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Tuesday, April 14, 2020

The Great Depression 1929

First lets see what is depression ... 

Deflation is a decrease in the general price level of goods and services. It is the opposite of inflation, which occurs when the cost of goods and services is rising. Deflation can be caused by many different economic factors, including a decrease in the demand for products, an increase in the supply of products, excess production capacity, an increase in the demand for money, or a decrease in the supply of money or availability of credit.

The Great Depression

The Great Depression was the greatest and longest economic recession in modern world history.

It began with the stock market crash of 1929 and did not end until 1946 after World War II.

The Stock Market Crash

The STOCK MARKET bubble burst violently Oct. 24, 1929, a day that came to be known as Black Thursday. A brief rally occurred Friday the 25th and during a half-day session Saturday the 26th. However, the following week brought Black Monday, Oct. 28, and Black Tuesday, Oct. 29. The Dow Jones Industrial Index (DJIA) fell more than 20% over those two days. The stock market would eventually fall almost 90% from its 1929 peak.

Ripples from the crash spread across the Atlantic Ocean to Europe triggering other financial crises such as the collapse of the Boden-Kredit Anstalt, Austria’s most important bank. In 1931, the economic calamity hit both continents in full force.

In early 1929, the U.S. unemployment rate was 3.2%; and by 1933, it had soared to 24.9%. Despite unprecedented interventions and government spending by both the Herbert Hoover and Franklin Delano Roosevelt administrations, the unemployment rate remained above 18.9% in 1938. Real per capita gross domestic product (GDP) was below 1929 levels by the time the Japanese bombed Pearl Harbor in late 1941.

While the crash likely triggered the decade-long economic downturn, most historians and economists agree that the crash alone did not cause the Great Depression. Nor does it explain why the slump's depth and persistence were so severe. A variety of specific events and policies contributed to the Great Depression and helped to prolong it during the 1930s.

Mistakes by the Young Federal Reserve

Created in 1913, the Fed remained inactive throughout the first eight years of its existence. After the economy recovered from the 1920 to 1921 depression, the Fed allowed significant monetary expansion. Total money supply grew by $28 billion, a 61.8% increase between 1921 and 1928. Bank deposits increased by 51.1%, savings and loan shares rose by 224.3%, and net life insurance policy reserves jumped 113.8%. All of this occurred after the Federal Reserve cut required reserves to 3% in 1917. Gains in gold reserves via the Treasury and Fed were only $1.16 billion

By increasing the money supply and keeping the interest rate low during the decade, the Fed instigated the rapid expansion that preceded the collapse. Much of the surplus money supply growth inflated the stock market and real estate bubbles. After the bubbles burst and the market crashed, the Fed took the opposite course by cutting the money supply by nearly a third. This reduction caused severe liquidity problems for many small banks and choked off hopes for a quick recovery.

After Black Thursday, the heads of several New York banks had tried to instill confidence by prominently purchasing large blocks of blue-chip stocks at above-market prices. While these actions caused a brief rally Friday, the panicked sell-offs resumed Monday. 

the Fed failed to do so with a cash injection between 1929 and 1932. Instead, it watched the money supply collapse and let literally thousands of banks fail. At the time, banking laws made it very difficult for institutions to grow and diversify enough to survive a massive withdrawal of deposits or run on the bank.

Between 1930 and 1932, a "do-nothing" president, Herbert Hoover increased federal spending by 42% engaging in massive public works programs such as the Reconstruction Finance Corporation (RFC) and raising taxes to pay for the programs. The president banned immigration in 1930 to keep low-skilled workers from flooding the labor market. Unfortunately, many of his and Congress' other post-crash interventions—wage, labor, trade and price controls—damaged the economy's ability to adjust and reallocate resources.

One of Hoover's main concerns was that workers' wages would be cut following the economic downturn. To ensure high paychecks in all industries, he reasoned, prices needed to stay high. 

