So, we come to the most famous, loud and painful financial crisis – The Great Depression. This time we will talk about America again.
The consequences of the Great Depression were terrible, people literally «went out the window». If in 1920-1928 the number of suicides per 100,000 people averaged 12.1%, then in 1929 the rate was 18.1%, and for the next 10 years it remained above the pre-crisis levels – 15.4%.
This time, the story will not begin with the inflation of the bubble in the stock markets and over-lending, but rather with the bursting of this bubble itself. Although without this, nowhere. This time it will be a global crisis, not just a financial crisis. Before the collapse of the capitalist economy, unemployment was 3.2%, but after 1929 it grew rapidly and reached a peak of 25%. Just imagine today a situation where one in four of your acquaintances is unemployed and simply starving. Every fourth resident of the country.
If today there are no special problems with housing, that time it has become an object of luxury. People literally built shacks in the central park to at least spend the night somewhere. So that we can at least somehow evaluate the scale of the tragedy in numbers, let’s take a look at GDP:
In the first year, it fell by 12%, in the next year by another 16%, and then by 23%. If suddenly someone doesn`t understand whether it is a lot or a little, here is the GDP growth over the past 20 years:
The United States is growing by an average of 2-3%. In 2009 (mortgage crisis), the indicator fell by 2.5%. Maybe someone remembers those times, which were the consequences of the crisis. But these effects were reflected in GDP by a 2.5% drop. Now imagine a drop in GDP, first by 12%, then by 16%, and then by 23%.
Well, for comparison, China’s GDP growth rate:
Over the past 4-5 years, it has been growing at 6-7% per year.
The consequences of the Great Depression for other countries:
In general, depression is still very poorly said.
So what happened in the center of capitalism? What caused these consequences? Are bankers guilty again? Let’s figure it out. As before, we will try to restore the chronological chain of events that, at first sight, are not related to each other, but nevertheless provoked a crisis.
As we already found out in the previous article, the Long Depression was officially completed in 1896. Then everything was relatively normal, then the First World War began, which ended in 1918. After all this, a period of prosperity began. In 1919, US GDP was $ 79 billion, and after 10 years it grew by 32%.
In the 1920s, cities were connected to electricity. America literally lit up with various advertising banners that glowed in different ways.
The economy grew and population incomes as well. Accordingly, extra money appeared that could be spent somewhere. For example, buy a vacuum cleaner, refrigerator or radio. If previously only a few had this product, during the prosperity of modern (at that time) gadgets became a necessity.
Then the thesis «A car in every home» appeared. Everyone wanted to own a Ford or Chrysler. Then it seemed that, finally, humanity lives happily ever after. The more you have different clothes, cars and things, the more successful or «more correct» you live.
It was at that time that the still existing consumer culture was born. For a moment, remember some of your friends who buy a new iPhone, without even understanding its characteristics and even more so not understanding whether it is needed at all. In the 1920s, this trend appeared.
Then another phenomenon appeared that today covers every fourth family in the Russian Federation – consumer credit.
Buying on credit has become commonplace. People were encouraged to borrow money for the purchase of a iPhone new radio.
«Buy now, pay later» is the new slogan that appeared then and is still in demand.
• Live today.
• Don`t think about the future.
• Every American has the right to be rich.
This ideology has developed and strengthened in the minds of people for ten years.
What is with the financial markets?
The US government needed to somehow compensate for expenses aimed at solving problems during the war. New dollars could not be just printed because of a number of reasons, including inflation. But the gold reserves were not enough, because at that time there was still a gold standard, but there were no new mines. The authorities came up with a brilliant idea – they issued bonds.
Today, this is no surprise to anyone. Bonds are common in stock markets. You can buy OFZs, treasuries, government bonds, corporate bonds or any other. But, it should be reminded, we are talking about the 1920s.
For those who are new to financial instruments. A bond is a long receipt. The issuer borrows money, and in return issues this receipt (promise to return the money with interest a little later).
So the US government began issuing bonds by selling ordinary citizens of the country. Yes, not just issuing and selling, it still attracted to purchases. Bonds of freedom were actively advertised by actors popular at that time:
• Al Jolson,
• Mary Pickford,
• Elsie Janis,
• World famous Charlie Chaplin.
But these securities had a price. Again, this is no longer news. In the market, bonds are traded at their own quotes, which may vary due to a number of factors, including the interest rate of the Central Bank and others. However, then it was something new. Bonds could be bought from the USA, and then sold to anyone on the secondary market at a market price that could differ in any direction.
This was the first experience in attracting ordinary citizens to investments, and it turned out to be successful. People have already forgotten the consequences of twenty years ago (the collapse of the Vienna stock exchange) and willingly bought freedom bonds.
However, things in the stock market went so-so until 1921. Here is the Dow Jones Index:
Then the president of the state municipal bank Charlie Mitchell decided that people should be involved in the purchase of shares. Investing has become safe and prestigious.
Here’s a chart of the same Dow Jones index after ordinary people were given access to buy shares:
Growth was 567% in just under 10 years.
But now we recall about consumer loans. The index is growing, things are going fine, loans for equipment are issued. «Why not borrow and buy shares with this money? They will rise in price, then I will sell them and repay the debt, earning on the difference in interest». So they started to do. Not just borrowed money, but used leverage.
