The Great Depression What? When? Who? Why? Can it happen again? The Great Depression: what? A severe and unprecedented worldwide decline in economic activity Unemployment reached 25% About 9,000 bank failures Stock market lost nearly 90% of its value from 1929 to 1933 General pessimism and uncertainty The Great Depression: when? Unprecedented duration: about 1930 to 1940 Economic activity not revived until World War II Unemployment cured by military conscription and enlistment Prosperity did not return until late 1940’s The Great Depression: who? Herbert Hoover, Republican, was president from 1929 to 1933 His reputation as a “laissez faire” president is entirely wrong Programs initiated during his administration can be thought of as the start of the “New Deal” Franklin Roosevelt was president from 1933 to 1945 Ran as an economic conservative in 1933, promising to balance the budget Initiated vast increased in Federal government power The Stock Market The DJI had climbed from about 64 to 381 during the 1920’s A crash in October 1929 sent the average below 230 in a matter of days. Much forced selling due to margin calls. A recovery in the spring of 1930 to about 280 leading many to believe the worst was over Steep decline to a low of 44 in 1932. Strong gains followed by another decline in 1937 1929 high not exceeded until after 1950 Bank failures About 9,000 banks failed during the course of the Great Depression Many of these banks were not insolvent, but merely illiquid Example “Bank of United States” Failed in Dec, 1930 with $200 million in deposit liabilities Served primarily low-income Jewish immigrants Likely could have been rescued by a merger Ultimately paid out over 80% of its liabilities despite having to sell some assets at “fire sale” prices Decline in money stock The M2 money stock declined from $45 billion to $33 billion, perhaps in response to loan liquidations Prices could have adapted to the new lower money stock but wages in particular were not allowed to fall The Fed may have lacked reliable and timely statistics The Fed was focused on interest rates which are more readily apparent Why did the stock market crash? The Fed had inflated the money supply substantially during the 1920’s in part to support Britain’s ill-advised move to restore the pound’s link to gold at its pre-war level Much of this money had found its way into the stock market Speculative fever had spread widely. Some were buying on as little as 10% margin Even some economists thought stocks could only go up The Smoot-Hawley Tariff of 1930 Raised tariffs on 20,000 items to record high levels 1,000 economists signed a statement of opposition Proposed by republicans to placate farmers who had already been suffering President Hoover called the bill “vicious, extortionate, obnoxious.” But he signed it. Predicable results: Drastic fall in international trade Retaliatory tariffs, depression exported to Europe The Smoot-Hawley Tariff of 1930 -- why? Farmers had suffered their own depression during the late 1920’s. Republicans promised them restrictions on agricultural imports Immediate effects of a tariff are likely to be beneficial to domestic industries Predictable retaliation should have been seen Consumers generally were the victims, but they had no effective voice in Congress Unemployment The official figure reached 25% in 1933 Bad as this was, this figure does not include underemployment Qualified people working at menial jobs People given make-work government jobs Wages should adjust downward to balance supply and demand in labor markets Hoover tried to keep wages high, partly by “jawboning.” Tax increase of 1932 1931 Federal deficit had reached the staggering sum of $2 billion dollars (about three days of interest on today’s national debt) One of the largest increases in tax rates in peacetime history. New or increased taxes: Excise taxes revived or increased on gasoline, tires, automobiles, electricity, malt, toiletries, furs, jewelry, etc. New taxes on bank checks, stock and bond transfers, telephone, telegraph messages Federal income, estate and gift tax increases Normal rate was 1.5 to 4%, raised to 4 to 8% Reduction in personal exemptions Earned credit repealed Taxes on top income brackets raised from 25% to 63% Corporate income tax rate raised from 12% to 13.75% Exemption for small corporations eliminated Estate tax doubled; exemption floor halved Gift tax reinstated, top rate 33% Postage rate increases First class rate raised from 2 to 3 cents even though first class postage was already profitable Second class (magazines etc) raised 33% Parcel post increased 25% (no UPS or FedEx competition) Result of tax rate increases In spite of drastically higher tax rates, federal tax revenue actually were actually lower in 1932 than in 1931 Lower tax receipts were due to the deepening depression which had been worsened by tax increases Reconstruction Finance Corp. Government agency given $500 million capital and authorized to issue $1,500 million bonds Made loans to failing institutions Mostly to banks and railroads Many loans to politically connected firms Loans kept secret till Congress forced disclosure Excuse: disclosure would erode confidence in the receiving institution Counter: they deserved to lose confidence Compare today’s stress tests or CAMELS ratings Fed actions in 1932 Huge monetary inflation, $1 billion in one year Yet bank deposits declined. Why? Excess reserves! Banks reluctant to lend because of Fear of making bad loans Fear of spooking depositors Does this sound familiar? Two interpretations of the Fed’s Depression policies Friedman: the Fed irresponsibly let the money stock drop by 33% Rothbard: the Fed tried to re-inflate but the public, the commercial banks, and foreign holders of dollars wisely resisted. Deflation was necessary to correct prior monetary excesses. Bank failures Approximately 9,000 banks failed during the course of the Great Depression – an astounding number Some of these banks were merely illiquid, not necessarily insolvent. Example: Bank of United States The number of bank failures in Canada during this time was exactly zero. Canada has always had nationwide banking No Canadian central bank at that time Roosevelt’s New Deal National Industrial Recovery Act Attempt to cartelize all industry Tailor jailed for charging 35 cents instead of 40 Parades took on a fascist tone Ruled unconstitutional by Supreme Court Unilateral abrogation of the gold standard Agricultural adjustment act Ruled unconstitional Works Progress Administration -- “relief” Federal Deposit Insurance Federal Crop Insurance Federal Housing Administration Roosevelt’s New Deal Social Security Securities Exchange Commission Tennessee Valley Authority Farm Security Administration Rural Electrification Administration Court-packing scheme Seen as a bid for dictatorial power Defeated by Congress Regime uncertainty An aspect of the Great Depression often overlooked because it is difficult to quantify Business people must try to predict the future. This is very hard to do when the rules are changing constantly. Roosevelt’s explicit policy was to try something and if it didn’t work, try something else. Regime Uncertainty Was full-blown dictatorship coming? Would business firms see their property confiscated? Roosevelt’s language and some of his initiatives suggested it might be It was happening in Germany and Italy This was not the sort of atmosphere that would instill business confidence Roosevelt’s conservative shift Toward the end of the 1930’s it looked like war was coming Roosevelt needed the cooperation of businesses for war production He brought conservative business people into his administration and kicked out some of the radical New Dealers The war ended the Depression, or did it? Conventional wisdom says that the war Unemployment was eliminated. Good news: people had paying jobs Bad news: the job meant getting shot at GNP went up, but ... Most of the increase was due to government purchases Many consumer goods were unavailable Passenger cars were not produced Gasoline, tires, and sugar were rationed What really ended the Great Depression Roosevelt died in 1945. This did a lot to remove regime uncertainty Truman was no friend of business, but neither was he a radical New Dealer Republicans gained control of both houses in 1946 and proceeded to dismantle or tone down some of the New Deal measures. A period of prosperity began that lasted until about 1970 The panic of 1837-43 versus the Great Depression, 1929-33 Summing up the Great Depression Usual interpretation: Due to inherent flaws in free markets; a “market failure.” The New Deal rescued the country from the Depression while avoiding totalitarianism Revised interpretation Due to inherent flaws in government interventions; a “government failure” The New Deal did not rescue the country from the Depression nor did World War II. Post-war lessening of New Deal programs was the major cause of renewed prosperity.
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