Measures taken to combat Great Depression

According to classical economics, the recession of 1929 should have gone away automatically in a
short time period. But this was not the case. In 1933 the US Government introduced certain serious
policies to end this recession.

The self-corrective mechanism of the market was not working. J.M Keynes was very influential in
designing the policies for the United States Government during this period.

In fact in accordance with the Classical views, three changes were supposed to occur to get the
economy out of recession.

• Firstly, the prices decreased from 1929 to 1933. But this was not significant enough to
combat the production issues prevailing during that period. Some prices did not fall, he
argued, because of the power of large corporations with limited competition to
control prices.
• Secondly, the interest rates also declined during this period. However, this decline also could
not overcome the negative effects of the fall in production. By 1939, the short-term interest
rate was a mere 0.5%. Moreover, the consumer spending and business investment
spending also took a hit, even though the nominal interest rates were extremely low.
Keynes called this as "pessimistic expectation". The consumer confidence was pretty
low in this period.

• The wages also did decrease but even this could not solve the unemployment issue. The
wages did not fall enough to generate full employment. This was partially accounted due to
the power of large labour unions which prevented the fall in wage levels.

Keynes conclusion, then, is that, if there is a recessionary gap, prices and wages will
Not fall enough to end it. Interest rates will fall, but consumers and businesses will not
borrow because of pessimistic expectations. The recessionary gap will persist and may
even grow larger.
Keynes interpretation of aggregate supply was quite different from the traditional view. He
assumed the aggregate supply line to be horizontal i.e. the Economy was so severely depressed
that any increase in spending would result only in an increase in production. At this stage,
companies were just looking to produce and sell more by keeping the price levels constant.
This has shifted the main focus of policy-making to aggregate demand. This was a
breakthrough theory which suggested that the aggregate demand (total spending) was not
sufficient to buy all of the goods and services that could be produced at full employment.

The Government took an "activist role" by using its powers to combat the great depression.

• Government has passed the National Industrial Recovery Act to help companies’ setup
price floors on their products. It saw the fall in price levels and the wage levels which
were indeed the reason for the recession to last for a long time.
• The Wagner Act was also passed to aid the workers to form labour unions to ensure that the
wage levels do not decline. The Agricultural Adjustment Act was passed to set price
floors for agricultural products.
• The government created a series of programs designed to put people to work like
the Works Progress Administration and the Public Works Administration which
created employment opportunities in building roads, bridges, Offices etc.
• The creation of the Federal Deposit Insurance Corporation (FDIC) has insured bank
accounts against any bank failures. This step has immensely reduced the risks in the
bank deposits.
• The Civilian Conservation Corps program was also introduced which put young
people in construction work. This has turned out to be an additional source of tax
revenue for the local and State Governments in addition to the employment
generation.
• In 1935, the "Welfare State" program was introduced which included the creation of
a social security number. The program Unemployment Compensation and Aid to
Families with Dependent Children (AFDC) provided Medicare for the elderly people.
• In 1934, the US Government has taken a big step by withdrawing from the Gold
Standard. This has in a way given the government freedom and leverage to
introduce and implement the appropriate economic policies to boost their economy,
which was further restricted according to the Gold Standard.