Great Depression

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The Great Depression was a severe, worldwide economic downturn which lasted from 1929 until around the beginning of World War II in the early 1940s.

Advocates of different economic systems have traded blame for the depression. Socialists tend to call it a failure of the free market system, while advocates of free markets blame the depression on government efforts to transform the U.S. economy into Socialism.

  • As documented so well by free-market economists Ludwig von Mises, Friedrich Hayek, and Murray Rothbard, during the 1920s, the Federal Reserve Board, exercising its power to expand the money supply, caused an inflationary binge — an action which created a false aura of prosperity. When the political authorities — faced with this inflationary threat and restrained by the gold standard — finally ceased the monetary expansion near the end of the decade, the inevitable economic hangover was reflected in the 1929 stock market crash and in generally depressed economic conditions. In other words, contrary to the indoctrination which the American people have received from their political authorities, the Great Depression was not the failure of America's free-enterprise system — it was the failure of political manipulation of money and credit.
  • Faced with the Great Depression — a depression which had been caused by government itself — Roosevelt's "solution" was to implement economic planning. Under the banner of "saving America's free-enterprise system," FDR was directly responsible for the abandonment of America's 150-year history of free enterprise. [1]

Contents

Prelude to the Depression

The Great Depression has central place in twentieth century economic history. In its shadow, all other depressions are insignificant. Whether assessed by the relative shortfall of production from trend, by the duration of slack production, or by the product-depth times duration-of these two measures, the Great Depression is an order of magnitude larger than other depressions: it is off the scale. All other depressions and recessions are from an aggregate perspective (although not from the perspective of those left unemployed or bankrupt) little more than ripples on the tide of ongoing economic growth. The Great Depression cast the survival of the economic system, and the political order, into serious doubt.

As early as 1925, then-Secretary of Commerce Herbert Hoover had warned President Coolidge that stock market speculation was getting out of hand. Yet in his final State of the Union Address, Coolidge saw no reason for alarm. "No Congress...ever assembled has met with a more pleasing prospect than that which appears at the present time"...said Coolidge early in 1929. "In the domestic field there is tranquility and contentment...and the highest record of prosperity in years."

Al Smith's campaign manager, General Motors executive John J. Raskob, agreed. In an article entitled "Everybody Ought to be Rich" Raskob declared, "Prosperity is in the nature of an endless chain and we can break it only by refusing to see what it is." President-elect Herbert Hoover disagreed. Even before his inauguration he urged the Federal Reserve to halt "crazy and dangerous" gambling on Wall Street by increasing the discount rate the Fed charged banks for speculative loans. He asked magazines and newspapers to run stories warning of the dangers of rampant speculation.

Once in the office, the new president ordered a reluctant Andrew Mellon, his holdover secretary of the treasury, to promote the purchase of bonds instead of stocks. He sent his friend Henry Robinson, a Los Angeles banker, to convey a cautionary message to the financiers of Wall Street--and received in return a long, scoffing memorandum from Thomas W. Lamont of J.P. Morgan and Company. When the Federal Reserve Board that August did take steps to check the flow of speculative credit, New York bankers defied Washington, the National City Bank alone promising $100 million in fresh loans. An angry Hoover let the president of the New York Stock Exchange know that he was thinking of regulatory steps to curb stock manipulation and other excesses. Yet he undercut his own threat by placing ultimate responsibility for such measures on New York State's new governor, Franklin D. Roosevelt, who was already contemplating running against Hoover.

Presidents in 1929 were not supposed to regulate Wall Street, or even talk about the gyrating market for fear of inadvertently setting off a panic. Hoover had his own reasons for keeping quiet. His conscience was pained after a friend took his advice to buy an issue that later nosedived. "To clear myself," the president told intimates, "I just bought it back and I have never advised anybody since."

By early September, 1929 the market was topping out, some eighty two points above its January plateau. In eighteen months, General Electric had tripled in value, reaching $396 per share. Other blue chips, fueled by more than $8 billion in brokers' loans, enjoyed similar rises. The last week of October, however, brought a terrible reckoning. On October 24 alone (Black Thursday), radio stocks lost 40% of their paper value. Montgomery Ward surrendered thirty-three points. Big bankers tried and failed to stem the dizzying decline in U.S. Steel, a bellwether stock.

The Stock Market Crash

For a more detailed treatment, see Stock market crash of 1929

On Black Tuesday, the twenty-ninth, the market collapsed. In the words of a gray haired Stock Exchange guard, "They roared like a lot of lions and tigers. They hollered and screamed, they clawed at one another collars. It was like a bunch of crazy men. Every once in a while, when Radio or Steel or Auburn would take another tumble, you'd see some poor devil collapse and fall to the floor."

