------ EH.NET BOOK REVIEW ------
Title: David Laidler’s Contributions to Economics

Published by EH.NET (April 2011)

Robert Leeson, editor, /David Laidler’s Contributions to Economics/. New
York: Palgrave Macmillan, 2010. xii + 376 pp. $110 (hardcover), ISBN:
978-0-230-01898-3.

Reviewed for EH.Net by Thomas M. Humphrey, Federal Reserve Bank of Richmond.

David Laidler, with thirty books and more than 250 published articles, notes,
reviews and parliamentary papers to his credit, is among the more prolific
monetary economists of his time.  His volumes on the /Demand for Money/,
/The Golden Age of the Quantity Theory/, and /Fabricating the Keynesian
Revolution/ are recognized as standards in their field. As one of
monetarism’s leading lights, he is famous for his buffer stock approach to
money demand, for his disequilibrium, sticky price view of the monetary
transmission mechanism, and for his advocacy (unusual for a monetarist) of
constrained discretion rather than rigid rules in the conduct of monetary
policy. What makes him unique, however, is his dual reputation as a monetary
theorist and historian of monetary thought. In this respect he is in the
tradition of Jacob Viner and Don Patinkin, both world-class theorists and
doctrinal historians.  Today, at age seventy-three, Laidler is still going
strong with a steady flow of papers in the pipeline.

In August 2006 a group of economists and policymakers assembled at the
University of Western Ontario to celebrate Laidler’s contributions.  The
resulting conference papers together with comments on them and an interview
with Laidler form the chapters of the book under review. Of the fourteen
chapters, two deal with Laidler’s work in monetary theory in general and
monetarism in particular, two with his writings on doctrinal history, and
three with particular economists -- Thomas Tooke, Ralph Hawtrey, Lauchlin
Currie, Harry Johnson, J. M. Keynes, and others -- who anticipated and/or
influenced him. The remaining chapters cover monetary policy and related
topics of interest to Laidler.

To this reviewer, the most enlightening chapters are those on the history of
monetary thought. They show Laidler’s interest in the subject to be more
than aesthetic and antiquarian. To him doctrinal history is a vital
analytical tool. It serves as a laboratory of earlier policy debates and
experiments and provides a rich data set on those episodes. Laidler mines
eighteenth, nineteenth, and early twentieth century primary sources for
insights, ideas, perspectives, and approaches useful to the solution of
current theoretical and practical policy problems. An example is his use of
Thomas Tooke’s mid-nineteenth century recommendation that the Bank of
England hold excess stocks of gold reserves sufficient to cover temporary
balance of payments deficits thereby avoiding the need to resort to
deflationary contractions of the money stock. Laidler cites Tooke’s
prescription as the foundation of an enlightened modern policy of (1) riding
out temporary real shocks to the balance of payments, (2) using currency
devaluation to remedy persistent monetary shocks, and (3) avoiding deflation
at all costs. Another cited example of the capacity of earlier work to inform
current thinking is Keynes’s 1924 /Tract on Monetary Reform/, with its
seminal formulation of the modern concepts of covered interest parity and of
inflation as a tax on real cash balances as well as a disrupter of relative
price signals and social cohesion. Still another example of the contemporary
relevance of earlier work is Laidler’s use of the classical quantity theory
critique of the real bills doctrine to demonstrate Thomas Sargent and Neil
Wallace’s 1982 misappropriation (and misrepresentation) of that doctrine.

In contrast to the doctrinal historical chapters and those on Laidler’s
contributions to monetarism, at least three chapters either say little about
his writings or survey work antithetical to his. They thus seem out of place
in a festschrift volume purporting to honor him. One chapter, on the
inflation targeting approach to monetary policy, reports that money plays no
role in such policy regimes or in the forecasting models supporting them.
Inflation-targeting central banks set their policy interest rate depending on
predictions from the models. And those models forecast inflation from
variables uninfluenced by money. True, money could be added to the models.
But it would be superfluous and redundant, an analytical fifth wheel. Another
chapter on monetary institutions and theory accuses the quantity theory of
being insufficiently comprehensive, confusing in its differing versions,
ideologically loaded rather than scientifically neutral, politically
motivated as part of a control agenda, and a tool of the wealthy and
powerful, among its other faults. Still a third chapter on market clearing in
monetarist models criticizes Laidler for departing from the correct Walrasian
flexible price, continuous market clearing model for one in which nominal
wages are sticky. Other commentators in the book, however, find this
departure a virtue rather than a vice. It allows Laidler, like David Hume,
Henry Thornton, Alfred Marshall, Irving Fisher, John Maynard Keynes, Lauchlin
Currie, and other quantity theorists before him, to explain how monetary
shocks can have temporary real effects, and to show how variables interact
sequentially in the monetary transmission mechanism.

