Around the time he became chairman of the Chicago Mercantile Exchange in 1969, Leo Melamed began attending economic lectures at the University of Chicago. He wasn’t there as a student or guest. He came to see what the great economist Milton Friedman was teaching his students. A few years later, Friedman’s endorsement of Melamed’s idea for foreign exchange futures would help him and the Exchange create what would become the financial futures marketplace. These were the beginnings of a relationship between CME Group and the University of Chicago that lasts to this day.
It is a relationship of shared philosophy about financial markets, and shared ideas on everything from futures products to economic theories. As Gary Becker puts it, CME “is doing the things that theorists dreamed about.”
Becker is a protégé of Friedman’s and one of the most recognized economists of the Chicago School of economics. He and Friedman share the distinction as perhaps being the only two men to win the Nobel Prize in Economics, the National Medal of Science and the Presidential Medal of Freedom. Though most of his research is about social science issues like discrimination, family behavior and human capital, he does tie these ideas to financial incentives, and financial markets.
Melamed and Becker came to know each other through the close relationship both had to Friedman, and the closeness between the two institutions has extended to a CME Group market advisory council Melamed created and on which Becker serves.
Becker recently spoke at a Chicago Council on Global Affairs event where he outlined his vision for America retaining its economic leadership. Melamed introduced him there as “a scholar committed to the free market ideal.”
We sat down with both men recently in Becker’s office at the University of Chicago to discuss the longstanding relationship between the institutions, and their vision for financial markets and the economy. This is part one of our discussion.
The relationship between the University of Chicago and the Chicago Mercantile Exchange go back a long way. Can you both describe how you first got involved in that relationship?
Leo Melamed: For me, that’s rather easy because by the time I became chairman in 1969, even before that when I was elected to the board in ’67, I was a lawyer with very little knowledge of economics and decided that I should learn that. And the most prominent name I knew in economics was Milton Friedman, and that was obviously the University of Chicago’s school of economics.
So I read all of his books and then decided that I should visit his lectures here and learned that they don’t take attendance, so I didn’t have to pay for it (laughs). And so I would sneak in, and take notes and that was my first entrée to the University of Chicago. So we’re talking maybe ’68 – ’69.
That’s my main avenue of connection that of course blossomed into a mentor/student type of relationship with Milton that I maintained my whole life, even when he considered me much more than a student. But for me, he was always my professor, and the consequence of that relationship was instrumental in advancing the idea that I had about markets in financial instruments. Without Milton’s embrace of that, I might have still done it. But I certainly wouldn’t have succeeded as quickly. He authenticated the concept of currency futures. And so, that relationship was very important to the CME and as a result, we have maintained a very close relationship to the University.
Gary Becker: Leo knows that relationship much better than I know it. From the University of Chicago point of view, the two things that stand out to me –- one is, of course, that CME has been a supporter of the University of Chicago. And secondly, it’s a more intellectual aspect. One thing we’ve stood for at the University of Chicago is free markets, competition and the like. And what the Merc has done has really fit 100 percent into that framework. So intellectually there is a connection between what’s being done there and what we we’re doing here. I think that’s very important.
Melamed: There’s also the Becker Friedman Institute.
Becker: That’s a rather recent phenomena. The Becker Friedman Institute is trying to encourage Chicago style economics. That’s our goal. And we don’t have any ideology.
We’re trying to understand the world. The belief is, though, if you understand the world you’ll generally come out with a view that competition is a good force for what’s going on in the world. But you want to approach each problem objectively, so we’re not a think tank.
The BFI is not a think tank. It’s a research organization, but we’re not living in the stratosphere, either. We want to deal with problems that are relevant.
Gary Becker speaks to the Chicago Council on Global Affairs on April 18, 2013
So, Professor Becker, how did you first come into the contact with CME Group? Through the relationship Leo had with Milton Friedman?
Becker: Well, some things you get through osmosis. So of course Milton was my teacher. I was very close with Milton. I knew he had a relationship with Leo. I think I met Leo first through Milton. And then we sent some students who went to work as economists at the Merc and my first– direct involvement was on Leo’s advisory committee.
Melamed: CMAC (The Competitive Markets Advisory Council).
Becker: Yes, CMAC. That was my first direct involvement. I hadn’t been directly involved prior to that. Indirectly, yes. I knew a lot of people. But my first direct involvement was through CMAC.
You mentioned the intellectual ideas about free markets and competition that CME Group and the University of Chicago share. Why is it important for a futures marketplace and a university to work together to advance those ideas?
Becker: They’re advancing them at different levels. The University of Chicago doesn’t take particular stands on business or on any particular issues, although as individuals we take stands on public policy issues. And I take very strong stands on a lot of public policy issues.
But the CME, — that’s an institution that’s actually doing the business. They’re grading the markets and generating the competition. So it’s doing things that theorists dreamed about.
So there’s a clear connection and interaction between what’s actually being done. And I think one learns from both. The research learns from what’s actually happening, and I think what’s actually happening is influenced by what the research shows. You look at the history of it, I think the causation has gone both ways.
Melamed: I think Gary said it all when he said that the University of Chicago is the theoretical basis on which we practice what they preach, so to speak. And by the way, another connection with the university is Professor Merton Miller, who served on our board, and was a professor here for many years — a Nobel laureate, also.
And I have to tell you, Merton Miller did a lot. He was so against unnecessary government intrusion that it helped us because he could say the things that– made people listen in congress. So it was this practical consideration involved.
Leo Melamed introduces Gary Becker at the recent Chicago Council on Global Affairs event
You both mentioned the CMAC. Can you explain what that is?
Melamed: The trading community is very innovative, and as a trader it helped me understand what practical tools would be necessary.
You could feel it in trading. “Gee, I wish I– I could do this, or, gee, I wish someone had invented that.” So a lot of ideas came off the floors. And when the floors started to disappear because my pushing electronics onto the world — I realized in doing that that the source of connection to the world that the floor traders represented was going to disappear.
So how do we get connected to the outside community? We don’t want to become sort of isolated. So I talked to Myron (Scholes) about that and out of that blossomed the idea of creating a think tank composed of economists and others that are in touch with the rest of the world, not just the trading element inside the merc, to do two things.
First of all, as a tool to vet our ideas, to hear what we’re thinking and to tell us are we on the right track, on the wrong track. And second, to give us ideas. These people come in contact with students and business and what not, and to bring those ideas forward. So it worked both ways. And Myron thought it was a great idea, and that’s how it evolved.
Professor Becker, you are more known more for your studies on family behavior, discrimination and human capital – things that are typically thought of as sociological subjects. How do those ideas tie to financial markets?
Becker: There’s no politician who can speak one sentence without mentioning human capital nowadays. So, that is a broad concept.
You wouldn’t consider most sociologists as being very pro free market. But I’m not a sociologist. I just use tools of economics to discuss questions that sociologists have dealt with, and that’s a big difference. Much of work that I dealt with is about individuals making decisions and how that gets affected by the market structure in which these decisions are involved.
Human capital really treats the individual as a very important foundation of society. So, what people do to themselves through their investments in themselves is on a par with what we do with financial markets. It’s an important form of capital. It happens to be part of the human being, but it enters competitively into, various industries and outcomes.
The notion that it is capital is very similar to financial instrument capital.
Human capital produces innovation in every sector, and including in the financial sector. So, interest in human capital, I think interacts a lot with what financial markets at a very general level.