What Could've Caused the Great Depression?

What was so great about a Depression?

I was a kid back in the 1950s, so my memory predates the civil rights movement, but not the Great Depression, World War II, or the Korean (Conflict) Ware.

While I was not of the Depression era, all the adults in my life were very familiar with that sad period of our history.

My paternal grandfather always told me the same complaint when he talked about the Depression.

“I worked all day digging a ditch right next to a n@#%er! [yes he used the N word] and we were both paid a quarter for our troubles.”

My grandfather’s complaint contains some information I found interesting.

• My grandfather, a banker, a businessman, president of the Lion’s Club, and Vice President of the First National Bank of Austin Texas, had to dig ditches during the depression.
• My grandfather found that the digging of ditches was demeaning.
• The demeaning nature of this ditch digging was exacerbated by the fact that no distinction was made between him [white] and the guy next to him [black].
• My grandfather was insulted that his labor was not more valuable than the labor of black men.
• My great-grandfather was a Church of Christ preacher and he survived because the church members paid him with chickens, and vegetables.

My great-grandfather, my grandfather, and my father were all Republicans. While the conventional rumor is that FDR implemented plans and programs that pulled the US out of the Depression, that was not what I was hearing over Sunday supper. The referred to FDR as King Roosevelt the Second. The only thing I heard that reflected positively on FDR was that he insured the money people put in the bank and that meant we would never have a Depression again.

Nevertheless, every time there has been a big drop on the stock market I have heard someone ask,

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“Could this be Great Depression Two?”
The answer has always been, “No.”
“Could IT happen again?”
“No. IT couldn’t.”
“But could something else happen that is similar to the Great Depression, and possibly worse than what happened during the Great Depression?”

When you ask that question, you can hear crickets chirping.

The Great Depression happened because of a number of bad things converging on our economic system like a perfect storm.

"Many factors played a role in bringing about the depression; however, the main cause for the Great Depression was the combination of the greatly unequal distribution of wealth throughout the 1920's, and the extensive stock market speculation that took place during the latter part that same decade". ~Paul Alexander Gusmorino

1. Black Tuesday

The greatest false belief is that the 1929 stock market Crash was the cause of the Great Depression. On Monday October 21, 1929, the over-valued stock market began to nose-dive. The market managed a brief mid-week comeback, but 7 days later on Black Tuesday the stock market dropped again; 16 million shares were dumped and there were no buyers.
There was actually a 1926 housing bubble. (Sound’s familiar?) There was a burst of a 1929 high-tech bubble. in 1929 -- but also from truly breathtaking neglect and incompetence on the part of policymakers.

2. Credit and Bubbles

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Between 1925 and 1929 credit increased dramatically. In 1925 the level of credit was believed to be $1.38 billion. By 1929 America’s use of credit had increased to about $3 billion”. (Like now, there was a wage gap between the rich and the un-rich. In 2007 the average CEO of a large U.S. company made roughly $10.8 million last year, or 364 times that of U.S. full-time and part-time workers, who made an average of $29,544. That gap is down from 411 times in 2005 and well-below the record high of 525 times recorded in 2000. While the gap between the CEOs and the workers has been narrowing, it is still a huge gap, and I read that the way these numbers are reported has been adjusted to reflect the numbers in a way that is more favorable to the CEOs.
Just like now, the gap between the rich and poor of the 1920s spawned a massive use of credit to keep those dollars flowing. The use of credit is what causes speculative bubbles. When wage stagnate demand falls, and supply increases. Too much supply and no demand is not a good situation for capitalism and so the red flags were raised. The only way to spur more buying THEN was by easing interest rates or expanding personal credit. That is what was done just prior to the Great Depression and that is what has been going on through out the past 5 years or more now. The use of eased interest rates and easily obtained credit always causes speculative bubbles. Anyone who has ever played with those little wands and bubble solution knows that bubbles are delicate, and bubbles always burst.

3a. Bank Failures

There had been Depressions in the past, but the Great Depression got the title of being GREAT because the Fed's failure to act when the bottom fell out of the Banking Industry. The Federal Government, the President and Congress failed to do anything to shore up the Banks or to address in a meaningful way, the “runs” on the banks. Throughout the 1930s over 9,000 banks failed. Bank deposits were uninsured and thus as banks failed people simply lost their savings. The surviving banks were afraid, and unsure of the economic situation. The surviving banks were concerned for their own survival and so they did then, what banks are doing now, they stopped being as willing to extend credit. This exasperated the situation, creating a credit crisis. What is round and bites? A vicious circle, and this credit crisis was indeed a vicious circle. Basically the US Government stood by doing nothing and watched the banking system and the economy collapse.