In a single day, sixteen million shares were traded--a record--and thirty billion dollars vanished into thin air. Westinghouse lost two thirds of its September value. DuPont dropped seventy points. The "Era of Get Rich Quick" was over. Jack Dempsey, America's first millionaire athlete, lost $3 million. Cynical New York hotel clerks asked incoming guests, "You want a room for sleeping or jumping?"

Discussion of remedial measures

The first instinct of governments and central banks faced with this gathering Depression began was to do nothing. Businessmen, economists, and politicians (memorably Secretary of the Treasury Mellon) expected the recession of 1929-1930 to be self-limiting. Earlier recessions had come to an end when the gap between actual and trend production was as large as in 1930. They expected workers with idle hands and capitalists with idle machines to try to undersell their still at-work peers. Prices would fall. When prices fell enough, entrepreneurs would gamble that even with slack demand production would be profitable at the new, lower wages. Production would then resume.

Throughout the decline--which carried production per worker down to a level 40 percent below that which it had attained in 1929, and which saw the unemployment rise to take in more than a quarter of the labor force--the government did not try to prop up aggregate demand. The Federal Reserve did not use open market operations to keep the money supply from falling. Instead the only significant systematic use of open market operations was in the other direction: to raise interest rates and discourage gold outflows after the United Kingdom abandoned the gold standard in the fall of 1931. The Federal Reserve thought it knew what it was doing: it was letting the private sector handle the Depression in its own fashion. It saw the private sector's task as the "liquidation" of the American economy. And it feared that expansionary monetary policy would impede the necessary private-sector process of readjustment.

Contemplating the wreck of his country's economy and his own political career, Herbert Hoover wrote bitterly in retrospect about those in his administration who had advised inaction during the downslide:

The 'leave-it-alone liquidationists' headed by Secretary of the Treasury Mellonfelt that government must keep its hands off and let the slump liquidate itself. Mr. Mellon had only one formula: 'Liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate'.He held that even panic was not altogether a bad thing. He said: 'It 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'

But Hoover had been one of the most enthusiastic proponents of "liquidationism" during the Great Depression. And the unwillingness to use policy to prop up the economy during the slide into the Depression was backed by a large chorus, and approved by the most eminent economists.

For example, from Harvard Joseph Schumpeter argued that there was a "presumption against remedial measures which work through money and credit. Policies of this class are particularly apt to produce additional trouble for the future." From Schumpeter's perspective, "depressions are not simply evils, which we might attempt to suppress, butforms of something which has to be done, namely, adjustment to change." This socially productive function of depressions creates "the chief difficulty" faced by economic policy makers. For "most of what would be effective in remedying a depression would be equally effective in preventing this adjustment."

From London, Friedrich Hayek found it:

  • ...still more difficult to see what lasting good effects can come from credit expansion. The thing which is most needed to secure healthy conditions is the most speedy and complete adaptation possible of the structure of production.If the proportion as determined by the voluntary decisions of individuals is distorted by the creation of artificial demand resources [are] again led into a wrong direction and a definite and lasting adjustment is again postponed.The only way permanently to 'mobilise' all available resources is, thereforeto leave it to time to effect a permanent cure by the slow process of adapting the structure of production...

Hayek and company believed that enterprises are gambles which sometimes fail: a future comes to pass in which certain investments should not have been made. The best that can be done in such circumstances is to shut down those production processes that turned out to have been based on assumptions about future demands that did not come to pass. The liquidation of such investments and businesses releases factors of production from unprofitable uses; they can then be redeployed in other sectors of the technologically dynamic economy. Without the initial liquidation the redeployment cannot take place. And, said Hayek, depressions are this process of liquidation and preparation for the redeployment of resources.

As Schumpeter put it, policy does not allow a choice between depression and no depression, but between depression now and a worse depression later: "inflation pushed far enough [would] undoubtedly turn depression into the sham prosperity so familiar from European postwar experience, [and]... would, in the end, lead to a collapse worse than the one it was called in to remedy." For "recovery is sound only if it does come of itself. For any revival which is merely due to artificial stimulus leaves part of the work of depressions undone and adds, to an undigested remnant of maladjustment, new maladjustment of its own which has to be liquidated in turn, thus threatening business with another [worse] crisis ahead"

This doctrine--that in the long run the Great Depression would turn out to have been "good medicine" for the economy, and that proponents of stimulative policies were shortsighted enemies of the public welfare--drew anguished cries of dissent from those less hindered by their theoretical blinders. British economist Ralph Hawtrey scorned those who, like Robbins and Hayek, wrote at the nadir of the Great Depression that the greatest danger the economy faced was inflation. It was, Hawtrey said, the equivalent of "Crying, 'Fire! Fire!' in Noah's flood."

