Why Friedman Is Wrong On The Business Cycle

According to an article in Bloomberg on November 5, 2019, Milton Friedman’s business cycle theory seems to be vindicated.

According to Milton Friedman, strong recoveries are just natural after particularly deep recessions. Like a guitar string, the harder the string is plucked down, the faster it should come back up.

Bigger recessions should lead to faster growth rates during the recoveries, to get the economy back to the pre-recession level of activity. In Friedman’s model, the size of the recession predicts the growth rate in the recovery.1

The Bloomberg article refers to a study by Tara Sinclair that employs advanced mathematical techniques that supposedly confirmed Friedman’s hypothesis that in the US bigger recessions are followed by faster recoveries — but not the other way around. According to Bloomberg, some other researchers found similar results for other countries.

On this way of thinking, views such as those presented by Ludwig von Mises that the magnitude of an economic bust is because of the magnitudes of the previous boom is false.

Contrary to Mises, a common view is the bust is caused by various mysterious factors that have nothing to do with the previous boom. But that the main problem with Friedman’s model is the lack of a coherent definition of what a boom-bust cycle really is.

Defining Boom-Bust Cycles

In a free, unhampered market, we could envisage that the economy would be subject to various shocks, but it is difficult to envisage a phenomenon of recurrent boom-bust cycles. According to Rothbard,

Before the Industrial Revolution in approximately the late 18th century, there were no regularly recurring booms and depressions. There would be a sudden economic crisis whenever some king made war or confiscated the property of his subjects; but there was no sign of the peculiarly modern phenomena of general and fairly regular swings in business fortunes, of expansions and contractions.

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