The nomination of Janet Yellen to become head of the Federal Reserve System has set off a flurry of media stories. Since she will be the first woman to occupy that position, we can only hope that this will not mean that any criticism of what she does will be attributed to sex bias or to a "war on women."
The Federal Reserve has become such a major player in the American economy that it needs far more scrutiny and criticism than it has received, regardless of who heads it.
Ms. Yellen, a former professor of economics at Berkeley, has openly proclaimed her views on economic policy, and those views deserve very careful scrutiny. She asks: "Will capitalist economies operate at full employment in the absence of routine intervention?" And she answers: "Certainly not."
Janet Yellen represents the Keynesian economics that once dominated economic theory and policy like a national religion — until it encountered two things: Milton Friedman and the stagflation of the 1970s.
At the height of the Keynesian influence, it was widely believed that government policy-makers could choose a judicious trade-off between the inflation rate and the rate of unemployment. This trade-off was called the Phillips Curve, in honor of an economist at the London School of Economics.
Professor Milton Friedman of the University of Chicago attacked the Phillips Curve, both theoretically and empirically. When Professor Friedman received the Nobel Prize in economics — the first of many to go to Chicago economists, who were the primary critics of Keynesian economics — it seemed as if the idea of a trade-off between the inflation rate and the unemployment rate might be laid to rest.
The ultimate discrediting of this Phillips Curve theory was the rising inflation and unemployment, at the same time in the 1970s, in what came to be called "stagflation" — a combination of rising inflation and a stagnant economy with high unemployment.
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