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Don’t Get Depressed, It’s Not 1929

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November 24, 2008 – Comments (9)

I thought that I would start off the holiday week on a positive note by combining the best of two great articles that I came across this weekend, one from Barron's and the other from Newsweek. 

Here are a few interesting statistics from a Barron's piece titled Does Extreme Stress Signal a Snapback.  Outside of the stock market crash of 1929-1932, no downturn in the 20th century has exceeded 50%.  As of Friday, the current bear market has cut 43% off of the Dow Jones Industrial Average since its peak in October 2007.

Not only are the major averages near where stocks have bottomed during any bear market outside of the Great Depression, but all of the bear markets since then have maid fairly rapid recoveries.  It has taken an average of only twenty-two months to recoup the average bear-market loss (including dividends).  Do I think that things will recover that quickly this time?  Probably not, but these statistics indicate that the major indices may be approaching a bottom in the near future.  Possibly as early as the beginning of 2009, after all of the tax-loss selling is complete.

Another bullish sign is the valuation of the stock market in relation to the U.S. Gross Domestic Product.  The market peaked at an absurd level in 2000, the combined market cap of the markets was twice as valuable as GDP. It now sits at 59% of GDP, well below its historical average of 79%.  Sure, one could argue that GDP will fall, so the 59% is misleading.  Still, the point is that valuations are the most reasonable that they have been in years.

Now that I have established that the markets are near a bottom unless we are headed for a second Great Depression, I will share a link to an article that puts forth a very solid argument that we aren't: Don’t Get Depressed, It’s Not 1929.

According to the piece, while the origin of the current credit crisis and resulting recession is similar to the origin of the Great Depression, both started to get really bad when a financial crisis spread and lead to a reduction in consumer demand.  They both have many important differences as well.

Take FDR's own description of the Great Depression from one of his famous fireside chats on March 12, 1933 for example, "By the afternoon of March 3, scarcely a bank in the country was open to do business,"  That year, approximately 4,000 commercial banks failed, causing depositors to take huge losses...this was pre-FDIC.  Only 19 banks have failed during the current crisis and the people who had money in them got all, or at least a huge chunk of their money back.

Not only were banks in worse shape then, consumers were watching their money evaporate because the government was not guaranteeing their deposits like it is today.  The consumer losses and resulting loss of confidence, caused the recession to last a staggering 43 months and unemployment to soar to 25 percent!  Even the most bearish Wall Street analysts, like Goldman Sachs, only estimate that unemployment will rise to 9% in 2009.  Sure that is bad, especially if you are one of the poor souls who is unfortunate enough to lose their job...but it is no where near the level of pain that was experienced in the Great Depression. 

Above and beyond FDIC protection and the lack of bank failures, programs like Social Security didn't exist back then either.  Older people who had their life savings wiped out by the markets were out of luck and on the soup lines.  Today at least those people have some income (whether it ultimately proves sustainable is a debate for another article). 

Also, regardless of what sort of problems they will cause down the road, today the Federal Reserve and Treasury are slashing interest rates and printing money like crazy.  Bernanke is a student of the Great Depression and he will not repeat the mistakes that were made back then.  This is the complete opposite of what happened during the Great Depression when a tight Federal Reserve and a rich Treasury secretary, Paul Mellon, saw the downturn as a force for good.  Obama is quoted as saying that he will do whatever it takes to fight this economic downturn.  Compare this to what Mellon said back then "Liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate," he said. "People will work harder, live more moral lives."

I leave you with this final quote from the article with the disclaimer that I voted for neither major candidate in the Presidential election: "A final difference: after the 1929 crash, the nation had to wait more than three years for a president who simply wasn't up to the job to leave the scene. This time, we've got to wait only a few more months."

I don't know what all of this intervention will do to the strength of the U.S. dollar in the future and I don't expect any rapid recovery, but but we are probably much closer to a bottom than many of the perma-bears think. 

Deej

9 Comments – Post Your Own

#1) On November 24, 2008 at 11:14 AM, starbucks4ever (97.35) wrote:

Deej,

 where does the 59% figure come from, and what was the lowest market cap/GDP ratio observed during the Depression and afterwards?

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#2) On November 24, 2008 at 12:27 PM, devoish (98.37) wrote:

Not only were banks in worse shape then, consumers were watching their money evaporate because the government was not guaranteeing their deposits like it is today

Would it change the conclusion if the 401k was todays savings vehicle of choice, and 80% of 401k's were invested in the stock market? I understand the Gov't is not guaranteeing stock losses. At least not officially, although they seem to be guaranteeing Citibank.

I agree with that SSI will help to set a floor. The level of that floor right now matches the average world income ($10,000/year).

Raising minimum wage should also help the recovery come more quickly because it puts money in the hands of people who cannot invest it and watch it evaporate.

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#3) On November 24, 2008 at 12:31 PM, torque63 (< 20) wrote:

Our current recession is far more severe than the tech crash of 2001-2002. Looking at the charts, we've already surpassed the percentage losses incurred in that period, but within half the time. Thus, if we're using history as a guide -- and we also realize that this is the worst downturn since the Great Depression -- shouldn't we expect another year of pain? The final wave of deleveraging and overall loss of consumer confidence all point to a nasty 2009, IMO.

