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Friedman and free banking

Today is the centenary of Milton Friedman’s birth. (He died on November 16, 2006.) To honor it, Julio Cole, a professor at Francisco Marroquín University in Guatemala, compiled a bibliography of Friedman’s scholarly writings earlier this year. An earlier bibliography, which adds many of his newspaper articles and other more ephemeral writings, exists in The Essence of Friedman, an excellent collection edited by Kurt Leube.

Friedman’s ideas on monetary policy changed over time. He began as a convinced Keynesian. Then, of course, he became the leader of the monetarist school, and wrote with Anna Schwartz the groundbreaking Monetary History of the United States, 1867-1960. The most influential aspect of the book was how it changed the views of economists about what caused the Great Depression—and, by implication, many other economic disasters. Friedman and Schwartz blamed the Federal Reserve System, and to consider how completely their argument has been accepted it suffices to recall that Ben Bernanke, who at the time was a Federal Reserve governor though not yet the chairman, remarked at a 90th birthday celebration for Friedman, “Let me end my talk by abusing slightly my status as an official representative of the Federal Reserve. I would like to say to Milton and Anna: Regarding the Great Depression. You're right, we did it. We're very sorry. But thanks to you, we won't do it again.”

Late in his career, Friedman switched from advocating a constant growth rate for M2 to a quite different approach: freeze the monetary base and deregulate financial institutions, including letting them issue currency (“Monetary Policy for the 1980s,” originally in John Moore [editor], To Promote Prosperity: U.S. Domestic Policy in the Mid-1980s, 1984, reprinted in the Leube volume.)

A bit later, in 1986, he discussed free banking in an article with Anna Schwartz, “Has Government Any Role in Money?” (Journal of Money, Credit and Banking, also reprinted in the Leube volume). Friedman and Schwartz cited Larry White’s work on free banking in Scotland, but claimed that the experience of the United States before the Civil War is much less favorable to the case for free banking. I think they understated the influence of the different legal frameworks in various states on the shape the U.S. banking system took, and therefore understated the extent to which the U.S. banking system was far less free than the Scottish system.

Friedman ended up being close to the free banking position as far as his ideas for contemporary policy were concerned, though not in terms of his interpretation of the history of the system. Friedman's later views remain obscure, even among monetary economists, compared to his middle-period advocacy of targeting M2, the view he held at the time he was awarded the Nobel Memorial Prize in economics.