John Maynard Keynes also tried to bury the liquidationists in ridicule. Later on Milton Friedman would recall that at the Chicago University where he went to graduate school such dangerous nonsense was not taught--but that he understood why at Harvard-where such nonsense was taught-bright young economists might rebel, reject their teachers' macroeconomics, and become followers of Keynes. Friedman thought that Keynesianism was wrong--but not crazy. On analyst has commented, "the answers that Keynes produced were good enough for people to think they were right. But all he really did was give an aspirin for a brain tumor. It dulled the pain only slightly but enough to stop people looking for real answers....It might even be argued that, had the world econmomy recovered in the early thirties, Hitler might never have been able to appeal to German poverty, and World War II might also never have happened." [2]

However, the "liquidationist" view carried the day. Even governments that had unrestricted international freedom of action--like France and the United States with their massive gold reserves--tended not to pursue expansionary monetary and fiscal policies on the grounds that such would reduce investor "confidence" and hinder the process of liquidation, reallocation, and the resumption of private investment.

Attempts to stimulate the economy

Refusing to accept the "natural" economic cycle in which a market crash was followed by cuts in business investment, production and wages, Hoover summoned industrialists to the White House on November 21, part of a round robin of conferences with business, labor, and farm leaders, and secured a promise to hold the line on wages. Henry Ford even agreed to increase workers' daily pay from six to seven dollars. From the nation's utilities, Hoover won commitments of $1.8 billion in new construction and repairs for 1930. Railroad executives made a similar pledge. Organized labor agreed to withdraw its latest wage demands.

The President ordered federal departments to speed up construction projects. He contacted all forty-eight state governors to make a similar appeal for expanded public works. He went to Congress with a $160 million tax cut, coupled with a doubling of resources for public buildings and dams, highways and harbors. In December of 1929, Hoover's friend Julius Barnes of the U.S. Chamber of Commerce presided over the first meeting of the National Business Survey Conference, a task force of four hundred leading businessmen designated to enforce the voluntary agreements. Looking back at the year, the "New York Times" judged Commander Richard Byrd's expedition to the South Pole-- not the Wall Street crash-- the biggest news story of 1929.

Praise for Hoover's intervention was widespread. "No one in his place could have done more," concluded the "New York Times" in the spring of 1930, by which time the Little Bull Market had restored a measure of confidence on Wall Street. "Very few of his predecessors could have done as much." concluded the Times. On February 18 Hoover announced that the preliminary shock had passed, and that employment was again on the mend. In June, a delegation of bishops and bankers called at the White House to warn of spreading joblessness. Hoover reminded them of his successful conferences with business and labor, and the explosion of government activity and public works designed to alleviate suffering. "Gentlemen," he concluded, "you have come six weeks too late".


Boom or Bust Cycles

For most of our history Americans have been resigned to the "boom and bust" school of economics. When the economy got overheated and speculation ran rampant, a crash was unavoidable. Under such circumstances the best government could do was to do nothing that might make a bad thing worse. "Panics" had occurred in the 1830's under President Martin Van Buren, in the 1850s under James Buchanan, during Ulysses S. Grant's term in the 1870s and, most notably, under Grover Cleveland in the 1890s.

None of these presidents did much to stem the deflation in prices, contraction of investment, and loss of jobs that resulted--for the simple reason that standard economic theory held there was little if anything they could do. Then, in 1921, a post war slump led President Warren Harding to name Hoover as chairman of a special conference to deal with unemployment. "There is no economic failure so terrible in its import," Hoover declared at the time, "as that of a country possessing a surplus of every necessity of life in which numbers...willing and anxious to work are deprived of dire necessities. It simply cannot be if our moral and economic system is to survive.

This view explains President Hoover's vigorous counterattack in the wake of Wall Street's initial tumble. Not all of his advisers were so willing to abandon Boom and Bust theories. As late as 1930, Secretary of the Treasury Andrew Mellon held that a panic might not be such a bad thing. "It will purge the rottenness out of the system," he added. "High costs of living...will come down. People will work harder, live a moral life. Values will be adjusted, and enterprising people will pick up the wrecks from less competent people." Mellon lost out, however, and was packed off by President Hoover to the Court of Saint James.


Why the "Great" Depression?

