response to a new decline in monetary growth.
The numbers on inflation in the chart are for consumer prices.
Wholesale prices did even better. They actually declined after
mid-1977. The postwar shift of workers in Japan from low-pro-
ductivity sectors to high-productivity sectors, such as automobiles
and electronics, has meant that prices of services have risen sharply
relative to prices of commodities. As a result, consumer prices
have risen relative to wholesale prices.
Japan experienced lower growth and higher unemployment
after it slowed monetary growth, particularly during 1974 before
inflation started to respond appreciably to the slower monetary
growth. The low point was reached at the end of 1974. Output
then began recovering and grew thereafter—more modestly than
in the boom years of the 1960s but at a highly respectable rate
nonetheless: more than 5 percent per year.
Price and wage controls were not imposed at any time during
the tapering down of inflation. And the tapering down occurred
at the same time that Japan was adjusting to higher prices for
crude oil.
CONCLUSIONS
Five simple truths embody most of what we know about in-
flation :
1. Inflation is a monetary phenomenon arising from a more

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FREE TO CHOOSE: A Personal Statement
rapid increase in the quantity of money than in output (though,
of course, the reasons for the increase in money may be various).
2. In today's world government determines—or can determine
—the quantity of money.
3. There is only one cure for inflation: a slower rate of increase
in the quantity of money.
4. It takes time—measured in years, not months—for inflation
to develop; it takes time for inflation to be cured.
5. Unpleasant side effects of the cure are unavoidable.
The United States has embarked on rising monetary growth
four times during the past twenty years. Each time the higher
monetary growth has been followed first by economic expansion,
later by inflation. Each time the authorities have slowed monetary
growth in order to stem inflation. Lower monetary growth has
been followed by an inflationary recession. Later still, inflation
has declined and the economy has improved. So far the sequence
is identical with Japan's experience from 1971 to 1975. Unfor-
tunately, the crucial difference is that we have not displayed the
patience Japan did by continuing monetary restraint long enough.
Instead, we have overreacted to the recession by accelerating
monetary growth, setting off on another round of inflation, and
condemning ourselves to higher inflation plus higher unemploy-
ment.
We have been misled by a false dichotomy : inflation or unem-
ployment. That option is an illusion. The real option is only
whether we have higher unemployment as a result of higher in-
flation or as a temporary side effect of curing inflation.

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CHAPTER 10
The Tide
Is Turning
The failure of Western governments to achieve their proclaimed
objectives has produced a widespread reaction against big govern-
ment. In Britain the reaction swept Margaret Thatcher to power
in 1979 on a platform pledging her Conservative government to
reverse the socialist policies that had been followed by both La-
bour and earlier Conservative governments ever since the end of
World War II. In Sweden in 1976, the reaction led to the defeat
of the Social Democratic party after more than four decades of
uninterrupted rule. In France the reaction led to a dramatic change
in policy designed to eliminate government control of prices and
wages and sharply reduce other forms of government interven-
tion. In the United States the reaction has been manifested most
dramatically in the tax revolt that has swept the nation, symbo-
lized by the passage of Proposition 13 in California, and realized
in a number of states in constitutional amendments limiting state
taxes.
The reaction may prove short-lived and be followed, after a
brief interval, by a resumption of the trend toward ever bigger
government. The widespread enthusiasm for reducing government
taxes and other impositions is not matched by a comparable en-
thusiasm for eliminating government programs—except programs
that benefit other people. The reaction against big government
has been sparked by rampant inflation, which governments can
control if they find it politically profitable to do so. If they do,
the reaction might be muted or disappear.
We believe that the reaction is more than a response to transi-
tory inflation. On the contrary, the inflation itself is partly a re-
sponse to the reaction. As it has become politically less attractive
to vote higher taxes to pay for higher spending, legislators have
resorted to financing spending through inflation, a hidden tax that
can be imposed without having been voted, taxation without rep-
283

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resentation. That is no more popular in the twentieth century than
it was in the eighteenth.
In addition, the contrast between the ostensible objectives of
government programs and their actual results—a contrast that has
been a persistent theme of earlier chapters—is so pervasive, so
widespread, that even many of the strongest supporters of big
government have had to acknowledge government failure—though
their solution almost always turns out to be still bigger govern-
ment.
A tide of opinion, once it flows strongly, tends to sweep over
all obstacles, all contrary views. Equally, when it has crested and
a contrary tide sets in, that too tends to flow strongly.
The tide of opinion toward economic freedom and limited gov-
ernment that Adam Smith and Thomas Jefferson did so much to
promote flowed strongly until late in the nineteenth century. Then
the tide of opinion turned—in part because the very success of
economic freedom and limited government in producing economic
growth and improving the well-being of the bulk of the popula-
tion rendered the evils that remained (and of course there were
many) all the more prominent and evoked a widespread desire
to do something about them. The tide toward Fabian socialism
and New Deal liberalism in turn flowed strongly, fostering a
change in the direction of British policy early in the twentieth
century, and in U.S. policy after the Great Depression.
That trend has now lasted three-quarters of a century in Britain,
half a century in the United States. It, too, is cresting. Its intel-
lectual basis has been eroded as experience has repeatedly contra-
dicted expectations. Its supporters are on the defensive. They have
no solutions to offer to present-day evils except more of the same.
They can no longer arouse enthusiasm among the young who now
find the ideas of Adam Smith or Karl Marx far more exciting than
Fabian socialism or New Deal liberalism.
Though the tide toward Fabian socialism and New Deal liber-
alism has crested, there is as yet no clear evidence whether the
tide that succeeds it will be toward greater freedom and limited
government in the spirit of Smith and Jefferson or toward an
omnipotent monolithic government in the spirit of Marx and Mao.
That vital matter has not yet been determined—either for the
intellectual climate of opinion or for actual policy. To judge from

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