To keep prices high, consumers would need to pay more. 

The public had been burned badly in the crash, and most people did not have the resources to spend lavishly on goods and services. 

Nor could companies count on overseas trade, as foreign nations were not willing to buy overpriced American goods any more than Americans were.

The plan by USA

This forced Hoover to use legislation to prop up prices and hence wages by choking out cheaper foreign competition.

Following the tradition of protectionists, and against the protests of more than 1,000 of the nation's economists, Hoover signed into law the Smoot-Hawley Tariff Act of 1930(The goal of protecting American farmers and other industries from foreign competition).

The Act was initially a way to protect agriculture but swelled into a multi-industry tariff, imposing huge duties on more than 880 foreign products. Nearly three dozen countries retaliated, and imports fell from $7 billion in 1929 to just $2.5 billion in 1932. By 1934, international trade had declined by 66%. Not surprisingly, economic conditions worsened worldwide.

Hoover's desire to maintain jobs and individual and corporate income levels was understandable. However, he encouraged businesses to raise wages, avoid layoffs, and keep prices high at a time when they naturally should have fallen. With previous cycles of recession/depression, the United States suffered one to three years of low wages and unemployment before dropping prices led to a recovery. Unable to sustain these artificial levels, and with global trade effectively cut off, the U.S. economy deteriorated from a recession to a depression.

The Controversial New Deal

in 1933, President Franklin Roosevelt promised massive change. The New Deal he initiated was an innovative, unprecedented series of domestic programs and acts designed to bolster American business, reduce unemployment, and protect the public.

Loosely based on Keynesian economics (Keynes advocated for increased government expenditures and lower taxes to stimulate demand and pull the global economy out of the depression), its concept was that the government could and should stimulate the economy.

The New Deal set lofty goals to create and maintain the national infrastructure, full employment, and healthy wages. The government set about achieving these goals through price, wage, and even production controls.

Some economists claim that Roosevelt continued many of Hoover's interventions, just on a larger scale. He kept in place a rigid focus on price supports and minimum wages and removed the country from the gold standard, forbidding individuals to hoard gold coins and bullion. He banned monopolistic, some consider them competitive, business practices, and instituted dozens of new public works programs and other job-creation agencies.

The Roosevelt administration paid farmers and ranchers to stop or cut back on production. One of the most heartbreaking conundrums of the period was the destruction of excess crops, despite the need for thousands of Americans to access affordable food.

Federal taxes tripled between 1933 and 1940 to pay for these initiatives as well as new programs such as Social Security. These increases included hikes in excise taxes, personal income taxes, inheritance taxes, corporate income taxes, and an excess profits tax.

New Deal Success and Failure

The New Deal re-instilled public confidence, as there were measurable results, such as reform and stabilization of the financial system. Roosevelt declared a bank holiday for an entire week in March 1933 to prevent institutional collapse due to panicked withdrawals. A program of construction of a network of dams, bridges, tunnels, and roads still in use followed. The projects offered employment for thousands via federal work programs.

Although the economy recovered to an extent, the rebound was far too weak for the New Deal policies to be unequivocally deemed successful in pulling America out of the Great Depression.

The Impact of World War II

According to the gross domestic product (GDP) and employment figures only, the Great Depression appeared to end suddenly around 1941 to 1942, just as the United States entered World War II. The unemployment rate fell from 8 million in 1940 to under 1 million in 1943. However, more than 16.2 million Americans were conscripted to fight in the Armed Services. In the private sector, the real unemployment rate grew during the war.

Due to wartime shortages caused by rationing, the standard of living declined, and taxes rose dramatically to fund the war effort. Private investment dropped from $17.9 billion in 1940 to $5.7 billion in 1943, and total private sector production fell by nearly 50%.

When the war ended, the trade routes remained open. In the first 12 months afterward, private investments rose from $10.6 billion to $30.6 billion. The stock market broke into a bull run in a few short years.

Source : Investopedia