Economists are still divided about what caused the Great Depression, and what turned a relatively mild downturn into a decade-long nightmare. Hoover himself emphasized the dislocations brought on by World War I, the rickety structure of American banking, excessive stock speculation and Congress' refusal to act on many of his proposals. The president's critics argued that in approving the Smoot-Hawley Tariff in the spring of 1930, he unintentionally raised barriers around U.S. products, worsened the plight of debtor nations and set off a round of retaliatory measures that crippled global trade.

Neither claim went far enough. In truth Hoover's celebration of technology failed to anticipate the end of a postwar building boom, or a glut of 26,000,000 new cars and other consumer goods flooding the market. Agriculture, mired in depression for much of the 1920's, was deprived of cash it needed to take part in the consumer revolution. At the same time, the average worker's wages of $1,500 a year failed to keep pace with the spectacular gains in productivity achieved since 1920. By 1929 production was outstripping demand.

The United States had too many banks, and too many of them played the stock market with depositors' funds, or speculated in their own stocks. Only a third or so belonged to the Federal Reserve System on which Hoover placed such reliance. In addition, government had yet to devise insurance for the jobless or income maintenance for the destitute. When unemployment resulted, buying power vanished overnight. Since most people were carrying a heavy debt-load even before the crash, the onset of recession in the spring of 1930 meant that they simply stopped spending.

Together government and business actually spent more in the first half of 1930 than the previous year. Yet frightened consumers cut back their expenditures by ten percent. A severe drought ravaged the agricultural heartland beginning in the summer of 1930. Foreign banks went under, draining U.S. wealth and destroying world trade. The combination of all these factors caused a downward spiral, as earning fell, domestic banks collapsed, and mortgages were called in. Hoover's hold the line policy in wages lasted little more than a year. Unemployment soared from five million in 1930 to over eleven million in 1931. A sharp recession had become the Great Depression.

Nevertheless, a large part of the puzzle remains: roughly half of Depression unemployment was concentrated among long-term unemployed who could not take advantage of subsidized relief-work schemes.

This form of unemployment, principally long-term and somewhat of a residual category is, in the eyes of Eichengreen and Hatton and their contributors, the key to the persistence of the Depression. Long-term unemployment was strongly present in those countries that suffered worst from the Depression, including non-European nations like Australia, Canada, and the United States and European nations like Britain, Germany, Italy, and the gold block nations of France and Belgium. Of these only Germany achieved a strong recovery from the Depression in the 1930's.

Long-term unemployment means that the burden of economic dislocation is unequally borne. Since the prices workers must pay often fall faster than wages, the welfare of those who remain employed frequently rises in a depression. Those who become and stay unemployed bear far more than their share of the burden of a depression. Moreover the reintegration of the unemployed into even a smoothly-functioning market economy may prove difficult, for what employer would not prefer a fresh entrant into the labor force to someone out of work for years? The simple fact that an economy has recently undergone a period of mass unemployment may make it difficult to attain levels of employment and boom that a luckier economy attains as a matter of course.Once an economy had fallen deeply into the Great Depression, devalued exchange rates, prudent and moderate government budget deficits (as opposed to the deficits involved in fighting major wars), and the passage of time all appeared equally ineffective ways of dealing with long-term unemployment. Highly centralized and unionized labor markets like Australia's and decentralized and laissez-faire labor markets like that of the United States did equally poorly in dealing with long-term unemployment. Fascist "solutions" were equally unsuccessful, as the case of Italy shows, unless accompanied by rapid rearmament as in Germany.

Even today, economists have no clean answers to the question of why the private sector could not find ways to employ its long-term unemployed. The very extent of persistent unemployment in spite of different labor market structures and national institutions suggests that theories that find one key failure responsible should be taken with a grain of salt.

But should we be surprised that the long-term unemployed do not register their labor supply proportionately strongly? They might accurately suspect that they will be at the end of every selection queue. In the end it was the coming of World War II and its associated demand for military goods that made private sector employers wish to hire the long-term unemployed at wages they would accept.

The Banking Crisis

In the last weeks of his term, Hoover faced a desperate crisis of confidence as uncertain investors sought reassurance that the new administration would defend the gold standard. On February 17, 1933, the president wrote president-elect Roosevelt, seeking assurances that Roosevelt would balance the budget, combat inflation, and halt publication of loans made by the Reconstruction Finance Corporation. Roosevelt, sensing that his discredited predecessor was trying to tie his hands, kept silent.

