Abstract
This chapter reviews the contributions of Chicago economists to the field of international economics. We discuss the early research of Jacob Viner in the 1930s, but focus primarily on the “golden era” of the 1960s. At that time, Harry Johnson, Robert Mundell, Arnold Harberger, and others made important contributions to the theory of commercial policy, exchange rates, and open economy macroeconomics.
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Notes
- 1.
During the First World War, Viner served in policy positions at the Tariff Commission and the US Shipping Board in Washington, D.C.
- 2.
Friedman referred to it as the greatest intellectual experience of his life. See Irwin and Medema (2013).
- 3.
Perhaps the most famous of that select group was Arthur Bloomfield (Bloomfield 1992).
- 4.
Harberger received his PhD from Chicago under Metzler in 1950.
- 5.
The “Metzler paradox” refers to a case in which, under certain elasticity conditions, a tariff can reduce the domestic relative price of the import-competing good and thereby fail to protect the domestic industry (Metzler 1949). The “Laursen-Metzler effect”—sometimes called the “Harberger-Laursen-Metzler effect”—suggests that terms of trade deterioration will lead to a weakening of the current account (Laursen and Metzler 1950; Harberger 1950). This is because the terms of trade deterioration lower real income, but consumers will strive to maintain their standard of living by increasing their expenditure and decreasing their savings rate. Set in the context of flexible exchange rates, this proposition is still studied and debated today (Svensson and Razin 1983).
- 6.
Metzler’s Collected Papers were published by Harvard University Press in 1973. Most of the papers were written between 1941 and 1951 and include work on monetary economics and macroeconomics.
- 7.
- 8.
Mundell was a postdoctoral fellow in political economy at the University of Chicago in 1956–1957, where he became interested in the work of Metzler in theory and Friedman in policy.
- 9.
Although his contributions to international economics were mainly in monetary and fiscal policy in an open economy, Mundell—prior to having joined the Chicago faculty—wrote several important papers in the late 1950s on international trade, including a pathbreaking piece on factor mobility and international trade.
- 10.
His Harvard dissertation was Canada’s Balance of International Indebtedness, 1900–1913, published by Harvard University Press in 1924. It provided an inductive test of various theories of balance of payments adjustment.
- 11.
Ohlin’s book Interregional and International Trade (Ohlin 1933) helped establish the Heckscher-Ohlin factor endowments theory of trade that became the dominant paradigm in the field starting in the 1950s (and for which he won the Nobel Prize in 1977).
- 12.
See Vanek (1959) for a review of the two approaches. From today’s perspective, Viner is best known for the “specific factors” or “Ricardo-Viner” model of trade. The term “Ricardo-Viner specific factors” was coined by Samuelson (1971). However, as Maneschi (1992) has pointed out, the specific factor model does not appear in Viner’s 1937 book.
- 13.
See Humphrey (1988) for a history of the diagram.
- 14.
- 15.
Just as Friedman’s work spawned many Chicago dissertations estimating money demand in various countries, Johnson’s and Harberger’s work became the launching point for much doctoral research at Chicago and elsewhere that calculated the effects of various trade policies. For a survey of empirical work measuring the impact of trade policy, taking the Johnson and Harberger work as a starting point, see Anderson (2003).
- 16.
In it, Johnson (1960: 328) says that he ‘begins by following to a large extent a recent article by [Max] Corden…but then proceeds to an analysis that has been strongly influenced by the work of my colleague Arnold Harberger’. Corden (1957) also presented the partial equilibrium framework without the underlying algebra or undertaking any numerical calculations.
- 17.
Commodity-based money was also considered, but most discussions were centred on these three options.
- 18.
- 19.
This “Gold Purchase Program” was Warren’s brainchild and was in place between August and December 1933. Viner criticised the plan in correspondence with Henry Morgenthau, the future Secretary of the Treasury. (See Fiorito and Nerozzi (2009) for a transcript of Viner’s reminiscences of this period.)
- 20.
Metzler concluded that several countries had established exchange rates that “overvalued” their currencies, not an auspicious beginning for a new institution with the mandate to provide financial assistance to countries facing severe disequilibria. This weakness was confirmed only two years later, with the 1949 crisis of the Sterling Area.
- 21.
The issue had been intensely debated in the 1920s. John Maynard Keynes, Gustav Cassel, and Fisher were among the early participants in those debates.
