Great Depression

Introduction

Charles Kindleberger argued that only mistakes in monetary policies brought about by the US monetary authorities was not the only reason that a recession turned in the Great Depression. He argues that the depression was brought about by a complex systematix et of causes which was only partly related to monetary policies. Even to this date, economists cannot agree on a single set of problems that was the root of the Great Depression. Economists usually argue between two unicasual theories those being Keynsianism and monetarism. The debate is weather the failure of the money supply to grow led to a decline in spending or weather an independent, autonomous decline in spending actually lead to a decrease of the money supply.

According to Kindleberger, there should be different explanations depending on the time frame during the depression. He suggests that there should be different explanations for 1929-30 and others for the more ordinary recession from 1931-33 Keynesian. If this is done then monetarists get a different impression since the real money values actually rose between 1929-30. The 1929 Great Depression was not the only one to have happened in world history but it was by far the most deep and widespread. So by looking at the Depressions from the 19th century we can see that like after the First World War, there was a similar short, sharp deflation after the Napoleonic war. This was followed by a period of monetary adjustments which lead to the restoration of the value of the currency. This was followed by a great deal of foreign lending which was followed by the crash of the stock market and the depression.

But, Milton Freedman argued that it was completely monetary in nature and that the factors that brought about the depression were all in the national economy and had nothing to do with the international economy or the delay in the implementation of Glass-Steagall Act of 1932 which allowed the Federal Reserve System to substitute government securities instead of gold for the liabilities of the central bank because of a shortage of monetary gold.

Economic historians such as Youngson and some others thought that the depression was brought about by the fall in the gold standard after the First World War, and that the plunge of the gold standard was brought about by the monetary policies of America and France. Also the Franc was undervalued and the British pound was overvalued. This coupled with the unwillingness of the United States to carry out large scale monetary policies might have been a big mistake that subsequently lead to the fall in the gold standard. Eventually the Franc stabilized, which was good for the French, but not so much for the other countries. </nowiki

Recovery from the First World War

             From 1921-29 there was a boom taking place in the US economy fueled by the production of cars and its complementary and supplementary goods and other products such as motion pictures, etc. Murray Rothbard was a result of the relaxed monetary policies used by the Federal Reserve System. Since there is supposed to be inflation in the long run because the boom would mean more money for the people to spend, hence more demand. So production would increase and this would ultimately lead to a rise in the cost of production because of the tight labor market thus leading to inflation. Kindleberger cites that whatever goes up must come down and quotes “It is agreed that to prevent the depression, the only effective method was to prevent a boom.” “A condition of recovery is the gold standard to preserve interlocal equilibrium and to avoid the development of booms.” “A satisfactory theory of the boom explains the depression. In the crisis what has been sown during the boom has to be reaped.”

The boom

         In July 1927, after the Long Island conference, the Federal Reserve System reduced the interest rate to 3.5% to help the British gain capital and thus halt the loss of gold. But, this was also done with domestic considerations in mind and it helped stimulate the rise in the stock market in the spring of 1928. This however was not the cause of the crash of the stock market later. Schwartz and Friedman believed that what lead to the crash was that Federal Reserve System later directed policy partly both to the stock market and the level of business. They believe that the Federal Reserve System should have ignored the boom in the stock market or just carried out either one of its objectives since the two objectives of the monetary policy lead to conflict between them. Although this was not the sole factor responsible for the crash, it did have some significance. 

          The US foreign lending plummeted in June 1928 since people were diverted into the stock market as it was booming and heading for a climax, albeit a nervous one.  The Federal Reserve System, using monetary policy tried to tighten credit and slow down the diversion of money from business and households into the stock market. These factors helped tighten the credit conditions in the industrial and commercial sector. 

The agricultural depression

        Agricultural goods were the main source of export for the United States and cotton was the most important of them all. When in 1929 an attack of bool weevil in the southeastern United States ravaged the cotton fields, it decreased production and increased price. This lead the bank failure in the Atlanta Federal Reserve district in the same year just prior to the stock market crash. However this was thought to be a local phenomenon. But, Benjamin Strong of the Federal Reserve System of New York pointed out that this was something to be worried about since cotton was the most important source of export and was hence very important as the main problem plaguing the United States was its depreciating foreign exchange. 

The 1929 stock market crash

      In response to what caused the 1929 stock market crash Kindleberger quotes “The stock market crash in 1929 was am momentous even, but it did not produce the Great Depression and it was not a major factor in the Depression’s severity. A sharp but not unprecedented contradiction was converted into a catastrophe by bad monetary policy…
  Whatever happens in a stock market, it cannot lead to a great depression unless it produces or is accompanied by a monetary collapse.”
            Friedman argued that what was necessary during the depression was to maintain a constant money supply over the time period. But Kindleberger disagrees with this and points out that there was no decrease in money supply between October and December of that year, during which time there was a depression going on and in fact was deepening. As soon as the crash happened other countries jumped into the international monetary scene to resolve the issue. England, Netherlands, Norway, Austria, Belgium, Denmark, Germany, Hungary and Sweden lowered their discount rates anywhere between one and three times by the end of the year.

FISCAL POLICY

“Fiscal policy is a type of stabilization policy that involves the use of changes in taxation, government transfers, or government purchases of goods and services.” The 3 types of fiscal policies used are:

Government expenditures

Taxes

Transfers

Fiscal policies can be of 2 types:

Expansionary fiscal policy

Contractionary fiscal policy

During the Great Depression, expansionary fiscal policy was used to help pull the economy out of the depression.

The world in depression

          At the time of the Great depression, positive fiscal policy was almost non-existent since the world was at a balanced peace time budget, as opposed to the time of the First World War. Positive fiscal policy was not followed by any country at that time. The only fiscal policy that existed was in the shape of taxes changed. 

The beginnings of recovery

   In 1934-35 after the Great Depression, under President Roosevelt, limited amounts of fiscal policies were being used to expand employment. However the democratic administration at that time did stick to balanced budgets. 

The 1937 recession

         It is believed that the depression, to some extent, was brought about by a sudden change in fiscal policy in 1937. On April 14 1938, after the market collapse, the President agreed with the US Treasury and a program was worked out that would use positive fiscal policy as a process of stabilizing the economy. It was announced to the Congress the evening of the same day that it was finalized.
          The money and backing component of this recovery program involved a reduction of reserve requirements by about $750 million and the discontinuance of the Treasury’s inactive gold account which had about $1.183 billion left in it. After being rejected for seven years of depression, by Hoover and Roosevelt, the Keynesian doctrine of spending for stability was accepted and put into motion. This meant increasing government spending to pull the economy out of the depression. So spending was increased by more than $2 billion and about $1 billion in loans were also loaned out to other spending bodies. Previously, before adopting the new budgetary policies deficits were viewed as a shortfall on the part of the administration to reduce taxes or expenditures, but the new budget involved the acceptance of deficits. As a result of the new changes, the economy slowly began to recover from the recession even though the recovery was uneven, as opposed to a smooth gradual increase. The recovery was accompanied by a slight but consistent fall in prices. 
            The recession that happened after the Great Depression actually had a couple of benefits. It provided the intellectual basis for the stabilizing the economy. Then the recovery from the recession after deploying the new budget demonstrated the effectiveness of the Keynesian ideas.