Breaking Down Milton Friedman’s Comments From a Recent Elon Musk Repost

Milton Friedman, recipient of the 1976 Nobel Prize for economic science, speaks during a White House event in Washington on May 9, 2002. Getty Images/Alex Wong

Commentary

Elon Musk recently reposted a FEE social media clip of Milton Friedman discussing inflation.

The post has nearly 44 million views and hundreds of thousands of likes. What caused this clip to resonate with people such that it caught Musk’s attention and went so viral (garnering much more attention than the average post from Musk’s account)?

Let’s break down the clip into pieces to see why Friedman’s wisdom resonates with us today.

‘Inflation Is the Most Destructive Disease Known to Modern Societies’

The clip begins with a strong claim—inflation is unparalleled in its ability to destroy a society. Why would that be? Rising prices are bad, but can they really “destroy” a society?

Economists generally have a few different concerns with inflation’s deleterious effects on society. First, high rates of inflation cause people to engage in costly activities to avoid losing purchasing power. For example, people will run to the bank as soon as they get their paychecks and start spending money on consumer goods or other assets that aren’t losing value.

The resources and energy people use to convert deteriorating currency into stable assets are costly. In particular, economists call these costs “shoe leather costs,” alluding to how people would destroy their shoes in the now-metaphorical run to the bank.

Shoe leather costs are just one reason inflation is deleterious. Another reason inflation is harmful is that it disrupts money’s function of keeping track of the value of things. When prices are stable, we generally comprehend the “relative” value of different goods.

For example, we know that going out to eat at a restaurant is about five times more expensive than eating at home. However, in a world in which prices are increasing at a fast rate, it may be difficult to keep track of the relative cost of things, leading to wasteful decisions. Inflation makes accounting (formal and informal) difficult.

Finally, and most importantly, inflation destroys societies because it destroys the ability to save. When you keep money in a savings account, rising prices mean that the money will be able to buy relatively fewer things. For example, if you have $12,000 in your savings account and you spend $1,000 on rent per month, you have a year’s worth of rent in your savings account.

However, if inflation drives your rent up to $1,500 per month, your bank account now affords you four fewer months of rent.

This is damaging to society for two reasons. First of all, this frustration of people’s ability to plan causes chaos. A person who planned on having a year of savings must suddenly scramble in response to inflation.

Second, savings is the foundation of modern society. In order to increase our future wealth, we save our funds and resources or borrow from the savings of another. For example, there are two ways to afford a house. You could have spent years putting aside money so that you could make the purchase outright, or you could borrow from people (either directly or through an intermediary) who themselves have saved money.

All large-scale, long-term projects require savings. When savings are disincentivized, wealth creation stops (or is even reversed as people begin to consume their savings). This means that people will be more short-sighted in practice, and long-term economic growth will cease. This is why Friedman was so concerned about inflation.

The Cause of Inflation

Friedman then spent time in the video discussing the cause of inflation. He was clear at the start about what isn’t causing inflation.

He said, “[Inflation] doesn’t rise because you’ve got businessmen who are greedy; they’ve always been greedy.”

It’s amazing that this argument being discussed at Friedman’s time is still popular today (the clips in the video come from “Free to Choose, Vol. 9,” which came out in 1980). As Friedman pointed out, the “greedflation” argument is implausible because people are always greedy. Since people are always greedy, the same greed can’t be used to describe new inflation. To quote FEE’s Dan Sanchez:

“Many on the political left blame corporations for “price gouging” in order to fatten their profits. But blaming rising prices on profit-seeking is like blaming a plane crash on gravity.

“Gravity is always pulling down on planes. To explain a plane crash, you have to explain what happened to the factors that had previously counteracted that downward pull. Why did gravity yank the plane down to earth when it did not before?

“Similarly, businesses are always seeking profit and are always ready to raise prices if that is what will maximize profits. To explain precipitous price hikes, you have to explain what happened to the factors that had previously put a lid on that upward price pressure.”

So what is the source of inflation? Friedman argued that it’s policy. He pointed out that citizens have given politicians a difficult task. We ask politicians to spend other people’s money on us, but we don’t want them to spend our money on other people.

This framing is too generous to politicians because it implies that the fault rests on voters alone, but the point is simple. The political system incentivizes people to vote for policies that support their own interests today at the expense of voters down the road. But that means we’re holding the bag today from prior generations. But how does this spending turn into inflation? To get there, we need to look at one more quote from the video.

‘The Real Tax on the American People Is [Total Spending]’

Lastly, Friedman highlighted that the official tax rate is not what matters. Instead, it’s total spending. Why?

I’m going to leverage a prior article I’ve written to help explain:

Taxation is the most straightforward source of government funds. The government taxes incomes, spending, property ownership, property sales, and death. If the government simply spent that money and stopped, that would be the end of the story. But it isn’t.

For more than two decades now, the U.S. government has had more spending than tax revenue. When spending exceeds tax revenue, this is called a deficit. So the deficit is the difference between government spending and tax revenue, or G-T. Mathematically we can express the deficit as follows:

G-T=D+M

This new equation shows that the government deficit must be paid by the remaining sources of revenue: debt financing and money printing.

When spending is greater than tax revenue, there are only two ways for the government to facilitate the extra spending: debt and money printing. However, debt only kicks the can down the road, so, in the long run, a government that persistently runs deficits must pay for them by money printing.

As the government prints money, the new money drives up the demand for goods generally. More money chasing the same amount of goods ultimately leads to higher prices (i.e., inflation).

Meanwhile, this process allocates wealth away from what savers would have used the wealth for and toward projects determined (at least indirectly) by the government. Money exits the private sector.

These higher prices come at the expense of savers. In fact, we can almost think of inflation from money printing as a kind of tax on savings. This is why what really matters is the total amount of government spending. Formal tax rates only tell you what you have to pay today. Total government spending tells you about the taxes you’re going to have to pay going forward. As Henry Hazlitt wrote: “Either immediately or ultimately every dollar of government spending must be raised through a dollar of taxation. ... The country as a whole cannot get anything without paying for it.”

So, in summary, the Friedman video took off because it reminds us to keep our eye on what really matters. As long as the government continues to spend in a way that is out of control, we know higher taxes and inflation are right around the corner. The takeaway is as simple as it is provocative: If we want to reduce inflation, we must significantly rein in government spending.

From the Foundation for Economic Education (FEE)

Views expressed in this article are opinions of the author and do not necessarily reflect the views of The Epoch Times.