The Great Depression – 1929

The Great Depression was a worldwide economic depression that lasted 10 years.
It began on “Black Thursday," October 24, 1929. Over the next four days, stock
prices fell 23 percent in the stock market crash of 1929. The stock market had
been troubled well before October, however; in August of 1929, stocks were
overvalued despite rising unemployment and declining production. As such, many
people consider this the true starting point of the Great Depression.

The Great Depression affected all aspects of society. By its height in 1933,
unemployment had risen from 3 percent to 25 percent of the nation’s workforce.
Wages for those who still had jobs fell. U.S. gross domestic product was cut in
half, from $103 billion to $55 billion, due partly to deflation. The Consumer Price
Index fell 27 percent between November 1929 to March 1933, according to the
Bureau of Labor Statistics.

Panicked government leaders passed the Smoot-Hawley tariff in 1930 to protect

domestic industries and jobs, but it actually worsened the issue. World trade
plummeted roughly 65 percent as measured in U.S. dollars between 1930 and
1932. Global financial distress had significant geopolitical ramifications.
Hyperinflation and other economic woes in Germany, for instance, arguably
contributed to Hitler's rise.

What Caused It

According to Ben Bernanke, the past chairman of the Federal Reserve, the central
bank helped create the Depression. It used tight monetary policies when it should
have done the opposite. According to Bernanke, these were the Fed's five critical
mistakes:

The Fed began raising the fed funds rate in the spring of 1928. It kept increasing it
through a recession that started in August 1929.
When the stock market crashed, investors turned to the currency markets. At that
time, the gold standard supported the value of the dollars held by the U.S.
government. Speculators began trading in their dollars for gold in September
1931. That created a run on the dollar.

The Fed raised interest rates again to preserve the dollar's value. That further
restricted the availability of money for businesses. More bankruptcies followed.

The Fed did not increase the supply of money to combat deflation.

Investors withdrew all their deposits from banks. The failure of the banks created
more panic. The Fed ignored the banks' plight. This situation destroyed any of
consumers’ remaining confidence in financial institutions. Most people withdrew
their cash and put it under their mattresses. That further decreased the money
supply.

The Fed did not put enough money in circulation to get the economy going again.
Instead, the Fed allowed the total supply of U.S. dollars to fall 30 percent. Later
research has supported parts of Bernanke's assessment.

The Gold Standard And The Spread of Worldwide Depression

What is the Gold Standard?

The Gold Standard is a monetary system on which the standard economic unit of
account is based on a fixed quantity of gold The Gold Standard has 3 types:

1. Gold Specie Standard: In this system the monetary unit is associated with the
value of circulating gold coins, or the monetary unit has the value of a certain
circulating gold coin but other coins may be made of less valuable metal.

2. Gold Bullion Standard: The gold bullion standard is a system in which gold coins
do not circulate, but the authorities agree to sell gold bullion on demand at a
fixed price in exchange for the circulating currency.
3. Gold Exchange Standard: The gold exchange standard usually does not involve
the circulation of gold coins. The main feature of the gold exchange standard is
that the government guarantees a fixed exchange rate to the currency of another
country that uses a gold standard (specie or bullion), regardless of what type of
notes or coins are used as a means of exchange. This creates a defacto gold
standard, where the value of the means of exchange has a fixed external value in
terms of gold that is independent of the inherent value of the means of exchange
itself. The Gold Standard was abandoned by most nations as the basis of their
monetary systems at some point in the 20th century, although many nations hold
substantial gold reserves.

Origin of the Gold Standard : Throughout history various commodities have

been used as money. Typically, those commodities that hold their value/lose very
little of their value over time become accepted forms of money. Gold was
preferred over other major metals as chemically it is the most resistant to
corrosion. The use of gold as money began thousands of years ago in Asia Minor.
Other examples of this include the use of the Byzantine gold solidus during the
early and high middle ages and the adoption of the Gold Specie.

The Gold Standard and the Great Depression

The Gold Standard was primarily responsible for the spread of the Great
Depression. Even countries that did not face bank failures and a monetary
contraction first hand were forced to join the deflationary policy since higher
interest rates in countries that performed a deflationary policy led to a gold
outflow in countries with lower interest rates. Under the gold standard –specie
flow mechanism, countries that lost gold but wanted to maintain the gold
standard nonetheless had to allow their money supply to decrease and the
domestic price level to decline (deflation). The Gold Standard could arguably be a
mechanism that turned an ordinary business downturn into what the world came
to know as the Great Depression. Countries were crippled by the limitations and
constraints of the gold standard system as they struggles to adapt

to changes in the world economy in the 1920s.Policy makers were led by the
ideology, the mentality and the rhetoric of the gold standard to take decisions
that only intensified economic distress in the 1930s.Protectionist policies such as
the Smoot- Hawley Tariff Act exacerbated economic depression. The actions
institutions and mentality supported by the gold standard limited the ability of
the governments to respond to adversity and led them to frame policies which
made their condition worse instead of better. The government could only deflate
the economy in response to balance of payments deficits and gold losses and
restrict credit in order to reduce domestic prices and costs until international
balance was restored. The effort to reduce Wages was crucial to this process as
wages were the largest element in costs. However, during the interwar period,
the market for labor had become more structured and Politicized and thus labor
markets were not as flexible as they once were. The spread of unionism, the
growth of internal labor markets and personnel departments in the United States,
etc limited the fluidity of labor costs. As a result of this the conventional gold
standard adjustment mechanism no longer operated as before.