A highlight of the book is the late Milton Friedman’s last published paper.
He addresses the Taylor curve tradeoff between the variabilities (standard
deviations) of inflation and output. Friedman argues that while the Taylor
curve is a valid theoretical construct in a model of optimal monetary policy,
empirically it is belied by the data, which show no tradeoff between the two
variabilities. Indeed, Friedman demonstrates that erratic monetary policy has
caused the two to be positively, not negatively, correlated: The greater the
variability of inflation, the greater, not less, the variability of output.
Friedman also disputes the interpretation of the Taylor rule (for the setting
of the federal funds rate) as a tradeoff between the goals of price stability
and full employment. He denies that full employment is a separate goal of
monetary policy. Instead it is a side-effect of the achievement of price
stability. For him, the sole justification for including output gaps in the
Taylor rule is to estimate the price-stabilizing federal funds rate when
money growth and output are at disequilibrium levels.

The book contains some surprises reported both by Laidler in his interview
and by other contributors to the volume. It was not Paul Samuelson and Robert
Solow, but rather Grant Reuber, Richard Lipsey, and Harry Johnson who took
the lead in interpreting the Phillips Curve as a policy tradeoff between
inflation and unemployment. Laidler’s auto license plate sports the
Cambridge cash-balance equation M = KPY.  George Stigler, despite his
outstanding work in doctrinal history, nevertheless supported abolition of
the history of economic thought as a requirement for the economics Ph. D at
Chicago. Some LSE Keynesians in the late 1950s suspected that the real
purpose of Milton Friedman’s /A Theory of the Consumption Function/ was to
discredit redistribution policies. Friedman’s finding that the long run
function C = f(Y) was a straight line passing through the origin of the C-Y
diagram implied that redistribution from the rich to the poor was powerless
to raise the overall marginal propensity to consume and so boost aggregate
demand.

A disappointment of the book is that its papers were presented in 2006, too
early to address the recent financial crisis and its recessionary aftermath.
Nevertheless, the doctrinal-historical chapters and those on monetarism hint
at what Laidler might have said about these events and their policy
responses. As a careful reader of the writings of Henry Thornton and Walter
Bagehot, the nineteenth century fathers of lender-of-last-resort theory,
Laidler almost surely would approve of their prescription to quell runs on
financial institutions by accommodating all panic-induced demands for money
via preannounced provision of emergency liquidity created either through open
market operations or through the central bank’s loan facilities. He might
even agree with Thornton’s and Bagehot’s condemnation of bailouts of
insolvent firms, including too-big-to-fail ones. Following Bagehot, he might
disapprove of emergency lending at subsidized, below market, interest rates.

As for the great recession, the book suggests that Laidler’s brand of
monetarism, if not Laidler himself, supports quantitative easing as the way
out. Laidler is skeptical of liquidity traps just as he is skeptical of
assertions of the predominance of interest rate channels (rather than those
of excess money supplies and demands) in the transmission mechanism.
Accordingly, he rejects the claim that the zero lower bound to the federal
funds rate renders monetary policy powerless. His money supply and demand
framework, together with his asserted belief that, even at the zero interest
rate bound, unconventional tools -- including Fed purchases of long-term
government bonds, private equities, foreign exchange, and other assets --
imply that such purchases on a massive scale will so increase the money stock
compared to the demand for it that the resulting attempts of cash holders to
rid themselves of the excess stock of money by spending it will stimulate
real activity. Presumably he would support payment of zero or negative
interest on excess reserves during steep slumps to ensure that increases in
the monetary base are translated into increases in the broad money stock.

Thomas M. Humphrey, retired senior economist at the Federal Reserve Bank of
Richmond, is author of /Money, Exchange and Production/ (Elgar 1998), /Money,
Banking and Inflation/ (Elgar 1993), and /Essays on Inflation/, fifth edition
(Federal Reserve Bank of Richmond). E-mail: [log in to unmask]

Copyright (c) 2011 by EH.Net. All rights reserved. This work may be copied
for non-profit educational uses if proper credit is given to the author and
the list. For other permission, please contact the EH.Net Administrator
([log in to unmask]). Published by EH.Net (April 2011). All EH.Net reviews
are archived at http://www.eh.net/BookReview.

Geographic Location: General, International, or Comparative, North America
Subject: Financial Markets, Financial Institutions, and Monetary History,
History of Economic Thought; Methodology
Time: 18th Century, 19th Century, 20th Century: Pre WWII, 20th Century: WWII
and post-WWII