Great Depression
The
Great Depression was a worldwide
economic downturn, starting in
1929 (although its effects were not fully felt until late in 1930) and lasting through most of the
1930s. It centered in
North America and
Europe, but had damaging effects around the world. The most industrialized countries were affected the worst, including the
United States,
Germany,
Britain,
France,
Canada, and
Australia.
Cities around the world were hit hard, especially those based on heavy industry. Construction virtually halted in many countries. Farmers and rural areas suffered as prices for crops fell by 40-60%
[Willard W. Cochrane. Farm Prices, Myth and Reality 1958. p. 15; League of Nations, World Economic Survey 1932-33 p. 43. .] Mining and
logging areas were perhaps the hardest hit because demand fell sharply and there was little alternative economic activity. The Great Depression ended at different times in different countries; for subsequent history see
Home front during World War II.
Scholars have not agreed on the exact causes and their relative importance. There are multiple issuesâ€"what set off the first downturn in 1929, what were the structural weaknesses and specific events that turned it into a major depression, and how did the downturn spread from country to country.
In terms of the 1929 small downturn, historians emphasize structural factors and the stock market crash, while economists point to Britain's decision to return to the Gold Standard at pre-WWI parities ($4.86 Pound) (Peter Temin, Barry Eichengreen).
Although some believe the
Wall Street Crash of 1929 was the immediate cause triggering the Great Depression, there are other, deeper causes that explain the crisis. The vast economic cost of
World War I weakened the ability of the world to respond to a major crisis. In Europe, the question of the
war reparations was fundamental to the economic and political history of France, Germany, Britain and the United States, but the greatest effect was on Germany, since that country had to pay the largest portion of reparations[
1].
The search for causes is closely connected to the question of how to avoid a future depression, so the political and policy viewpoints of scholars are mixed into the analysis of historic events eight decades ago. Current theories may be broadly classified into two main points of view. First, there is orthodox
classical liberal,
monetarist,
Keynesian,
Austrian Economics and
neoclassical economic theory, which focuses on the
macroeconomic effects of money supply, including
production and
consumption. Second, there are structural theories, including those of
institutional economics, that point to
underconsumption and overinvestment (
economic bubble), or to malfeasance by bankers and industrialists.
The Stock Market crash
The
stock market crash of October 1929 is partially responsible for causing the Depression. According to
Milton Friedman, "the stock market (crash) in 1929 played a role in the initial recession." It clearly changed expectations of the future, shifting the outlook from very positive to negative, with a dampening effect on investment and entrepreneurship. There was a brief recovery in the market in early 1930, but late in the year it began almost continuously to bounce downwards for the next two years, producing the greatest long-term market declines by any measure.
Debt
Macroeconomists, including
Ben Bernanke, have revived the debt-deflation view of the Great Depression originated by
Arthur Cecil Pigou and
Irving Fisher. In the 1920s, the widespread use of the home mortgage and credit purchases of automobiles and furniture boosted spending but created consumer debt. People who were deeply in debt when a price deflation occurred were in serious troubleâ€"even if they kept their jobsâ€"and risked default. Indeed, prices and incomes fell 20-50%, but the debts remained at the same dollar amount. As the debtors tightened their belts, consumer spending fell, and the whole economy weakened. With future profits looking poor, capital investment slowed or stopped. In the face of bad loans and worsening future prospects, banks became more conservative. They built up their reserves, which intensified the deflationary pressures. The downward spiral sped up. This kind of self-aggravating process may have turned a 1930 recession into a 1933 depression.
Trade Decline and the Smoot-Hawley Tariff Act
Many economists at the time argued that the sharp decline in international trade after 1930 helped to worsen the depression. Some also argued that the growing body of economic intervention after 1932 contributed to the market's inability to react to abrupt changes and kept unemployment high. The
British Empire promoted trade inside the Empire;
Germany promoted economic
autarky in which countries received benefits (or threats) for trading with Germany.
