Irving Fisher

Irving Fisher
Neoclassical economics
Born February 27, 1867(1867-02-27)
Saugerties, New York
Died April 29, 1947(1947-04-29) (aged 80)
New York City, New York
Nationality United States
Field Mathematical economics
Alma mater Yale University
Influences Jevons, Gibbs, Sumner
Influenced Friedman, Tobin, Modigliani, Bernanke
Contributions Fisher equation
Equation of exchange
Price index
Debt deflation
Phillips curve
Money illusion
Fisher separation theorem

Irving Fisher (February 27, 1867 – April 29, 1947) was an American economist, inventor, and health campaigner, and one of the earliest American neoclassical economists, though his later work on debt deflation often regarded as belonging instead to the Post-Keynesian school.[1]

Fisher made important contributions to utility theory[2] and general equilibrium. His work on the quantity theory of money inaugurated the school of economic thought known as "monetarism."[3] Both Milton Friedman and James Tobin called Fisher "the greatest economist the United States has ever produced."[4][5] Some concepts named after Fisher include the Fisher equation, the Fisher hypothesis, the international Fisher effect, and the Fisher separation theorem.

Fisher was perhaps the first celebrity economist, but his reputation during his lifetime was irreparably harmed by his public statements, just prior to the Wall Street Crash of 1929, claiming that the stock market had reached "a permanently high plateau." His subsequent theory of debt deflation as an explanation of the Great Depression was largely ignored in favor of the work of John Maynard Keynes.[6] His reputation has since recovered in neoclassical economics, particularly after his work was revived in the late 1950s[7][8] and more widely due to an increased interest in debt deflation in the Late-2000s recession.[6]

Fisher produced various inventions during his lifetime, the most notable of which was an "index visible filing system" which he patented in 1913[9] and sold to Kardex Rand (later Remington Rand) in 1925. This, and his subsequent stock investments, made him a wealthy man until his personal finances were badly hit by the Crash of 1929. He was also an active social and health campaigner, as well as an advocate of vegetarianism, Prohibition, and eugenics.[10]

Contents

Biography

Early adulthood

Fisher was born in Saugerties, New York. His father was a teacher and Congregational minister, who raised his son to believe he must be a useful member of society. As a child, he had remarkable mathematical ability and a flair for invention. A week after he was admitted to Yale College, his father died at age 53. Irving then supported his mother, brother, and himself, mainly by tutoring. He graduated first in his class with a B.A degree in 1888, having also been elected as a member of the Skull and Bones society.[11]:14

Career

Fisher's best subject was mathematics, but economics better matched his social concerns. He went on to write a doctoral thesis combining both subjects, on mathematical economics. Irving was granted the first Yale Ph.D. in economics, in 1891.[12] His advisers were the physicist Willard Gibbs and the economist William Graham Sumner. Fisher was not initially aware of the work of Léon Walras and his continental European disciples in mathematical economics. Nevertheless, his thesis made a contribution to the theory of general equilibrium that European masters such as Francis Edgeworth recognized as first rate. To illustrate and complement the arguments in his thesis, Fisher constructed a hydraulic machine of pumps and levers. While his books and articles on economic topics exhibited an unusual degree of mathematical sophistication for the time, Fisher always wished to bring his analysis to life and to present his theories as lucidly as possible. After graduating from Yale, Fisher studied in Berlin and Paris. From 1890 onward he remained at Yale, first as a tutor, then after 1898 as a professor of political economy, and after 1935 as professor emeritus.

Fisher edited the Yale Review from 1896 to 1910 and was active in many learned societies, institutes, and welfare organizations. He was president of the American Economic Association in 1918. A leading early proponent of econometrics, in 1930 he founded, with Ragnar Frisch and Charles F. Roos the Econometric Society, of which he was the first president.

Among his special interests were temperance, eugenics, public health, and world peace. He won a New York Medical Society prize for the invention of a tent for the treatment of tuberculosis victims. He strongly supported Prohibition in the 1920s.

