Depressionary Tales 10 comments
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The whole global warming thing is created to destroy America's free enterprise system and our economic stability. – Jerry Falwell
I am a student, not an expert of the Great Depression. When I was young, I listened to my parents and grandparents talk about its effects on their lives. My mother eventually got a job in a bank at the end of the depression, and told me tales of what the bankers did to keep their banks afloat. When Bear Stearns failed earlier this year, I immediately went into asset preservation mode. History was potentially ready to repeat.
I am not predicting another Great Depression. The problem is that I cannot discount it. There are too many events which are paralleling the paths taken in the late 1920’s and early 1930’s. There are also many things that are different today. The biggest difference is that we know the events leading up to the Depression – and we should understand what not to do this time. Or do we?! It seems like economists cannot agree on the significance of the past events, nor is there agreement on what to do next.
Conditions leading into 1929
Europe was an economic disaster. Massive European debt originating from World War I was owed to USA banks. In America, banks speculated on the stock market, and loaned money to speculators. There were large natural disasters. The American economic engine was stalling. There were uncertainties relating to foreign currency exchange. There was growing unemployment. Previous American administrations had avoided strong controls on the stock market and the American banking system as it would constrain free enterprise. I will ignore the distribution of wealth issues which economists cannot agree if or to what extent it played in the Great Depression.
Timeline
The following is a timeline of the early Great Depression period:
- February 2nd, Federal Reserve announces a ban on bank loans for margin trades
- March 4th, Herbert Hoover is inaugurated as President
- August, economic expansion peaks
- September 3rd, stock market prices peak, with New York Times index of industrial stocks at 452
- October 24th, "Black Thursday," recorded sales of shares hits 12,895,000
- October 25th, market rallies, briefly
- October 29th, "Black Tuesday," recorded sales of shares hits 16,410,000. New York Times index of industrial stocks drops nearly forty points, the worst drop in Wall Street history to that point.
- November 13th, stock market prices reach low for the year, with New York Times index of industrial stocks at 224
- June 17th, Smoot-Hawley Tariff Act is signed into law
- By year's end, 1350 banks have suspended operations during 1930
- January 7th, the Committee for Unemployment Relief releases a report on unemployment showing that 4 to 5 million Americans were out of work.
- March 31st, Davis-Bacon Act becomes law, requiring "prevailing" (union) wages to be paid on federal construction contracts
- May, KreditAnstalt, Austria's largest bank, collapses
- July 23rd, Macmillan report on Britain's international finances released, pointing out that Britain's short-term liabilities to foreigners is several times the size of Britain's gold reserves.
- September 21st, Britain goes off the gold standard, the first major power to do so.
- October 16th, New York Federal Reserve Bank's discount rate raised from 1.5 percent to 2.5 percent.
- October 23rd, New York Federal Reserve Bank's discount rate raised from 2.5 percent to 3.5 percent.
- December, Japan leaves the gold standard
- December 11th, New York Bank of the United States collapses
- By year's end, 2,293 banks have suspended operations during 1931
- January 22nd, Reconstruction Finance Corporation created
- April, Federal Reserve officials initiate an open market program to buy $500 million worth of securities
- May, Federal Reserve officials undertake another open market program, purchasing an additional $500 million worth of securities
- June 6th, Revenue Act of 1932 passed, the largest peacetime tax increase in the nation's history to that date
- raised top tax rates from 25% to 63%
- reduced personal exemptions from $1,500 to $1,000 for single persons
- reduced personal exemptions from $3,500 to $2,500 for married couples
- July, Federal law updated to require that the names of banks borrowing from the Reconstruction Finance Corporation be made public.
- July 21st, Emergency Relief and Construction Act passed
- Glass-Steagall Act passed (liberalized the terms under which member banks could borrow from the Federal Reserve)
- November 8th, Franklin D. Roosevelt defeats Herbert Hoover to become the 32nd President (electoral vote count of 472 to 59)
- By year's end, 1,493 banks have suspended operations during 1932
| 1929 | |
| 1930 | |
| 1931 | |
| 1932 |
Observations
- The government loaned money to business which was mostly paid back.
- The Fed should not raise interest rates.
- The events in the timeline above are for a Republican President Hoover and Republican congress (it was democratic for the last two years of his administration). You will notice for the first two years little was done to cushion the economic death spiral. In fact, Congress actually created import tariffs which worsened the effects on the economy.
- Increases in the cost of labor appeared to fuel the negative economic spiral.
- You will notice an absence of proactive legislation. The President and Congress reacted to events when it was already too late to prevent the next domino from falling.
- Think about the Presidential Candidates. What are they saying about foreign trade, earnings, economic stimulus and taxation? The next President may be poor Herbert Hoover, and will walk into an economic land of the living dead.
The Trillion Dollar Question
I continue to hear how resilient the US economy is. Does this mean the Government will leave the economy to its own devices? It would make me happy to see a little proactive legislation and regulation.
Disclosures: None
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This article has 10 comments:
1. Prohibit short selling. That is what leads to stock prices of financial institutions leading to zero. This in turn scares away customers and deteriorates credit rating. The revenue base of the institution fails and refinancing debt becomes more expensive. A death spiral.
2. INJECT MORE LIQUIDITY. Inflation is not a problem. Federal tendor offers are oversubsribed 4-fold. What is a 2% repo rate good for if nobody can really use it. We need a steep yield curve.
3. Prevent house prices from falling. The easiest way to do this, is by ensuring that homebuilders that DECIDE to fault on a mortage for financial reasons are not allowed to do this for poorly speculative reasons (if theay can afford to pay the loan). This will prevent many houses from getting on the supply side.