Most historians and economists assign the American
Smoot-Hawley Tariff Act of 1930 part of the blame for worsening the depression by reducing international trade and causing retaliation. Foreign trade was a small part of overall economic activity in the United States; it was a much larger factor in most other countries. [
2] The average
ad valorem rate of duties on dutiable imports for 1921-1925 was 25.9% but under the new tariff it jumped to 50% in 1931-1935.
In dollar terms, American exports declined from about US$5.2 billion in 1929 to US$1.7 billion in 1933; but prices also fell, so the physical volume of exports only fell in half. Hardest hit were farm commodities such as wheat, cotton, tobacco, and lumber. According to this theory, the collapse of farm exports caused many American farmers to default on their loans leading to the bank runs on small rural banks that characterized the early years of the Great Depression.
Federal Reserve and money supply
Monetarists, including
Milton Friedman and
Ben Bernanke, stress the negative role of the
Federal Reserve System. It tried to help the economy by actions that effectively cut the money supply by one-third from 1930 to 1931. With significantly less money to go around, businessmen could not get new loans and could not even get their old loans renewed, forcing many to stop investing. This interpretation blames the Federal Reserve, especially the New York branch, which was owned and controlled by Wall Street bankers. The Fed was not controlled by President Hoover or the U.S. Treasury; it was primarily controlled by member banks and businessmen and it was to these groups that the Fed listened most attentively regarding policies to follow.
Friedman argues that:
"The serious fault of the Federal Reserve dates from the end of 1930, when a series of bank failures... changed the monetary character of the contraction. Prior to that date, there was no sign of a liquidity crisisâ€"the ratio of currency to deposits was relatively stable or falling. From then on, the economy was plagued by recurrent liquidity crises. A wave of bank failures would taper down for a while, and then start up again as a few dramatic failures or other events produced a new loss of confidence in the banking system and a new series of runs on banks.... From the end of October 1930 through July 1931, nearly 1,400 banks holding $1 billion in deposits or about 2% of all deposits in commercial banks failed, the money stock declined by 6% in addition to the 3% decline up to October, and deposits in commercial banks fell by 8%.... [In August 1931] the System raised discount rates sharply....The measure was also accompanied by a spectacular increase in bank failures and runs on banks. All told, in the six months from August 1931 through January 1932, 1,860 banks with deposits of $1,449 million suspended operations, and total deposits in commercial banks fell by 15%" [A Program for Monetary Stability (1960) pp 18-19].
In his book, "America's Great Depression" Austrian Economist
Murray Rothbard argues that the initial collapse of the Great Depression was simply the necessary monetary contraction that had to follow the inflationary policies of the Federal Reserve that initiated the boom of the 1920s. Rothbard further argues that the Great Depression need not have been anything more than a garden variety economic contraction but was caused to be so long because of the continual interference of the Hoover and Roosevelt Administration that continued to prop up economic dead wood (i.e. ailing/unsound institutions) through government bailouts as opposed to letting them quickly die and be replaced by healthier ones.
Economic historian Ben Bernanke pointed his finger directly to the actions by the Federal Reserve. On
Milton Friedman's ninetieth Birthday, November 8, 2002, he stated: "Let me end my talk by abusing slightly my status as an official representative of the Federal Reserve. I would like to say to Milton and Anna: Regarding the Great Depression. You're right, we did it. We're very sorry." [
3] [
4] [
5]
Capitalism
The revolutionary left saw the Great Depression as the beginning of capitalism's final collapse. There was a belief that the free market was inherently unstable. However, under
Hoover the market was far less free than it had been previously. Government intervention in the economy expanded greatly including high levels of spending, price controls and intervention in labour disputes. If the free market were to blame, it caused the collapse when it was weakest.
Business
Roosevelt and most of the
New Dealers primarily blamed the excesses of big business for causing an unstable bubble-like economy. The problem was that business had too much power, and the
New Deal was intended to remedy that by empowering labor unions and farmers (which it did) and by raising taxes on corporate profits (they tried and failed). Regulation of the economy was a favorite remedy. Some of those regulations, such as establishing the
Securities and Exchange Commission which regulates Wall Street, won widespread support and continue to this day. Most of the other regulations were abolished or scaled back in 1975-1985 in a bipartisan wave of
deregulation.