Soon banks in two dozen states began to totter. Hoover denounced corrupt bankers as worse than Al Capone ("He apparently was kind to the poor.") He proposed that the Federal Reserve guarantee every depositor's account in the nation. The idea of deposit insurance would eventually become law, but in February, 1933 the Reserve's governors preferred a general bank holiday instead. Hoover refused to take such a drastic action without Roosevelt's agreement. And FDR had his own agenda.

Twice on the night of March 3, Hoover telephoned the president-elect trying to persuade him to join in concerted action. FDR replied that governors were free to do what they wished on a state by state basis. A little after one in the morning, the Governors of New York and Illinois unilaterally suspended banking operations in their states. "We are at the end of our string," President Hoover remarked to his secretary that morning, "there is nothing more we can do."

Economist Milton Friedman points out the Federal Reserve Board did not do what it was created to do -- act as lender of last resort to keep the money supply from shrinking -- which caused the banking crisis.

The Drought

The drought hit first in the eastern part of the country in 1930. In 1931, it moved toward the west. By 1934 it had turned the Great Plains into a desert. "If you would like to have your heart broken, just come out here," wrote Ernie Pyle, a roving reporter in Kansas, just north of the Oklahoma border, in June of 1936. "This is the dust-storm country. It is the saddest land I have ever seen."

The Dust Bowl got its name on April 15, 1935, the day after Black Sunday. Robert Geiger, a reporter for the Associated Press, traveled through the region and wrote the following: "Three little words achingly familiar on a Western farmer's tongue, rule life in the dust bowl of the continent - if it rains." The term stuck, spreading to radio broadcasts and publications, in private letters and public speeches.

The Soil Conservation Service used the term on their maps to describe "the western third of Kansas, Southeastern Colorado, the Oklahoma Panhandle, the northern two-thirds of the Texas Panhandle, and northeastern New Mexico." The SCS Dust Bowl region included some surrounding area, to cover one-third of the Great Plains, close to 100 million acres, 500 miles by 300 miles. It is thought that Geiger was referring to an earlier image of the plains coined by William Gilpin, who had compared the great plains to a fertile bowl, rimmed by mountains. Residents hated the label, which was thought to play a part in diminishing property values and business prospects in the region.

The Drought alone did not cause the black blizzards. Although dry spells are unavoidable in the region, occurring roughly every 25 years, it was the combination of drought and misuse of the land that led to the incredible devastation of the Dust Bowl years. Originally covered with grasses that held the fine soil in place, the land of the southern plains was plowed by settlers who brought their farming techniques with them when they homesteaded the area. Wheat crops, in high demand during World War I, exhausted the topsoil. Overgrazing by cattle and sheep herds stripped the western plains of their cover. When the drought hit, the land just blew away in the wind.

A letter from an Oklahoma woman, later published in Reader's Digest magazine, recalls June of 1935. "In the dust-covered desolation of our No Man's Land here, wearing our shade hats, with handkerchiefs tied over our faces and vaseline in our nostrils, we have been trying to rescue our home from the wind-blown dust which penetrates wherever air can go. It is almost a hopeless task, for there is rarely a day when at some time the dust clouds do not roll over. 'Visibility' approaches zero and everything is covered again with a silt-like deposit which may vary in depth from a film to actual ripples on the kitchen floor."

Beginning in 1935, federal conservation programs were created to rehabilitate the Dust Bowl, changing the basic farming methods of the region by seeding areas with grass, rotating crops, and using contour plowing, strip plowing, and planting "shelter belts" of trees to break the wind. Farmers were defensive when outsiders criticized their farming methods. Only when they were paid did they begin to put the new farming techniques into practice. The dollar per acre they earned often meant the difference between being able to stay a bit longer or having to abandon their land. As historian Robert Worster wrote, "The ultimate meaning of the dust storms of the 1930s was that America as a whole, not just the plains, was badly out of balance with its natural environment. Unbounded optimism about the future, careless disregard of nature's limits and uncertainties, devotion to self-aggrandizement - all these were national as well as regional characteristics."

The New Deal

Enforcement of the Antitrust Act was considered as an essential instrument to prevent cartels and trusts and combinations in restraint of trade which were supposed to be deadly to the system of free enterprise. During the fall election of 1932, Franklin Roosevelt called for strict enforcement of the Antitrust Act as part of his proposed New Deal. Yet immediately upon Roosevelt's election enforcement was suspended ­in order to cartelize every industry in America on the Italian corporative model.

Recovery

See also

References

  1. ↑ http://www.fff.org/freedom/0891a.asp
  2. ↑ Harry Schultz, Bear Market Investment Strategies, Dow Jones-Irwin Co., 1981, pg. 215.

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