4. Grant government loans at very low interst rates and long maturity to homebuilders who really cannot afford to pay mortages any more.
By taking these steps most of the other problems (falling stock market due to banks, insurances, real estates firm writing down/collapsing) will be solved simutaneously. Many people are asking: How does this affect the real economy, it is paper money burning here. This is far from the truth. The American stock market capitalization is bigger than the entire GDP. Most people are stockowners. Retirment plans are mostly defined contribution not defined benefit any more. This means, people WILL START SPENDING LESS when they see their saving of year shrink dramatically. This will lead to less spending, sell of houses, lower prices, lower stock markets, and so forth. We NEED INTERVENTION.
And the moral?
FIRST: I think we see now how dangerous financial derivatives really are. This time it is credit derivatives. But, the same is true for equity derivatives. They allow uncontrollably high leveraged balance sheet and fuel contagion between institutions and nations.
I see this crisis as very, very dangerous.
>>Prohibit short selling.
Bad idea. Naked shorts...yes. But short-selling? You probably need to read Chairman Cox's own comments on this. Short-selling provide critical information. Naked short-selling via "distort and short" schemes are the problem.
Also - 100% correct by other postings that the corruption must be up-rooted. I would refer interested readers to Washington-Post's "How Washington Failed to Rein In Fannie, Freddie" article posted 9/14/08, by Binyamin Appelbaum, Carol D. Leonnig and David S. Hilzenrath. Until this sort of self-dealing is "dealt" with, and the American people WAKE UP, we might as well face that fact that we live in a socialized (U.K.) model of government. All we need is to anoint a king. Wait...that would be Paulson or Bernanke. My mistake.
Nassim Nicholas Taleb, Mohammad El-Berian, or even Greenspan (who in Mar 2008 predicted that we'll have the worst financial crisis since the depression). It ain't over by any means. The gov't just took a 80% stake in AIG.
$4 trillion(about 25%) was lost in market capitalization in the last year.
We are no longer a creditor nation. the US has the largest trade deficit ever, in history. $13 trillion and we add about $1 trillion every 15months
(in 2007 it was $867 billion). We have about $70 billion in foreign currency reserves (compared to china's $1.6 trillion). IndyMac is the
third largest bank in history to fail. Predictions are about 300 smaller banks will fail.
www.telegraph.co.uk/mo...
inflation occurs first, from the debasement of the currency, which
them results in higher prices. in a few years the dollar will not be the reserve currency. the equivalent of printing more dollars is not gonna help things, but Bernanke is a scholar of the LAST depression, so
that's what he's been doing.
here, just read this (sign up is free):
www.rgemonitor.com/blo...
1. America and Europe were both in transition, just before World War I, from farm based economies to city based economies. Before World War I, for example, almost 90% of the American people lived on farms and after World War II, almost 90% lived in cities.
2. Socialism/Communism was a living belief among most intellectuals AND working people, especially before the mid-1930's when the excesses of Stalin and the failures of communism in Russia became known.
3. The period after about 1890 witnessed massive changes in technology that changed the way human beings interacted. Most of the people who were in responsible positions in America in the 1920's, for example, had spent their youth walking and riding horses before automobiles and roads for them became widespread after World War I.
These and other causes brought about world chaos in the 1930's and the American Great Depression was only one of the symptoms of this chaos.
Prior to the last depression there was no consumer price inflation. Technology was creating productivity gains where there was actually excess production capacity in the US holding down prices. There was asset price inflation but nothing like the current housing bubble. The Feds raised interest rates in 1929 to slow the asset price inflation. That worked well. Deflation in all prices became very apparent in 1930, and was at its worst in 1931 and 1932.
The economists today figure you provide liquidity to prevent this (helicopter Ben), to make people spend (better to spend than save when interest rates are low and there is inflation), and to relieve a credit crunch. But, how do they know that it would have worked then? They don't. How do they know that it will work this time, with a fundamentally different financial structure that provides credit to the economy? We don't know if it will work. So we try it, and see if it will work this time. The fact that interest rates are so low with the CPI at 5%, and that the Fed and Treasury are doing their utmost to relieve the credit crunch by providing it to more than just the banks, is an indicator that they truly fear a Depression. On the other hand, are they really doing what it takes to provide liquidity? The interest rate on the loans to AIG are really steep, and the government gets 80% of the equity in the company. And interest rates could be reduced to zero now. Inflation is not a worry. The danger is deflation.
The politicians on both sides can do little, except to keep the stimulus coming, but the government has to borrow that money they give to us and so place further demands on credit. In turn, if we spend it, which is what they want, a lot gets spent on imports benefitting other countries. No problem - they lend it back to us. Our government increases it debt; the common folk don't decrease there's. Nothing is solved. We just stay on the treadmill, the dollar drops and there is severe inflation or there is a depression, or both. In the both scenario, the inflation precedes the deflationary depression, or has that happened already?
I don't think there is a way out, until most of this debt is unwound, by way of bankruptcies or high inflation. So root for high inflation policies. Incidentally this is all began with the Reagan administration - cut taxes on the rich; so they have the capital to lend it back to the government, to lend it to the not so rich so they can consume all that unnecessary crap, and to build factories in other countries. They invested that money really well didn't they.
I also would like to point out that wall street is beating the crap out of main street. and as unbelievable as it would seem, consumers do not understand yet what is going on. i think they view this as the rich being punished for speculating. who says it does not help to keep going on television and saying the "the economy is sound".
steven hansen