Public behavior
The British economist
John Maynard Keynes coined the term "
paradox of thrift" to describe the deepening of the Great Depression after 1929. The paradox of thrift indicates that when people decide to save more they spend less. After the stock market crash of 1929, this increased saving and reduced spending left markets saturated, contributing to price deflation, perpetuating the Great Depression. Businesses responded to less consumer spending by cutting back on production and laying off workers. With less spending on investment they were also doing their share of causing a reduction in aggregate expenditures, reducing their investments, setting in motion a dangerous cycle: less investment, fewer jobs, less consumption and even less reason for business to invest. The lower aggregate expenditures in the economy contributed to a multiple decline in income, well below full employment. In this situation, the economy may reach perfect balance, but at a cost of high unemployment and social misery. At the lower income levels experienced during the Great Depression, savings were much lower than before â€" hence, the paradox of thrift. As a result, Keynesian economists were increasingly calling for government to take up the slack by increasing government spending.
Canada
Canada is sometimes considered to be the country hardest hit by the Great Depression. The economy fell further than that of any nation other than the United States, and it took far longer to recover. However, unlike in the U.S., there were no bank failures in Canada.
United Kingdom
The World Depression broke at a time when the United Kingdom was still far from having recovered from the effects of the
First World War more than a decade earlier.
A major cause of the international financial instability, which preceded and accompanied the Great Depression, was the
debt which many European countries had accumulated to pay for their involvement in the war. This debt destabilised many European economies as they tried to rebuild during the
1920s.
Great Britain was driven off the
gold standard in 1931.
France
The crisis affected France a bit later than other countries, around 1931. As in the United Kingdom, France was recovering from World War I, trying without much success to recover the
reparations from Germany. This led to the
occupation of the Ruhr at the beginning of the 1920s, which failure in turn led to the implementation of the
Dawes Plan of August 1924 and the
Young Plan of 1929. However, the depression had drastic effects on the local economy, and partly explains the
February 6, 1934 riots and even more the formation of the
Popular Front, led by
SFIO socialist leader LĂ©on Blum, which won the elections in 1936.
Germany
The Great Depression hit
Germany hard. The impact of the
Wall Street Crash forced American banks to end the new loans that had been funding the repayments under the
Dawes Plan and the
Young Plan. In 1932, 90% of German reparation payments were cancelled . Widespread unemployment reached 25% in Germany, as every sector was hurt . The
Weimar government did not increase government spending to deal with Germany's growing crisis, as they were afraid that a high-spending policy could lead to a return of the
hyperinflation that had affected Germany in the years after World War I. Their failure to deal with the crisis caused the public to lose confidence in them, which played a significant role in the election of
Adolf Hitler and the
Nazi Party.Hitler followed an
autarky economic policy, creating a network of client states and economic allies in central Europe and Latin America. By cutting wages and taking control of labor unions, plus public works spending, unemployment fell significantly by 1935. Large scale military spending did not begin until 1936--it was financed by the recovery but did not cause it .
Italy
Spain
Spain had a relatively isolated economy, with high protective tariffs and was experiencing other economic problems with the need for land reform, overall development, and better education levels. It was not one of the main countries affected by
the Depression. However, because the country was destroyed by
civil war and suffered from isolation because of
Francisco Franco's fascist regime, GDP levels of 1939 were not recovered until 1953.
Australia
Australia, with its extreme dependence on
exports, particularly primary products such as
wool and
wheat, is thought to have been one of the hardest-hit countries in the
Western world along with
Canada and
Germany.
Unemployment reached a record high of 29% in
1932, one of the highest rates in the world. There were also incidents of
civil unrest, particularly in Australia's largest city,
Sydney.
East Asia
Japan, with a growing industrial base, was hurt slightly, with GDP falling 8% 1929-30. The economy recovered by 1932.
Latin America
Before the 1929 crisis, links between the world economy and
Latin American economies had been established through American and British investment in Latin America and Latin American exports to the world. As a result, Latin Americans export industries felt the depression quickly. World prices for commodities such as wheat, coffee and copper plunged. Exports from all of Latin America to the US fell in value from $1.2 billion in 1929 to $335 million in 1933, rising to $660 million in 1940.