The inaction of the US Government was not without cause. The Government was not apathetic to the economic storm going on in the US and the world, they just could not figure out what to do. One thing that restrained the Government, in the 1930s, was a fear that rate cuts would cause US dollars to be spent in other countries, not here, and that flow of US dollars into other countries would just increase the speed and the impact of our economic crash.

There was a fear that if you did something like giving incentives to spur the economy that that money would be pouring into a leaking bucket. Money would go into our economy, but it would leak out in other countries. The solution seems obvious. All we had to have done then was coordinate rate cuts both in the US and in Europe. Why didn’t that happen? Because central bankers couldn't agree on anything. There were too many competing ideas on how to address the problem and in the end nothing was done to address the problem.

3b. Hording Money

We have all heard about people finding jars of old money buried in their back yard. We actually have a cliché about putting money under your mattress. A part of the Great Depression included people hoard money, because they didn’t trust banks. There were runs on the bank. People lined up, demanded their money, and the banks didn’t have the money because it had been tied up in the loans they had extended. The money was still technically there, but it was just not available to the people afraid their money might evaporate. The desire for having access to one’s money lead to hording.

It is important to remember that hording is not saving. If money is put into a savings account, that money gets loaned out to borrowers who pay the money back with interest. That is why money in a savings account earns interest. Hording doesn’t even lock in the value of your dollars. Inflation can make horded money worth less and less as time goes on.

4. Not Inflation but Deflation

One of our fears in recent economic history has consistently been with inflation. Prices go up. I remember back in the 1970s I was attending college and working in a grocery story. Every time a truck load of stock arrived I had to change the prices of everything left on the shelf. The prices went up not often, but several times each week. In the Great Depression people were so afraid of the economy getting worse and worse, that people just stopped buying stuff. People from all economic classes stopped purchasing items.

Remember the law of supply and demand. If the demand disappears it leads to a reduction in the number of items produced. If business is producing less then it needs fewer workers. When people lost their jobs, they can’t pay their bills, much less buy new stuff, and so we have huge numbers of homeless people wondering around looking for jobs that do not exist. These unemployed masses were also people who had been extended lots of credit, and now they can’t pay for the items they bought on time, and that increases the credit crises and their items were repossessed. There was no one who wanted to buy this repossessed stuff, which increases the supply at the very time the demand is decreasing. During the Great Depression the unemployment rate rose above 25% which meant, of course, even less spending to help alleviate the economic situation.

5. The Howley-Smoot Tariff

In 1930 the US Government created the Hawley-Smoot Tariff. The goal of this tariff was to protect American businesses from foreign competition. The Hawley-Smoot Tariff had exactly the opposite results from what was intended by those who created the tariff.

This tariff charged a high tax for imported good, which lead to less trade between America and foreign countries. Less trade meant that not only was there no demand here, the tariff eliminated any demands that might have existed in other countries.

The Hawley-Smoot Tariff was one of the first things implemented by our Government, and so it occurred early in the Great Depression. What followed was that 60 other countries passed retaliatory tariffs in response.

6. Drought Conditions and the Dust Bowl

Weather was not a direct cause of the Great Depression, but it did make it even more difficult for the economy to pull out of this downward spiral. The drought was so sever that it prevented farmers from paying their taxes, and they could not repay their farm loans. The credit squeeze kept banks from making new loans. The farmers could not plant new crops without credit and the fields were not replanted. The drought and the unplanted fields lead to the top soil being picked up by the winds and blown away. The farms were reprocessed, and led to unemployment, and homelessness. Read Grapes of Wrath.

The Dust Bowl was a product of climate change, and there is something déjà vu-y about the words climate change

Could the Great Depression happen again? I don’t think so. Could something economically horrible happen? Yes, it could, and it is happening right now, but this is not likely to be as bad as the Great Depression was. I believe things will get better, and are getting better. I believe we are in an economic downturn that will last a little while, and those times will be rough for everyone, and for some of us, this downturn is going to be very, very bad.

What got us out of the Great Depression was FDR's New Deal, a willingness to inflate the money supply, deposit insurance that encouraged savings, and World War II. Most people I have read agree that it was World War II that finally whipped the Great Depression. The war scooped up the young men leaving an employment vacuum, which made it easier for those left to find work, and, eventually increased wages. The war required war production, and that was an increase in demand, which leads to more work, to make more supplies.

While we are currently in two wars, the impact of war does not seem to have the same positive effect on our current economy.

I don’t believe in panaceas. I don’t believe there is ONE answer to fix everything. Like medications for AIDS we need a cocktail of actions to address our current dilemma.

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I do not look upon these United States as a finished product. We are still in the making. ~Franklin D. Roosevelt