The Great Depression of 1930
The Great Depression was a severe economic downturn of the modern world started in 1929 in the United State of America. It lasted till the late 1930s and affected many countries in the world.
"Those who do not remember the past are condemned to repeat it." - George Santayana
Today as we stand on the edge of an economic recession induced by Coronavirus (COVID-19) pandemic, it is worth looking back on the causes and effects of the longest, deepest and most widespread depression of the industrial world.
What Caused the Great Depression?
The great depression started with the stock market crash of October 1929. The 1920s, after the end of the first World War, was a period of prosperity for America. The economy expanded rapidly and the nation's total wealth almost doubled. This induced a great optimism in the outlook of investors and the stock prices soared. Wall Street saw one of the greatest bull runs in history, S&P 500 saw a 500% rise from the low at 6.45 in 1921 to 31.92 by September 1929 [5].
The stock market was filled with speculators by the second half of the 1920s and everyone from janitors to seasoned investors has put their money in the market. Some speculators were taking advantage of low-interest rates to buy stocks on credit. As a result of this over-optimism in Wall Street, the stocks were trading way above their underlying value and prices were not satisfying the perspective of future returns.
So companies retained their workforce with reduced wages. This was supposed to solve the unemployment process but the opposite happened. Reduced money in the hand of common people reduced the demand in the market, which reduced the production thus the profit of business firms fell. So businesses have to let go of many workers and unemployment rose to 23% (almost 6 times) in the US by 1933. In some cities like Toledo (Ohio) and Lowell (Massachusetts) is rose up to 80% and 90% respectively.
Also before 1929, there was over-investment in the housing industry. Increasing unemployment post the market crash also negatively impacted the demand and price of housing properties. People wanted to sell their properties to feed their children. Realty companies did not find buyers. These companies are generally financed by banks. So the debt on these companies rose to a staggering level.
As the situation got worsened the businesses, as well as individuals, were unable to repay their loans. With loan defaults becoming common, banks were reluctant to give new loans. And soon the customers started to feel their money is not safe in the banks. People started queuing up in front of the banks to withdraw money. As this panic spread more and more people wanted to liquidate their deposits. This resulted in a run on banks nationwide. Banks started holding a large pile of cash and lowering loans. Some banks were not able to pay the money. As the supply of money dropped relative to the demand, people started selling bonds to get money. The rapid sale of bonds resulted in a fall in the prices of bonds. As the bond prices fell, interest rates went up, and private firms reduced their investments. Thus the economy went into a depression.
FDR's administration took a lot of initiatives to kick start the economy and provide security and stability to all types of sectors. These initiatives are known as the new Deal. With these new initiatives, the economy started to revive. The real GDP (adjusted after inflation) grew at 9% a year until 1937 when the economy started contracting again.
The effect of the great depression was not limited to the US. It spread to Europe. In Germany, economic instability stirred the process of social unrest which led to the coming to the power of Hitler's Nazi Regime in 1933.
"Sooner or later every bull market must end badly." - Benjamin GrahamBy September 1929, the Americal Economy has entered a mild recession. Consumer demand had slowed down, unsold goods had begun to pile up and factory productions were slowed down or halted. The unemployment rate started to rise up. On October 24, 1929, as the investors started selling their overpriced shares the market crashed. 12.9 million shares were traded that day turning it into a black Thursday. On October 29, five days later, 16million shares exchanged hands with another wave of panic selling.
President Hoover's Response and Bank Run
In November 1929, President Herbert Hoover, sought the guidance of a committee of business leaders and economists to fight the rising unemployment. Hoover's theory was, financial losses should affect the profits, not employment.So companies retained their workforce with reduced wages. This was supposed to solve the unemployment process but the opposite happened. Reduced money in the hand of common people reduced the demand in the market, which reduced the production thus the profit of business firms fell. So businesses have to let go of many workers and unemployment rose to 23% (almost 6 times) in the US by 1933. In some cities like Toledo (Ohio) and Lowell (Massachusetts) is rose up to 80% and 90% respectively.
Also before 1929, there was over-investment in the housing industry. Increasing unemployment post the market crash also negatively impacted the demand and price of housing properties. People wanted to sell their properties to feed their children. Realty companies did not find buyers. These companies are generally financed by banks. So the debt on these companies rose to a staggering level.
As the situation got worsened the businesses, as well as individuals, were unable to repay their loans. With loan defaults becoming common, banks were reluctant to give new loans. And soon the customers started to feel their money is not safe in the banks. People started queuing up in front of the banks to withdraw money. As this panic spread more and more people wanted to liquidate their deposits. This resulted in a run on banks nationwide. Banks started holding a large pile of cash and lowering loans. Some banks were not able to pay the money. As the supply of money dropped relative to the demand, people started selling bonds to get money. The rapid sale of bonds resulted in a fall in the prices of bonds. As the bond prices fell, interest rates went up, and private firms reduced their investments. Thus the economy went into a depression.
Franklin D. Roosevelt and March Bank Holiday
During this economic turmoil, in 1933, Franklin Delano Roosevelt, often referred to by his initials FDR, was elected as the 32nd president of the United States. His predecessor, President Hoover, had taken a lot of steps to fight the depression but none of those seem to work in the short run. Before FDR entered the white house the bank run reached to its highest level and many banks were shut down. In his inauguration day speech, on the 4th of March, 1933, FDR said to the people, "It is safe for you to keep your money in a reopened bank than to keep it under the mattress." His famous quote was,"The only thing we have to fear is fear itself."On that day FDR declared a four-day bank holiday during which all banks would remain closed. On March 9, 1933, the Emergency Banking Act was passed by the United States Congress, in an attempt to stabilize the banking system. During FDR's presidency, he established the Federal Deposit Insurance Corporation (FDIC) to protect depositors’ accounts and the Securities and Exchange Commission (SEC) to regulate the stock market and prevent abuses of the kind that led to the 1929 crash.
FDR's administration took a lot of initiatives to kick start the economy and provide security and stability to all types of sectors. These initiatives are known as the new Deal. With these new initiatives, the economy started to revive. The real GDP (adjusted after inflation) grew at 9% a year until 1937 when the economy started contracting again.
Effects of The Great Depression
The financial woes of the Great Depression forced women to enter the workforce in huge numbers as the family's income shrunk and the male breadwinners lost their jobs. The United States saw a 24% rise in women workforce from 10.5 million to 13 million from 1930 to 1940. Women during the Great Depression had a strong advocate in First Lady Eleanor Roosevelt, who lobbied her husband for more women in office.The effect of the great depression was not limited to the US. It spread to Europe. In Germany, economic instability stirred the process of social unrest which led to the coming to the power of Hitler's Nazi Regime in 1933.
World war II and the end of the Great Depression
With FDR's to support the Allies (England, France, and their supporters) against the Axis (German, Italy and their supporters), the defense manufacturing geared up, producing more and more private-sector jobs. And after Japan's attack on Pearl Harbor in December 1941 paved way for the USA to enter into the world. The mandatory enlisting of youth in the army and expanding wartime industrial production, the unemployment went back to pre-depression level.References
1. Wikipedia
2. History.com
3. Day to Day Economics by Satish Y. Deodhar, IIM Ahamadabad Business Books
5. The Intelligent Investor by Benjamin Graham
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