South Africa
The Great Depression had a pronounced economic and political effect on
South Africa, as it did to most nations at the time. As world trade slumped, demand for South African agricultural and mineral exports fell drastically. Many historians think that the social discomfort caused by the depression was a contributing factor in the defeat of
Barry Hertzog and his
National Party in the 1933 general election.
United States
The Great Depression had a significant impact on the economy and people of the
United States and began to fully affect the country late in 1930 and early in 1931. President
Herbert Hoover was widely blamed, and he was defeated in 1932 by
Franklin D. Roosevelt. Roosevelt launched a
New Deal designed to provide emergency relief to upwards of a third of the population, to recover the economy to normal levels, and to reform failed parts of the economic system. Relatively high unemployment lingered until the early 1940s.
Initial reaction in the United States
US President Herbert Hoover's Treasury Secretary
Andrew Mellon advised Hoover that a shock treatment would be the best response: "Liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate. . . . [That] will purge the rottenness out of the system. High costs of living and high living will come down. People will work harder, live a more moral life. Values will be adjusted, and enterprising people will pick up the wrecks from less competent people" (Hoover
Memoirs 3:9). Hoover rejected the advice, and made Mellon an ambassador.
Hoover did not believe that the government should directly aid the people, but insisted instead on "voluntary cooperation" between business and government. Hoover believed that the stock market crash was a regular hiccup in the capitalistic cycle, and that it need not effect the greater economy. Hoover asked large business leaders to voluntarily "take a hit" for the greater good of the nation. Business leaders agreed initially, but in practice no business wanted to put their neck out and risk complete failure for the good of the economy. Hoover also promoted a centralized bank - led by business, not the government like the eventual
FDIC - that would hold money in reserve to secure against bank runs. Once again, business agreed that it was a good idea, but they were incapable of organizing such an organization on their own. Hoover's "voluntary cooperation" failed, but his policies during his tenure proved that the government needed to take an active role in the economy if it was to recover from this depression.
New Deal in the United States
From 1932 onward Roosevelt argued that a restructuring of the economyâ€"a "reform" would be needed to prevent another depression. New Deal programs sought to stimulate
demand and provide work and relief for the impoverished through increased government spending, by:
* reforming the financial system, especially the banks and Wall Street. The
Securities Act of 1933 comprehensively regulated the securities industry. This was followed by the
Securities Exchange Act of 1934 which created the
Securities and Exchange Commission. (Though amended, the key provisions of both Acts are still in force as of 2006). Federal insurance of bank deposits was provided by the
FDIC (still operating as of 2006), and the
Glass-Steagal Act (which remained in effect for 50 years).
* instituting regulations which ended what was called "cut-throat competition" which kept forcing down prices and profits for everyone. (The NRAâ€"which ended in 1935).
* setting minimum prices and wages and competitive conditions in all industries (NRA)
* encouraging unions that would raise wages, to increase the purchasing power of the working class (NRA)
* cutting farm production so as to raise prices and make it possible to earn a living in farming (done by the
AAA and successor farm programs)
The most controversial of the New Deal agencies was the
National Recovery Administration (NRA) which ordered:
* businesses to work with government to set price codes;
* the NRA board to set labor codes and standards.
These reforms (together with relief and recover measures) are called by historians the
First New Deal. It was centered around the use of an
alphabet soup of agencies set up in 1933 and 1934, along with the use of previous agencies such as the
Reconstruction Finance Corporation, to regulate and stimulate the economy. By 1935 the "Second New Deal" added
Social Security, a national relief agency the
Works Progress Administration (WPA), and, through the
National Labor Relations Board a strong stimulus to the growth of labor unions. Unemployment fell by two-thirds in Roosevelt's first term (from 25% to 9%), but then remained stubbornly high until 1942.