- 22.
For Friedman’s views on exchange rates and developing countries, see Edwards (2020). While in Chile the experiment ended up with a major crisis in 1982, in Israel it was a largely successful episode. Friedman pointed out that although the two experiments looked, on the surface, very similar, there were a number of important differences. In particular, Israel pegged its currency to the dollar as a temporary measure aimed at guiding expectations in the short run. After a few months, the shekel was devalued ‘at irregular intervals to offset the difference between the roughly 20% inflation in Israel and the lower inflation in its trading partners’ (Friedman 1994: 241). Chile, on the other hand, announced that its fixed rate would remain indefinitely, even in light of obvious overvaluation and increasingly large current account deficits financed with short-term capital.
- 23.
Exchange rate policy was never a major issue under the gold standard. But after the Great Depression, the monetary policy regime became more contested and Chicago was at the centre of those debates. For a long time, some scholars argued that the best approach was to uncouple the currency value from gold and adopt a “commodity-based” system (Fisher 1920).
- 24.
Viner was an advocate of fixed exchange rates and had several disputatious interchanges with Friedman on flexible exchange rates (Irwin 2016).
- 25.
For example, in a review of a 1944 League of Nations report, which was mostly written by Ragnar Nurkse, a strong supporter of pegged exchange rates, Mints wrote: ‘It is doubtful that fluctuating exchanges, under conditions of internal monetary stability…would be disequilibrating … And it is beside the point to contend that exchange fluctuations “involve constant shifts of labor and other resources between production for the home market and production for export” … [Under fixed rates] the adjustment must come by way of a change in domestic prices, including wage rates, whereas with free exchanges the necessary adjustments can be obtained largely by means of changes in the prices of international goods. The important consideration is that the latter prices are more flexible than wage rates’ (Mints 1945: 193–194).
- 26.
His colleague at Chicago, George Shultz, was in the Nixon administration (initially as Secretary of Labor and later as Secretary of the Treasury) and was an influential voice in favour of moving to flexible exchange rates in the early 1970s following the collapse of Bretton Woods.
- 27.
As Mundell recalled: ‘When I came to the University of Chicago the following year in 1956 as a postdoctoral fellow, I talked to Milton Friedman about this issue. If the flexible exchange rate theory is valid at all, it should apply to different regions in the United States. It should apply to Oklahoma as well as Illinois. I asked Milton what he thought about that. He said that he basically agreed that exchange rate adjustment might help those areas but that over time adjustment could be made without changes in exchange rates … After my postdoctoral fellowship at Chicago, I went back to Canada as an instructor to the University of British Columbia for the year 1956–1957. At that time Canada had a flexible exchange rate with the United States, but I quickly noticed that it was no use for British Columbia! If the argument for flexible exchange rates were correct, British Columbia should have had a separate currency. I made a model of the idea and gave a faculty seminar on the subject to my colleagues at British Columbia, identifying the optimum currency area (from the standpoint of separating zones of fixed and flexible exchange rates) as the region’ (Mundell in Vane and Mulhearn 2006: 96–97).
- 28.
Dornbusch continues: ‘Every so often there was a gladiator event, a workshop where for some reason faculty from different areas got together and got at each other. Mundell vs. Friedman were special events. Friedman obviously admired the sheer creativity of Mundell but would not let him get by, sparks would fly. Mundell recognised Friedman as an icon but understood that he could play the bad boy with success. I remember the unspeakable from Mundell: “Milton, the trouble with you is you lack common sense”. Both won the argument; we [graduate students] could not choose’.
- 29.
The roots of the modern monetary approach can be traced to Johnson’s “Towards a General Theory of the Balance of Payments” (Johnson 1958c). He sought to move beyond the “elasticities approach” and the “absorption approach” to the balance of payments, and his key insight was to emphasise the monetary nature of a balance of payments surplus or deficit, an insight that, he recognised, had been first developed by the classics. Johnson focused on “expenditure switching” and “expenditure reducing” policies to resolve external imbalances.
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Edwards, S., Irwin, D.A. (2022). International Economics at Chicago. In: Cord, R.A. (eds) The Palgrave Companion to Chicago Economics. Palgrave Macmillan, Cham. https://doi.org/10.1007/978-3-031-01775-9_3
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