Gerber_US_History: Fear the Boom and Bust

Causes of the Great Depression (1924-1929)

Read This First: http://www.econlib.org/library/Enc/GreatDepression.html
This will give you a better understanding of the Great Depression from a Economic perspective.

Long Term Trends

1) Government Policies (Hoover’s “last eight years”):

A series of Republican presidents- Harding, Coolidge, and Hoover- who believed in government-business cooperation. In reality, government was more of a compliant coordinator than an active manager. In other words, government policies helped businesses thrive: Congress cut taxes on corporations and wealthy individuals. Further, the Progressive-era anti-trust stance was largely abandoned. Also avoided regulatory legislation and government interference in the market economy. More about cooperation than regulation.

2) Industries in trouble:

Numerous key basic industries such as textiles, steel, and railroads struggled to make profits. Mining and coal, which had expanded to supply wartime needs during WWI, faced diminished demand for goods during peacetime. Even “boom industries” of 1920s- automobiles, construction, and consumer goods- began to weaken as consumer demand leveled off. One struggling industry could create a chain reaction that would cause other industries to suffer. For example, construction of new houses declined so demand for building materials, new furnishings and appliances, and construction workers declined too. Health of these industries was important because prosperity of the economy depended excessively on these few basic industries.

3) Agricultural issues:

Sector of economy that was suffering the most. During WWI, international demand for crops like wheat and corn soared, causing prices to rise. Farmers planted more crops and took out more loans to buy land and equipment in hopes of capitalizing on Allies’ need for food. BUT, after the war demand for farm products fell so crop prices fell too. Also, agricultural production in Europe began to recover. Disappearance of markets created by the war.

Essentially, farmers have a surplus on their hands and no one to sell it to. Overproduction and foreign competition! L

*Farmers strapped for cash cannot pay property taxes or mortgages or pay off their debts and are forced to auction off their land. For example, in Mississippi, it was reported in 1932 that on a single day in April approximately one-fourth of all the farmland in the state was being auctioned off to meet debts.

4) Consumers issues:

During the 1920s, most people enjoyed a higher standard of living relative to previous generations. Spurred by advertising and buying on credit, Americans eagerly acquired radios, automobiles, real estate, and stocks.

BUT, by the late 1920s, Americans were buying less (weakening consumer demand). Why? Less money to spend!

1) Rising prices while wages remain the same:

Consumers spend less because incomes not rising fast enough in comparison to prices. During 1920s, nearly half of nation’s families earned less than $1500/year (minimum amount for decent standard of living). Even families earning twice as much could not afford many products manufacturers produced. Average man/woman bought a new outfit of clothes only once a year. Scarcely half the homes in cities had electric lights or a furnace for heat. Only one in ten had an electric refrigerator.

In contrast, rich Americans are doing very well. Between 1920-1929, income of wealthiest 1% of population increases by 75% compared with a 9% increase for Americans as a whole. In 1929, wealthiest 5% of families took in nearly a third of the nation’s income.

*Large increase in income (~$74 billion to $89 billion), but as shown in the previous graph, only a small percentage of the population experienced a large increase in income. Contrastingly…

Consequently, unbalanced distribution of income emerging:

Unequal distribution of wealth meant that most Americans couldn’t participate fully in the economic advances of the 1920s because they didn’t have the money to buy the flood of goods that factories produced. Too little money in the hands of working people who made up the majority of consumers. One solution to this problem was buying on credit…

2) Overbuying on credit in the preceding years (credit structure of the economy):

Although many Americans appeared prosperous during the 1920s, they were actually living beyond their means. They frequently bought goods on credit- an arrangement in which consumers agreed to buy now and pay later for purchases, often on an installment plan (usually in monthly payments) that included interest charges. Credit was easily available, encouraging people to pile up a large consumer debt. People then struggled to pay off this debt and often cut back on spending.

*The glitter of consumer culture that dominated everyday life blinded Americans to increasingly uneven prosperity and rising debts. Superficial prosperity of the 1920s hid troubling weaknesses that would ultimately lead to the Great Depression in the 1930s.

5) International Problems:

Following WWI, European demand for American goods began to decline because European industry and agriculture were regaining their footing and becoming more productive. Also, these nations’ war debts made overseas goods unaffordable. When the war ends, European nations allied with U.S. owe large sums of money to American banks. Their shattered economies can’t produce this money so they insist on reparations payments from Germany and Austria to help them pay of their own debts. But, economies of Germany and Austria are also in shambles and they cannot pay reparations. Crash chokes off American loans to Germany and Austria- they can’t pay reparations debts to Allies- Allies can’t pay war debts to U.S.- world economy grinds to halt.

On top of all this, U.S. passes Hawley-Smoot Tariff Act which establishes highest protective tariff in U.S. history. This makes it difficult for European countries to sell goods in U.S., earning American currency to buy American exports.

6) Stock Market:

Through most of 1920s, stock prices rose steadily and as a result more people bought stocks and bonds, taking advantage of rising prices. However, several problems emerge:

1) More and more investors engaging in speculation: buying stocks and bonds on the chance that they might make a quick and large profit, ignoring any risks.

2) Buying on margin: paying a small percentage of the stock’s price as a down payment and borrowing the rest. Stockbrokers willing to lend buyers up to 75% of stock’s purchase price.

If stock price rose, could sell it to make a profit and pay back off debt. But if prices declined, no way to pay off the loan you used to buy it in the first place.

*This graph demonstrates how stock prices rose steadily beginning around 1918 (with minor fluctuations throughout) and peaked sharply in 1928 and ‘29. You can see a sharp decline toward the end of 1929. Stock prices began to decline and confidence in the market begins to waver: some investors sell their stocks and pull out. In October, market takes a plunge and panicked investors try to unload their stocks. Black Tuesday, October 29^th, worst day in the crisis: people and corporations frantically trying to sell their stocks before prices plunge even further. As stock prices drop, people are not able to sell their stocks for the same price that they purchased them and are therefore losing money.

Short Term Sparks

We have examined several long term trends and practices that emerged in the post-World War I years and persisted throughout the 1920s. Now we want to narrow our focus to the specific event that really signaled the beginning of the Great Depression. With that in mind, we will discuss:

*Panicked crowds outside NY Stock Exchange on “Black Tuesday”.

October 1929: In September, stock prices begin to decline and confidence in the market begins to waver: some investors sell their stocks and pull out. In October, market takes a plunge and panicked investors try to unload their stocks. Black Tuesday, October 29^th, worst day in the crisis: people and corporations frantically trying to sell their stocks before prices plunge even further. Individual investors who bought stocks on credit acquired huge debts and people who put their savings into the market lost them. 16 million shares were dumped that day. By mid-November, investors had lost $30 billion, an amount equal to U.S. expenditures in WWI.

Stock market crash signaled the beginning of the Great Depression, period from 1929-1941 in which economy was in severe decline and millions of people were out of work

Also causes banks to collapse: after the crash, Americans panic and withdraw their money from banks, forcing over 9,000 to go bankrupt or close to avoid bankruptcy. Many banks couldn’t cover customers’ withdrawals because they had invested money in the stock market and lost it. 9 million individual savings accounts were wiped out as banks closed.

By 1933, 100,000 businesses had closed down. As businesses failed or cut back, they laid off workers. Unemployment leapt from ~3% (1.6 million workers) to ~25% in 1929 (13 million workers). One out of every four workers was without a job. Those who managed to hold onto jobs had to accept pay cuts and reduced hours.