In 1929, federal expenditures constituted only 3% of the
GDP. Between 1933 and 1939, federal expenditure tripled, funded primarily by a growth in the national debt. The debt as proportion of GNP rose under Hoover from 20% to 40%. FDR kept it at 40% until the war began, when it soared to 128%. After the
Recession of 1937, conservatives were able to form a bipartisan
Conservative coalition that stopped further expansion of the New Deal, and by 1943 had abolished all of the relief programs.
During the
Recession of 1937 the American economy took an unexpected nosedive that continued through most of 1938. Production declined sharply, as did profits and employment.
Unemployment jumped from 14.3% in 1937 to 19.0% in 1938. The administration reacted by launching a rhetorical campaign against
monopoly power, which was cast as the cause of the new dip. The president appointed an aggressive new direction of the antitrust division of the Justice Department, but this effort lost its effectiveness once World War II, a far more pressing concern, began.
But the administration's other response to the 1937 deepening of the Great Depression had more tangible results. Ignoring the pleas of the Treasury Department, Roosevelt embarked on an antidote to the depression, reluctantly abandoning his efforts to balance the budget and launching a $5 billion spending program in the spring of 1938, an effort to increase mass purchasing power. Business-oriented observers explained the recession and recovery in very different terms from the Keynesians. They argued that the New Deal had been very hostile to business expansion in 1935-37, had encouraged massive strikes which had a negative impact on major industries such as automobiles, and had threatened massive anti-trust legal attacks on big corporations. All those threats diminished sharply after 1938. For example, the antitrust efforts fizzled out without major cases. The CIO and AFL unions started battling each other more than corporations, and tax policy became more favorable to long-term growth.
On the other hand, according to economist
Robert Higgs, when looking only at the supply of consumer goods, significant GDP growth only resumed in 1946 (Higgs does not estimate the value to consumers of collective goods like victory in war) (Higgs 1992). To Keynesians, the
war economy showed just how large the fiscal stimulus required to end the downturn of the Depression was, and it led, at the time, to fears that as soon as America demobilized, it would return to Depression conditions and industrial output would fall to its pre-war levels. That is, Keynesians predicted a new depression would start after the warâ€"a false prediction.
In the early 1930s, before
John Maynard Keynes wrote
The General Theory, he was advocating public works programs and deficits as a way to get the British economy out of the Depression. Although Keynes never mentions fiscal policy in
The General Theory, and instead advocates the need to socialize investments, Keynes ushered in more of a theoretical revolution than a policy one. Keynes's basic idea was simple: in order to keep people fully employed, governments have to run deficits when the economy is slowing because the private sector won't invest enough to increase production and reverse the recession.
As the Depression wore on, Franklin D. Roosevelt tried public works, farm subsidies and other devices to restart the economy, but he never completely gave up trying to balance the budget. According to the Keynesians he had to spend much more money; they were unable to say how much more. With
fiscal policy, however, government could provide the needed Keynesian spending by decreasing taxes, increasing government spending, increasing individuals' incomes. As incomes increased, they would spend more. As they spent more, the
multiplier effect would take over and expand the effect on the initial spending. The Keynesians did not estimate what the size of the multiplier was. Keynesian economists assumed that poor people would spend new incomes; in reality they saved much of the new money, that is they paid back debts owed to landlords, grocers and family. Keynesian ideas of the consumption function were eventually overturned in the 1950s (by
Milton Friedman and
Franco Modigliani.)
Britain departed from the
gold standard in September 1931, allowing the
pound sterling to float. As a result, the value of the pound dropped significantly and British exports became cheaper. In 1933, the United States followed suit and dropped the gold standard.
The massive rearmament policies to counter the threat from
Nazi Germany helped stimulate the economies of many countries around the world. By
1937 unemployment in the
United Kingdom had fallen to 1.5 million. The mobilisation of manpower following the outbreak of war in
1939 finally ended unemployment.