As a result, the ideology «Buy now, pay later» spread from the real goods market to the stock one. It got to the point that 90% of the shares were borrowed money. But every 40% of one dollar was spent on stocks. The government didn`t hinder this. Bankers convinced the 30th President of the United States Calvin Coolidge, that the capital market is a self-regulatory market and doesn`t need to be controlled. This position was shared by the next president Herbert Hoover.
«The fundamental business in the country, that is, the production and movement of goods, is in perfect condition» he said after the inauguration on March 4, 1929. He said the same words every subsequent year after the fall.
Only one Wall Street representative crept in some doubts about the situation.
«Unless rampant speculation sets a limit, then there will inevitably be collapse, but then complete depression» Paul Worburg said in March 1929.
In summer, the most far-sighted players began to leave, anticipating a catastrophe.
«If a shoe-polisher knows as much about the stock market as I do, then … It’s time to leave» this phrase has been heard today in many different interpretations. It belongs to John F. Kennedy and describes just those times.
Bankers convinced the then presidents that the capital market is a self-regulatory market that doesn`t need to be controlled. Well, in October, he decided to start self-regulation.
The beginning of the crisis.
On October 24, 1929, the most famous stock market crash in history began. A crowd of thousands gathered around the exchange. Winston Churchill was also there.
«A complete stranger to me offered to climb the balcony of the exchange. I saw how crowds of people walk around the building like in an anthill, trying to sell each other a bundle of securities for a third of the previous price» he said about those events. By the way, then Churchill lost a fortune.
A little of conspiracy.
Some sources claim that Churchill lied about a stranger to him. But in fact, it was Bernard Baruch, one of the founders of the Fed and (again, according to unconfirmed sources) one of the very «Masons» who rule the world. He wanted to boast of his power over the country’s economy.
On black Thursday, the market fell 11%. Trading volume was 3 times higher than average. On the same day, the coolest bankers got together and decided to pour a lot of money into the market to stop the fall. These were:
• Albert Wiggin;
• Thomas W. Lamont;
• Charley Mitchell.
Their representative, Richard Whitney, just went around the stock exchange and bought up top companies. Tactics were a success. The Dow Jones slipped by only 2%, and on Friday it closed completely with a plus. By the way, now the Chinese authorities are taking similar measures against the backdrop of concerns about the coronavirus. So, on February 3, they poured $ 172 billion into the stock market. They managed to stop the fall.
However, on Monday, the Dow Jones index fell from 301 to 260, and on Tuesday to 230. Brokers began to call their investors and demand margins. Do you remember we said that the lion’s share of the stock was bought at the expense of leverage? Now, after a significant drop in margin support, it began to miss. Brokers said: «Give us some more money or we will close your position». What does it mean to close a position? That’s right, sell assets by market. We have to add that people had all the money in the stock market and they didn`t have the means to secure their position. The banking sector was also not particularly regulated, but bankers played on the stock exchange with the money of their depositors.
Panic started and people ran to banks, which, oddly enough, lacked liquidity. There was no state insurance then. In 5 days, people lost $ 25 billion in personal savings. This is a quarter of US GDP.
In the 1920s, on average, 70 banks were closed. After the collapse in 10 months, 744 banks were closed. In total, approximately 9,000 banks went bankrupt in the 1930s. Many people could get only 10 cents from their invested dollar. But this is at best.
In 1932, the Dow Jones index hit its bottom at 41.22. it should be reminded, that at the peak it was above 300. The fall was about 90%.
At the beginning of the article, we talked about the consequences of another crisis. Total unemployment, a huge drop in GDP, poverty and a long recovery period. We suggest considering how it all ended.
In March 1933, Franklin Roosevelt came to power.
«I will help every person who is forgotten at the bottom of the economic pyramid» he said.
Roosevelt closed all banks for 4 days to stop the panic and clean up illiquid financial institutions. He also launched a number of government programs to support the economy. Roosevelt understood that enterprises cost, unemployment 25%. Demand cannot come from nowhere. Without demand, production cannot be restarted. He decided to give money to people through these government programs. It was possible to build a bridge, to repair the park. They paid money for this, which consumers could send to purchase basic things. The production has become in demand and this has moved things off the ground.
Why did The Great Depression arise?
As always, answering this question is not so simple. New technologies, a new culture of consumption, new loans and new margin trading have appeared. Oddly enough, the unregulated banking system and the gold standard helped to it all.
By the way, about the gold standard. Many say now that the money was secured before, but now it’s like candy wrappers. But this security has become one of the causes of the crisis. After all, the authorities couldn`t print new money and artificially stop the crisis. Now they are doing just that. If not for quantitative easing, a zero interest rate and other tools for printing candy wrappers, the crisis would have already begun.
But this is a topic for a separate article.
Interestingly, because of the Great Depression, capitalism showed that it was not yet ready for self-regulation and had holes. Against this background, there was a demand for authoritarian regimes, such as communism and fascism that «come and save everyone». That would be interesting to look at history without this crisis. But what if it hadn’t been? Maybe there WWII wouldn’t took place.
After The Great Depression they came up with such an interesting thing as deposit insurance.
This is not the end, mankind has survived many more crises, which we will talk about in the future. Stay in touch!