The Great Depression, the gold standard and FDR
This is the second part, this time on the Great Depression. Sorry for the length but I just kept on writing, it is a fascinating theme. I hope this piece is interesting and worth your time.
You can read the first part on the roaring 1920s and the stock market crash 1929 here. Again, first some text and then a few videoclips (BTW, if you click on the clips and it says "video not available anymore", just reload the page. It is some kind of bug by youtube were videos become unavailable after the page is open for an hour or so)
The Great Depression (GD) was a period were economies worldwide contracted over several years. Prices for goods dropped massively and brought entire industries to a virtual halt. Crop prices dropped 50%. Massive unemployment resulted.
The USA was one of the hardest hit, as from 1929-1933 their economy contracted 30% and unemployment rose to 25% by 1933 from 4%. In Australia unemployment reached 30%. In Canada industrial production fell to 60% of their 1929 level, unemployment reached 27%. In the UK exports fell by 50% and unemployment reached 20%. In Germany the crisis brought down the Weimar Republic and brought Adolf Hitler to power.
After the huge stock bull market during the 1920s, the Fed started to raise rates early in 1929 to reduce speculation. As we know this resulted in the crash in october 1929, when massively overleveraged speculators had to liquidate their positions. Back then credit was very lose. Some of those speculators were millionaires who were leveraged 10:1, which means they might have had $10 millions worth in stocks with only $1 million of their own money. Or $100 m in stocks with $10 m. While the market crashed they received a margin call from their broker, and so they were forced to throw all their stocks into the crashing market. Needless to say they went broke.
So, huge fortunes were destroyed in the crash of 1929. However this was NOT the cause for the Great Depression. Because the stock market recovered and gained almost 50% until April 1930. However the economy started to cool down and it was thought that a normal recession was ahead.
Today we live in a system of flexible currency rates. This helps the central banks of each country to concentrate on their own economy, which is very actual in the US today, as the Fed is trying to solve the banking crisis and help the economy. As we know the dollar dropped massively while other currencies like the Euro, the Canadian Loonie or the Australian dollar gained.
Back then however it was thought that currencies had to be stable and that flexible currencies were bad for international trade. Also, it was thought that every currency had to have a certain value measured in gold. Everybody (individuals, banks, companies etc.) had the right to exchange their paper money for gold. This is called the gold standard. It was thought to give trust in a currency.
The gold standard forced the central banks (CB) to accumulate massive gold reserves. The standard worldwide was that 40% of currency in circulation should be backed by gold. If this limit was broken the CBs had to take appropriate measures which meant they usually had to raise rates. Because since gold doesn't generate any income, it would calm down investors as they would receive higher income.
So as the US economy cooled down it brought some politicians to introduce the Smooth-Hawley act in June 1930, which would raise tariffs on imported goods. This made other countries to introduce tariffs on US imports themselves in retaliation.
So as the world economy cooled down banks worldwide started to fail. When the giant Austrian bank Creditanstalt (the Rothschild bank), on which 60% of the Austrian economy was dependent, collapsed in 1931, it caused many panicked investors and depositors to redeem their money and exchange it for gold.
Germany later said they would stop paying for war reparations to France and the UK which caused even more panic. Depositors and banks worldwide started to exchange their paper money into gold at the central banks. When the British central bank had almost no gold reserves left, they started to raise rates to keep the confidence of depositors. However they weren't successful and finally the UK in September 1931 decided to drop the gold standard and let the currency float freely. The British Pound dropped and it was thought that inflation would hit the country hard. But this was not the case, on the contrary the economy recovered.
When the British Pound collapsed frightened depositors in the USA started to redeem their money too and exchange it for gold, as accounts were not insured back then. So the Fed was forced to raise rates rates from 1.5% to 3.5%, this during a recession. Since the USA had more gold reserves than the Bank of England, they were finally able to convince people to keep their money in the banks (but only after a while...).
Many more banks in the US collapsed, more than 2200 by the end of 1931. But the Fed did not intervene to help them, it was thought that "the market will do its thing". So loans were called in or not renewed. Lending standards were raised. The money supply contracted by 30%. This caused many businesses to cut down massively or even go bankrupt, and so they let their employees go which resulted in a huge unemployment rate. As there was no social security those unemployed went to live in tents and huts in shantytowns or "Hoovervilles", as they were also called. The same what you can see in third world countries today.
Finally in April 1932 the Fed started to buy securities from the banks to give them liquidity and stabilize the banking system. In July 1932 the stock market finally bottomed out after losing 89%. On November 8 Franklin D. Roosevelt (FDR) defeated Herbert Hoover and became the 32nd President of the USA. The economy bottomed out in March 1933.
FDR announced the New Deal and introduced several programs to revive the economy. He first declared a bank holiday in March 1933 to reorganize the banks. On April 19 the USA went off the gold standard. People were told to exchange all their for paper money, except their jewelry and gold teeth for the then official price of $20.67 (Foreign banks however were still allowed to exchange dollars for gold.) In June the Glass-Steagall act was introduced which separated the banks into investment banks and commercial banks. The FDIC was created which insured all bank deposits up to $5000 (back then, today it's $100'000). Minimum wages were introduced and minimum prices, to curb brutal competition.
The prohibition, which created huge profits for gangsters that smuggled alcohol from foreign countries, eg Canada, was abolished. Al Capone controlled almost all clubs serving alcohol. Many people continued to drink during the prohibition in clubs controlled by organized crime. They immediately lost all their income, once the prohibition was abolished. Also, since it was illegal, there was no control and regulation and so quality was often terrible, resulting in health problems. Home breweries flourished.
In January 1934 FDR raised the price of gold to $35, thus devaluing the US dollar. Other programs were introduced. The unemployment rate dropped from 25% to 9% by 1937. In 1935 social security was introduced, which back then also included unemployment insurance.
In November 1936 FDR was reelected as President of the USA. In May 1937 the US economy fell into another recession lasting through most of 1938. The unemployment rate rose to 19%. Other programs were introduced. Over time federal spending rose to 10% of Gross National Product, up from 3% in 1929.
So the economy started to improve again, but only World War 2, which resulted in massive government spending and raised the national debt from 40% of GDP to 128% of GDP, finally ended the Great Depression. The war spending also resulted in personal savings by ordinary people.
Chart from djindexes.com, with some further interesting infos.
OK, let's go to the videoclips.
First clip covers the abolishment of the gold standard, one of the main causes of the Great Depression. (4 min)
Second clip covers the inauguration of FDR, the New Deal; the announcement of a bank holiday; the so called "fireside chat"; the end of the gold standard (5:30)
Third clip is the second part of the previous clip and covers the programs during the New Deal (4 min)
rise and fall of the NRA (National Recovery Act) a program by FDR that included codes of conduct for marketing, pricing and labour standards, eg minimum wages, unions. (4:45)
Here another interestin clip that covers the Great Depression (4 min)
I hope this piece wasn't too long and you had as much fun to read it as I had to research it. Again, here is the first part on the roaring 1920s and the stock market crash 1929.