Turning point and recovery

In most countries of the world, recovery from the Great Depression began in
1933. In the US, recovery began in early 1933,[11] but the U.S. did not return to
1929 GNP for over a decade.

Given the key roles of monetary contraction and the gold standard in causing the
Great Depression, currency devaluations and monetary expansion were the
leading sources of recovery throughout the world. There is a notable correlation
between the times at which countries abandoned the gold standard (or devalued
their currencies substantially) and when they experienced renewed growth in
their output. For example, Britain, which was forced off the gold standard in
September 1931, recovered relatively early, while the United States, which did
not effectively devalue its currency until 1933, recovered substantially later.
Similarly, the Latin American countries of Argentina and Brazil, which began to
devalue in 1929, experienced relatively mild downturns and had largely recovered
by 1935. In contrast, the “Gold Bloc” countries of Belgium and France, which were
particularly wedded to the gold standard and slow to devalue, still had industrial
production in 1935 well below that of 1929.

Devaluation, however, did not increase output directly. Rather, it allowed

countries to expand their money supplies without concern about gold movements
and exchange rates. Countries that took greater advantage of this freedom saw
greater recovery. The monetary expansion that began in the United States in early
1933 was particularly dramatic. The American money supply increased nearly 42
percent between 1933 and 1937. This monetary expansion stemmed largely from
a substantial gold inflow to the United States, caused in part by the rising political
tensions in Europe that preceded World War II. Monetary expansion stimulated
spending by lowering interest rates and making credit more widely available. It
also created expectations of inflation, rather than deflation, thereby giving
potential borrowers greater confidence that their wages and profits would be
sufficient to cover their loan payments if they chose to borrow. One sign that
monetary expansion stimulated recovery in the United States by encouraging
borrowing was that consumer and business spending on interest-sensitive items
such as cars, trucks, and machinery rose well before consumer spending on
services.
Fiscal policy played a relatively small role in stimulating recovery in the United
States. Indeed, the Revenue Act of 1932 increased American tax rates greatly in
an attempt to balance the federal budget, and by doing so it dealt another
contractionary blow to the economy by further discouraging spending. Franklin D.
Roosevelt’s New Deal, initiated in early 1933, did include a number of new federal
programs aimed at generating recovery. For example, the Works Progress
Administration (WPA) hired the unemployed to work on government building
projects, and the Tennessee Valley Authority (TVA) constructed dams and power
plants in a particularly depressed area.

Social effects

The Depression was full of inequality between the rich and the poor, and whites
and blacks. African Americans were hit very hard by the Depression, and because
of discrimination, they often had to give up their jobs to white workers.

Statistics, can only partially give an account of the extraordinary hardships that
millions of United States citizens endured For nearly every unemployed person,
there were dependents who needed to be fed and housed Such massive poverty
and hunger had never been known in the United States before. Former
millionaires stood on street corners trying to sell apples at 5 cents apiece.
Hundreds of pitiful shantytowns--called Hoovervilles in honor of the unfortunate
Republican president who presided over the disaster--sprang up all over the
country to shelter the homeless People slept under "Hoover blankets" --old
newspapers--in the out-of-doors. People waited in bread lines in every city,
hoping for something to eat In 1931 alone more than 20,000 Americans
committed suicide.

One might expect the Great Depression to have induced great skepticism about
the economic system and the cultural attitudes favoring hard work and
consumption associated with it. As noted, the ideal of hard work was reinforced
during the depression, and those who lived through it would place great value in
work after the war. Those who experienced the depression were disposed to
thrift, but they were also driven to value their consumption opportunities. Recall
that through the 1930s it was commonly thought that one cause of the
depression was that people did not wish to consume enough: an obvious
response was to value consumption more.
Federal, state, and local governments, as well as many private firms, introduced
explicit policies in the 1930s to favor men over women for jobs. Married women
were often the first to be laid off. At a time of widespread unemployment, it was
felt that jobs should be allocated only to male "breadwinners." Nevertheless,
unemployment rates among women were lower than for men during the 1930s,
in large part because the labor market was highly segmented by gender, and the
service sector jobs in which women predominated were less affected by the
depression. The female labor force participation rate—the proportion of women
seeking or possessing paid work—had been rising for decades; the 1930s saw only
a slight increase; thus, the depression acted to slow this societal change
Economic Effects
During the Depression, half of the nation's banks failed. In the first 10 months of
1930 alone, 744 failed. That was 1,000 percent more than the annual rate in the
1920s. By 1933, 4,000 banks had failed. As a result, depositors lost $140 billion.
People were stunned to find out that banks had used their deposits to invest in
the stock market, so they rushed to take their money out of the bank. These bank
“runs” forced even good banks out of business.
Deflation harmed the economy in many ways. Deflation forced banks, firms, and
debtors into bankruptcy; distorted economic decision-making; reduced
consumption; and increased unemployment. The gold standard transmitted
deflation to other industrial nations, which contributed to financial crises in those
countries, and reflected back onto the United States, exacerbating a deflationary
feedback loop.