In the United States, the massive war spending doubled the GNP, helping end the depression. Businessmen ignored the mounting national debt and heavy new taxes, redoubling their efforts for greater output as an expression of
patriotism. Patriotism drove most people to voluntarily work overtime and give up leisure activities to make money after so many hard years. Patriotism meant that people accepted rationing and price controls for the first time. Cost-plus pricing in munitions contracts guaranteed that businesses would make a profit no matter how many mediocre workers they employed, no matter how inefficient the techniques they used. The demand was for a vast quantity of war supplies as soon as possible, regardless of cost. Businesses hired every person in sight, even driving sound trucks up and down city streets begging people to apply for jobs. New workers were needed to replace the 12 million working-age men serving in the military. These events magnified the role of the federal government in the national economy. In 1929, federal expenditures accounted for only 3% of GNP. Between 1933 and 1939, federal expenditure tripled, and Roosevelt's critics charged that he was turning America into a socialist state. However, spending on the New Deal was far smaller than on the war effort.
The crisis had many political consequences, among which the abandonment of classic
economic liberal thesis, which
Roosevelt replaced in the US by
keynesian policies. It was a main factor in the implementation of
social-democracy and
planned economy in European countries after the war. It wouldn't be until the 1970s and the beginning of
monetarism that this keynesian economy was put into doubt, leaving the way to
neoliberalism.
*
Aftermath of World War I*
Business cycle*
Cities in the great depression*
Economic collapse*
Gold as an investment*
New Deal*
Smoot-Hawley Tariff Act
* Ambrosius, G. and W. Hibbard,
A Social and Economic History of Twentieth-Century Europe (1989)
* Beaudreau, Bernard C. 1996
Mass Production, The Stock Market Crash and the Great Depression: The Macroeconomics of Electrification Greenwood Press, Westport, CT. [Republished 2004 iUniverse, New York, NY. ISBN 0595323340]
* Bernanke, Ben S. "The Macroeconomics of the Great Depression: A Comparative Approach"
Journal of Money, Credit & Banking, Vol. 27, 1995
* Brown, Ian.
The Economies of Africa and Asia in the inter-war depression (1989)
* Davis, Joseph S.,
The World Between the Wars, 1919-39: An Economist's View (1974)
* Feinstein. Charles H.
The European economy between the wars (1997)
* Filene, Edward A.
The Way Out: A Forecast of the Coming Changes in American Business and Industry New York, NY: Doubleday, 1924.
* Ford, Henry
Today and Tomorrow New York, NY: Doubleday, 1926.
* Garraty, John A.,
The Great Depression: An Inquiry into the causes, course, and Consequences of the Worldwide Depression of the Nineteen-Thirties, as Seen by Contemporaries and in Light of History (1986)
* Garraty John A.
Unemployment in History. (1978)
* Garside, William R.
Capitalism in crisis: international responses to the Great Depression (1993)
* Haberler, Gottfried.
The world economy, money, and the great depression 1919-1939 (1976)
* Hall Thomas E. and J. David Ferguson.
The Great Depression: An International Disaster of Perverse Economic Policies (1998)
* Kaiser, David E.
Economic diplomacy and the origins of the Second World War: Germany, Britain, France and Eastern Europe, 1930-1939 (1980)
* Kindleberger, Charles P.
The World in Depression, 1929-1939 (1983)
* League of Nations,
World Economic Survey 1932-33 (1934)
* Madsen, Jakob B. "Trade Barriers and the Collapse of World Trade during the Great Depression"'
Southern Economic Journal, Vol. 67, 200
* Mundell, R. A. "A Reconsideration of the Twentieth Century' "The American Economic Review" Vol. 90, No. 3 (Jun., 2000), pp. 327-340
* Powell, Jim. FDR's Folly: How Roosevelt And His New Deal Prolonged The Great Depression (New York: Crown Forum, 2003).
* Rothbard, Murray "America's Great Depression" (2000)
* Rothermund, Dietmar.
The Global Impact of the Great Depression (1996)
* Tipton, F. and R. Aldrich, An Economic and Social History of Europe, 1890â€"1939'' (1987)
* For
US specific references, please see complete listing in the
Great Depression in the United States article.
*
Depression video clip (1 min, 33 sec).*
An Overview of the Great Depression from EH.NET by Randall Parker.
*
Great Myths of the Great Depression by
Lawrence Reed*
Franklin D. Roosevelt Library & Museum for copyright-free photos of the period