Either way, nice analysis, Deej.

 -Torque

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#4) On November 24, 2008 at 12:56 PM, guiron (21.24) wrote:

Well, with even Ben Stein calling for more, more, more action by the government, we're all Keynesians now. I've heard some suggestions that we're going into a depression more like 1873 than 1929, or what some people used to call the "real depression," which preceeded (and helped usher in) the Gilded Age - http://en.wikipedia.org/wiki/Long_Depression. At the least, I think we're going to zero growth for a while, an L shape like Japan did.

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#5) On November 24, 2008 at 3:06 PM, amoldov (31.20) wrote:

Great blog ... as always.

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#6) On November 24, 2008 at 3:41 PM, TMFDeej (99.33) wrote:

Thanks everyone.

Deej

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#7) On November 24, 2008 at 10:26 PM, abitare (35.89) wrote:

You conviently ignore the fiat currency we have now. We had a near gold standard before, FDR confiscated all the citizens gold and made it illegal to hold. FDR, Hoover and the corrupt private cartel the FED took a recession and created the Great Depression.

[edit] Austrian School explanations

Another explanation comes from the Austrian School of economics. Theorists of the "Austrian School" who wrote about the Depression include Austrian economist Friedrich Hayek and American economist Murray Rothbard, who wrote America's Great Depression (1963). In their view, the key cause of the Depression was the expansion of the money supply in the 1920s that led to an unsustainable credit-driven boom. In their view, the Federal Reserve, which was created in 1913, shoulders much of the blame.

In opinion, Hayek, writing for the Austrian Institute of Economic Research Report in February 1929[19] predicted the economic downturn, stating that "the boom will collapse within the next few months."

Ludwig von Mises also expected this financial catastrophe, and is quoted as stating "A great crash is coming, and I don't want my name in any way connected with it,"[20] when he turned down an important job at the Kreditanstalt Bank in early 1929.

One reason for the monetary inflation was to help Great Britain, which, in the 1920s, was struggling with its plans to return to the gold standard at pre-war (World War I) parity. Returning to the gold standard at this rate meant that the British economy was facing deflationary pressure.[21] According to Rothbard, the lack of price flexibility in Britain meant that unemployment shot up, and the American government was asked to help. The United States was receiving a net inflow of gold, and inflated further in order to help Britain return to the gold standard. Montagu Norman, head of the Bank of England, had an especially good relationship with Benjamin Strong, the de facto head of the Federal Reserve. Norman pressured the heads of the central banks of France and Germany to inflate as well, but unlike Strong, they refused.[21] Rothbard says American inflation was meant to allow Britain to inflate as well, because under the gold standard, Britain could not inflate on its own.

In the Austrian view it was this inflation of the money supply that led to an unsustainable boom in both asset prices (stocks and bonds) and capital goods. By the time the Fed belatedly tightened in 1928, it was far too late and, in the Austrian view, a depression was inevitable.

The artificial interference in the economy was a disaster prior to the Depression, and government efforts to prop up the economy after the crash of 1929 only made things worse. According to Rothbard, government intervention delayed the market's adjustment and made the road to complete recovery more difficult.[22]

Furthermore, Rothbard criticizes Milton Friedman's assertion that the central bank failed to inflate the supply of money. Rothbard asserts that the Federal Reserve bought $1.1 billion of government securities from February to July 1932, raising its total holding to $1.8 billion. Total bank reserves rose by only $212 million, but Rothbard argues that this was because the American populace lost faith in the banking system and began hoarding more cash, a factor quite beyond the control of the Central Bank. The potential for a run on the banks caused local bankers to be more conservative in lending out their reserves, and this, Rothbard argues, was the cause of the Federal Reserve's inability to inflate.[23]

http://www.youtube.com/v/ji_G0MqAqq8&hl=en&fs=1"> name="allowFullScreen" value="true">http://www.youtube.com/v/ji_G0MqAqq8&hl=en&fs=1" type="application/x-shockwave-flash" allowscriptaccess="always" allowfullscreen="true" width="425" height="344">

 

 

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#8) On November 24, 2008 at 10:53 PM, Option1307 (29.71) wrote:

I'm not necessarily saying we are heading for another "great Depression", but I bet you a lot of people back then were saying this same sort of thing...

"It's not going to be that bad, it's almost over, things will turn around soon..."

What if this time is different...?

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#9) On November 25, 2008 at 6:09 AM, TMFDeej (99.33) wrote:

Thanks for the comments, abit.  Perhaps you don't read my blog often enough to know that I have been and continue to be very bearish on the U.S. dollar.  I alluded to that with the statement, "Also, regardless of what sort of problems they will cause down the road, today the Federal Reserve and Treasury are slashing interest rates and printing money like crazy."

The recent dollar strength has been very perplexing to me.  Too bad I don't have some annoying YouTube videos that I've seen a million times to explain what's going to happen.  Oh well.

Deej

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