Theory

James Tobin argues that the intellectual breakthroughs that mark the neoclassical revolution in economic analysis occurred in Europe around 1870. The next two decades witnessed lively debates in which the new theory more or less absorbed or was absorbed in the classical tradition that preceded it.[13] In the 1890s, according to Joseph A. Schumpeter[14] there emerged

A large expanse of common ground and ... a feeling of repose, both of which created, in the superficial observer, an impression of finality -- the finality of a Greek temple that spreads its perfect lines against a cloudless sky. Of course, Tobin argues, the temple was by no means complete. Its building and decoration continue to this day, even while its faithful throngs worship within. American economists were not present at the creation. To a considerable extent they built their own edifice independently, designing some new architecture in the process. They participated actively in the international controversies and syntheses of the period 1870-1914. At least two Americans were prominent builders of the "temple," John Bates Clark and Irving Fisher. They and others brought neoclassical theory into American journals, classrooms, and textbooks, and its analytical tools into the kits of researchers and practitioners. Eventually, for better or worse, their paradigm would dominate economic science in this country.

Fisher's research into basic theory did not touch the great social issues of the day. Monetary economics did and this became the main focus of Fisher’s work. Fisher's Appreciation and interest was an abstract analysis of the behavior of interest rates when the price level is changing. It emphasized the distinction between real and monetary rates of interest which is fundamental to the modern analysis of inflation. However Fisher believed that investors and savers —people in general— were afflicted in varying degrees by "money illusion"; they could not see past the money to the goods the money could buy. In an ideal world, changes in the price level would have no effect on production or employment. In the actual world with money illusion, inflation (and deflation) did serious harm.

Later life

Fisher was a prolific writer, producing journalism, as well as technical books and articles, addressing the problems of the First World War, the prosperous 1920s and the depressed 1930s. He died in New York City in 1947, at the age of 80.

Economic theories

Money and the price level

Fisher's theory of the price level was the following variant of the quantity theory of money. Let M=stock of money, P=price level, T=amount of transactions carried out using money, and V= the velocity of circulation of money. Fisher then proposed that these variables are interrelated by the Equation of exchange:

M V = P T

Later economists replaced the amorphous T with real output Y or "Q", usually quantified by real GDP.

Fisher was also the first economist to distinguish clearly between real and nominal interest rates:

r=\frac{(1%2Bi)}{(1%2B\pi)}-1 \simeq i - \pi

where r is the real interest rate, i is the nominal interest rate, and the inflation \pi is a measure of the increase in the price level. When inflation is sufficiently low, the real interest rate can be approximated as the nominal interest rate minus the expected inflation rate. The resulting equation is known as the Fisher equation in his honor.

For more than forty years, Fisher elaborated his vision of the damaging “dance of the dollar” and devised schemes to “stabilize” money, i.e. to stabilize the price level. He was one of the first to subject macroeconomic data, including the money stock, interest rates, and the price level, to statistical analysis. In the 1920s, he introduced the technique later called distributed lags. In 1973, the Journal of Political Economy reprinted his 1926 paper on the statistical relation between unemployment and inflation, retitling it as "I discovered the Phillips curve". Index numbers played an important role in his monetary theory, and his book The Making of Index Numbers has remained influential down to the present day.

The theory of interest and capital

While most of Fisher's energy went into social causes and business ventures, and the better part of his scientific effort was devoted to monetary economics, he is best remembered today in neoclassical economics for his theory of interest and capital, studies of an ideal world from which the real world deviated at its peril. His most enduring intellectual work has been his theory of capital, investment, and interest rates, first exposited in his The Nature of Capital and Income (1906) and elaborated on in The Rate of Interest (1907). His 1930 treatise, The Theory of Interest, summed up a lifetime's work on capital, capital budgeting, credit markets, and the determinants of interest rates, including the rate of inflation.

