Causes and Effects of the Great Depression

Causes
Overproduction
Laissez Faire policies that left the economy unregulated
Fraud
Over speculation on the stock market
Decline in foreign trade
While we have spoken about the 20's as a time of great prosperity, it was a tad deceptive. Problems lie
under the surface that would not be dealt with by the conservative administrations of Harding, Coolidge
and Hoover.
The Great Depression did not begin in 1929 with the fall of the over inflated stock market. In fact the
Depression began ten years earlier in Europe. As the depression raged on in Europe American's believed
they would be immune to its effects. Isolationist sentiments and conservative doctrine held that the less
we had to do with Europe the better. As a result American polices never addressed the possibility of the
United States entering a depression as well. Actually American policies actually contributed to our entry
into the depression.
The early warning signs first came in the agricultural sector. Farmers continued to produce more and
more food due to technological advances like the tractor. As production grew farm prices dropped. It was
simply a matter of supply and demand. Framers reacted in the traditional manner and boosted production
even further. Prices plummeted. Farmers began to default on their loans and the banks foreclosed. To
make matters worse the central part of the nation was hit with a terrible drought. Farmers were
devastated. The drought turned that portion of America into what was called "The Dustbowl."
In the 1920's American economic policy was laissez faire. Businesses were left alone and for sometime
things appeared to fine. American businesses reported record profits, production was at an all time high.
The problem was that while earnings rose and the rich got richer, the working class received a
disproportionally lower percentage of the wealth. This uneven distribution of wealth got so bad that 5%
of America earned 33% of the income. What this meant was that there was less and less real spending.
Despite the fact that the working class had less money to spend businesses continued to increase
production levels.
Purchasing dropped internationally as well. Since Europe was in a depression people there weren't
buying as much as businesses had estimated. Then the Fordney McCumber Tariff and the Hawley Smoot
Tariff raised tariff levels to as much as 40%. Europe which was already angered at US foreign actions
responded with high tariffs of their own. International trade was at a standstill.
At this point you should be asking the question "If no one buying and companies were increasing
production levels, wasn't there going to be a problem?" BINGO!!! The problem is known
as overproduction. American businesses were producing far more than could be consumed. The result
was lost profits and eventually debts. After a while many companies went out of business. Why would
these companies continue to overproduce? There are several reasons. Some were managed poorly.
Others were part of holding companies that placed layers and layers of companies, each relying on the
others production levels like a pyramid. If one company in the pyramid reported lower production levels
the others fell off and it looked bad. In many cases however crooked company owners reported earnings
that were higher than they were actually were in order to drive up the stock price.
As a result of World War I America had emerged as the worlds leading creditor nation. Foreign powers
owed the United States and its companies about a billion dollars annually. With declining trade in
America, a demand for reparation from the United States and the continuing European depression
this debt went unpaid.
Throughout this period of time Americans (and it seems this included Harding, Coolidge and Hoover.)
Truly felt they would be prosperous forever. They didn't see or were unwilling to see the warning signs.
With this confidence Americans began to increasingly invest in the stock market. The market began an
unprecedented rise in 1928. By September 3
rd
1929 the market reached a record high of 381. Then the
decline began. Many didn't think it would last but on October 24
th
panic selling began as 12.8 million
shares changed hands. Then cameBlack Tuesday, October 29
th
1929. The market plummeted. By July
the Dow reached a low of 41.22. Millions upon millions of dollars had been lost. Many who had bought on
margin (credit) had to pay back debts with money they didn't have. Some opened up the windows and
jumped to their deaths. The depression had arrived.
Banks that had invested heavily in the stock market and real estate lost their depositors money. A panic
ensued as people lined up at the banks to get their money. unfortunately for many the money just wasn't
there. As the amount of money in circulation dropped deflationhit. Money was worth more but there was
little money to be had. The fed which had the power to put more money into circulation did nothing
(laissez faire). Workers were fired as thousands of businesses closed down. Unemployment rose to 25-
35%. In Toledo Ohio fully 80% of the workers were unemployed! Real estate investments flopped
because with deflation a building that was once worth ten million was now worth five. The mortgage and
debt stayed the same but the income was gone. Banks foreclosed on loans and took possession of
worthless properties that nobody could afford to buy. Between 1930 and 1932 over 9000 banks failed.
With all of this there Hoover announced to Americans that they should "stay the course" that the ship
would right itself. After all, Hoover was a self made man, a rugged individualist. By the time Hoover
recognized he had to do something it was too little and much too late.

Keynesian

Keynes argued that the solution to the Great Depression was to stimulate the economy
("inducement to invest") through some combination of two approaches:
1. A reduction in interest rates (monetary policy), and
2. Government investment in infrastructure (fiscal policy).
By reducing the interest rate at which the central bank lends money to commercial banks, the
government sends a signal to commercial banks that they should do the same for their
customers.
Investment by government in infrastructure injects income into the economy by creating
business opportunity, employment and demand and reversing the effects of the aforementioned
imbalance.
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Governments source the funding for this expenditure by borrowing funds from the
economy through the issue of government bonds, and because government spending exceeds
the amount of tax income that the government receives, this creates a fiscal deficit.
A central conclusion of Keynesian economics is that, in some situations, no strong automatic
mechanism moves output and employment towards full employment levels. This conclusion
conflicts with economic approaches that assume a strong general tendency towards equilibrium.
In the 'neoclassical synthesis', which combines Keynesian macro concepts with a micro
foundation, the conditions of general equilibrium allow for price adjustment to eventually achieve
this goal. More broadly, Keynes saw his theory as a general theory, in which utilization of
resources could be high or low, whereas previous economics focused on the particular case of
full utilization.
The new classical macroeconomics movement, which began in the late 1960s and early 1970s,
criticized Keynesian theories, while New Keynesian economics has sought to base Keynes's
ideas on more rigorous theoretical foundations.
Some interpretations of Keynes have emphasized his stress on the international coordination of
Keynesian policies, the need for international economic institutions, and the ways in which
economic forces could lead to war or could promote peace.
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