Fisher saw that subjective economic value is not only a function of the amount of goods and services owned or exchanged but also of the moment in time when they are purchased. A good available now has a different value than the same good available at a later date; value has a time as well as a quantity dimension. The relative price of goods available at a future date, in terms of goods sacrificed now, is measured by the interest rate. Fisher made free use of the standard diagrams used to teach undergraduate economics, but labeled the axes "consumption now" and "consumption next period" instead of, e.g., "apples" and "oranges." The resulting theory, one of considerable power and insight, was exposited in considerable detail in The Theory of Interest; for a concise exposition, click here.

This theory, since generalized to the case of K goods and N periods (including the case of infinitely many periods) has become a standard theory of capital and interest, which is described in Gravelle and Rees,[15] and Aliprantis, Brown, and Burkinshaw.[16] This theoretical advance was explained in Hirshleifer.[7]

Debt-Deflation

Further information: Debt deflation

Following the stock market crash of 1929 and the ensuing Great Depression, Fisher developed a theory of economic crises called debt-deflation, which attributed crises to the bursting of a credit bubble.

According to the debt deflation theory, a sequence of effects of the debt bubble bursting occurs:

  1. Debt liquidation and distress selling.
  2. Contraction of the money supply as bank loans are paid off.
  3. A fall in the level of asset prices.
  4. A still greater fall in the net worth of businesses, precipitating bankruptcies.
  5. A fall in profits.
  6. A reduction in output, in trade and in employment.
  7. Pessimism and loss of confidence.
  8. Hoarding of money.
  9. A fall in nominal interest rates and a rise in deflation-adjusted interest rates.

This theory was ignored in favor of Keynesian economics, partly due to the damage to Fisher's reputation from his sanguine attitude prior to the crash, but has experienced a revival of mainstream interest since the 1980s, particularly since the Late-2000s recession, and is now a main theory with which he is popularly associated.[6]

Stock market crash of 1929

The stock market crash of 1929 and the subsequent Great Depression cost Fisher much of his personal wealth and academic reputation. He famously predicted, three days before the crash, "Stock prices have reached what looks like a permanently high plateau." Irving Fisher stated on October 21 that the market was "only shaking out of the lunatic fringe" and went on to explain why he felt the prices still had not caught up with their real value and should go much higher. On Wednesday, October 23, he announced in a banker’s meeting "security values in most instances were not inflated." For months after the Crash, he continued to assure investors that a recovery was just around the corner. Once the Great Depression was in full force, he did warn that the ongoing drastic deflation was the cause of the disastrous cascading insolvencies then plaguing the American economy because deflation increased the real value of debts fixed in dollar terms. Fisher was so discredited by his 1929 pronouncements and by the failure of a firm he had started that few people took notice of his "debt-deflation" analysis of the Depression. People instead eagerly turned to the ideas of Keynes. Fisher's debt-deflation scenario has made something of a comeback since 1980 or so.

Constructive Income Taxation

Lawrence Lokken, the University of Miami School of Law professor of economics, credits [17] Fisher's 1942 book with the concept behind the Unlimited Savings Accumulation Tax, a reform introduced in the United States Senate in 1995 by Senator Pete Domenici (R-New Mexico), former Senator Sam Nunn (D-Georgia), and Senator Bob Kerrey (D-Nebraska). The concept was that unnecessary spending (which is hard to define in a law) can be taxed by taxing income minus all net investments and savings, and minus an allowance for essential purchases, thus making funds available for investment.

Personal ideals

The lay public perhaps knew Fisher best as a health campaigner and eugenicist. In 1898 he found that he had tuberculosis, the disease that killed his father. After three years in sanatoria, Fisher returned to work with even greater energy and with a second vocation as a health campaigner. He advocated vegetarianism, avoiding red meat, and exercise, writing How to Live: Rules for Healthful Living Based on Modern Science, a USA best seller.

In 1912 he also became a member of the scientific advisory to the Eugenics Record Office and served as the secretary of the American Eugenics Society.

Fisher was also a strong believer in the now-discredited "focal sepsis" theory of physician Henry Cotton, who believed that mental illness was attributable to infectious material residing in the roots of the teeth, recesses in the bowels, and other places in the human body, and that surgical removal of this infectious material would cure the patient's mental disorder. Fisher believed in these theories so thoroughly that when his daughter Margaret Fisher was diagnosed with schizophrenia, Fisher had numerous sections of her bowel and colon removed at Dr. Cotton's hospital, eventually resulting in his daughter's death.[18]

Fisher was also an ardent supporter of the Prohibition of alcohol in the United States, and wrote three short books arguing that Prohibition was justified on the grounds of both public health and hygiene, as well as economic productivity and efficiency, and should therefore be strictly enforced by the United States government.[19]

See also

Selected publications

Fisher, Irving Norton, 1961. A Bibliography of the Writings of Irving Fisher (1961). Compiled by Fisher's son; contains 2425 entries.

References

  1. ^ Debtwatch No. 42: The economic case against Bernanke, January 24th, 2010, Steve Keen
  2. ^ George Stigler, "The Development of Utility Theory. I", The Journal of Political Economy 58, pp. 307-327 (1950).
  3. ^ J. Bradford DeLong (2000). "The Triumph of Monetarism?". Journal of Economic Perspectives 14 (1): 83–94. http://www.jstor.org/stable/2647052. 
  4. ^ Milton Friedman, Money Mischief: Episodes in Monetary History, Houghton Mifflin Harcourt (1994) p. 37. ISBN 0-15-661930-X
  5. ^ Tobin, James (1987), "Fisher, Irving (1867–1947)", The New Palgrave Dictionary of Economics: 369-376, doi:10.1057/9780230226203.0581 
  6. ^ a b c Out of Keynes's shadow, The Economist, Feb 12th 2009
  7. ^ a b Jack Hirshleifer (1958). "The Theory of Optimal Investment Decisions". Journal of Political Economy 66: 329–352. 
  8. ^ Ben Bernanke, Essays on the Great Depression, (Princeton: Princeton University Press, 2000), p. 24. ISBN 0691016984.
  9. ^ U.S. Patent 1,048,058
  10. ^ Victor R. Fuchs (2005). "Health, Government, and Irving Fisher". American Journal of Economics and Sociology 64 (1): 407–425. doi:10.1111/j.1536-7150.2005.00370.x. http://www.jstor.org/pss/3488138. 
  11. ^ "Obituary record of graduates deceased during the year ending July 1, 1947". Yale University. 1948. http://mssa.library.yale.edu/obituary_record/1925_1952/1946-47.pdf. Retrieved April 20, 2011. 
  12. ^ Shiller, Robert (2011). "The Yale Tradition in  Macroeconomics," (pg. 31). Economic Alumni Conference.
  13. ^ Tobin, James (1985). "Neoclassical Theory in America: J. B. Clark and Fisher". American Economic Review 75 (6): 28–38. 
  14. ^ Schumpeter, A History of Economic Analysis (1954), p. 754
  15. ^ Gravelle, H., and Rees, R., 2004. Microeconomics, 3rd ed. Pearson Education, ch. 11.
  16. ^ Aliprantis, Charalambos D.; Brown, Donald J.; Burkinshaw, Owen (April 1988). "5 The overlapping generations model (pp. 229–271)". Existence and optimality of competitive equilibria (1990 student ed.). Berlin: Springer-Verlag. pp. xii+284. ISBN 3-540-52866-0. MR1075992. 
  17. ^ Lokken, Lawrence (October 1, 1998). Taxing USA tomorrow. (Unlimited Savings Allowance Tax). Southern Economic Journal (e-document ed.). Chicago: Amazon.com. http://www.highbeam.com/doc/1G1-21276813.html. 
  18. ^ Madhouse: A Tragic Tale of Megalomania and Modern Medicine, Andrew Scull, Yale University Press, 2005
  19. ^ Irving Fisher: Prohibition at Its Worst (New York: Macmillan, 1926); Prohibition Still at Its Worst (New York: Alcohol Information Committee, 1928); The Noble Experiment (New York: Alcohol Information Committee, 1930).

Further reading

External links

Macroeconomic schools of thought
Walrasian economics
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