Loading ...
Sorry, an error occurred while loading the content.

Main Causes of the Great Depression

Expand Messages
  • Ram Lau
    Main Causes of the Great Depression Paul Alexander Gusmorino 3rd : May 13, 1996 The Great Depression was the worst economic slump ever in U.S. history, and one
    Message 1 of 1 , Sep 6, 2004
      Main Causes of the Great Depression
      Paul Alexander Gusmorino 3rd : May 13, 1996
      The Great Depression was the worst economic slump ever in U.S.
      history, and one which spread to virtually all of the industrialized
      world. The depression began in late 1929 and lasted for about a
      decade. Many factors played a role in bringing about the depression;
      however, the main cause for the Great Depression was the combination
      of the greatly unequal distribution of wealth throughout the 1920's,
      and the extensive stock market speculation that took place during
      the latter part that same decade. The maldistribution of wealth in
      the 1920's existed on many levels. Money was distributed disparately
      between the rich and the middle-class, between industry and
      agriculture within the United States, and between the U.S. and
      Europe. This imbalance of wealth created an unstable economy. The
      excessive speculation in the late 1920's kept the stock market
      artificially high, but eventually lead to large market crashes.
      These market crashes, combined with the maldistribution of wealth,
      caused the American economy to capsize.

      The "roaring twenties" was an era when our country prospered
      tremendously. The nation's total realized income rose from $74.3
      billion in 1923 to $89 billion in 19291. However, the rewards of
      the "Coolidge Prosperity" of the 1920's were not shared evenly among
      all Americans. According to a study done by the Brookings Institute,
      in 1929 the top 0.1% of Americans had a combined income equal to the
      bottom 42%2. That same top 0.1% of Americans in 1929 controlled 34%
      of all savings, while 80% of Americans had no savings at all3.
      Automotive industry mogul Henry Ford provides a striking example of
      the unequal distribution of wealth between the rich and the middle-
      class. Henry Ford reported a personal income of $14 million4 in the
      same year that the average personal income was $7505. By present day
      standards, where the average yearly income in the U.S. is around
      $18,5006, Mr. Ford would be earning over $345 million a year! This
      maldistribution of income between the rich and the middle class grew
      throughout the 1920's. While the disposable income per capita rose
      9% from 1920 to 1929, those with income within the top 1% enjoyed a
      stupendous 75% increase in per capita disposable income7.

      A major reason for this large and growing gap between the rich and
      the working-class people was the increased manufacturing output
      throughout this period. From 1923-1929 the average output per worker
      increased 32% in manufacturing8. During that same period of time
      average wages for manufacturing jobs increased only 8%9. Thus wages
      increased at a rate one fourth as fast as productivity increased. As
      production costs fell quickly, wages rose slowly, and prices
      remained constant, the bulk benefit of the increased productivity
      went into corporate profits. In fact, from 1923-1929 corporate
      profits rose 62% and dividends rose 65%10.

      The federal government also contributed to the growing gap between
      the rich and middle-class. Calvin Coolidge's administration (and the
      conservative-controlled government) favored business, and as a
      result the wealthy who invested in these businesses. An example of
      legislation to this purpose is the Revenue Act of 1926, signed by
      President Coolidge on February 26, 1926, which reduced federal
      income and inheritance taxes dramatically11. Andrew Mellon,
      Coolidge's Secretary of the Treasury, was the main force behind
      these and other tax cuts throughout the 1920's. In effect, he was
      able to lower federal taxes such that a man with a million-dollar
      annual income had his federal taxes reduced from $600,000 to
      $200,00012. Even the Supreme Court played a role in expanding the
      gap between the socioeconomic classes. In the 1923 case Adkins v.
      Children's Hospital, the Supreme Court ruled minimum-wage
      legislation unconstitutional13.

      The large and growing disparity of wealth between the well-to-do and
      the middle-income citizens made the U.S. economy unstable. For an
      economy to function properly, total demand must equal total supply.
      In an economy with such disparate distribution of income it is not
      assured that demand will always equal supply. Essentially what
      happened in the 1920's was that there was an oversupply of goods. It
      was not that the surplus products of industrialized society were not
      wanted, but rather that those whose needs were not satiated could
      not afford more, whereas the wealthy were satiated by spending only
      a small portion of their income. A 1932 article in Current History
      articulates the problems of this maldistribution of wealth:

      We still pray to be given each day our daily bread. Yet there is too
      much bread, too much wheat and corn, meat and oil and almost every
      other commodity required by man for his subsistence and material
      happiness. We are not able to purchase the abundance that modern
      methods of agriculture, mining and manufacturing make available in
      such bountiful quantities14.

      Three quarters of the U.S. population would spend essentially all of
      their yearly incomes to purchase consumer goods such as food,
      clothes, radios, and cars. These were the poor and middle class:
      families with incomes around, or usually less than, $2,500 a year.
      The bottom three quarters of the population had an aggregate income
      of less than 45% of the combined national income; the top 25% of the
      population took in more than 55% of the national income15. While the
      wealthy too purchased consumer goods, a family earning $100,000
      could not be expected to eat 40 times more than a family that only
      earned $2,500 a year, or buy 40 cars, 40 radios, or 40 houses.

      Through such a period of imbalance, the U.S. came to rely upon two
      things in order for the economy to remain on an even keel: credit
      sales, and luxury spending and investment from the rich.

      One obvious solution to the problem of the vast majority of the
      population not having enough money to satisfy all their needs was to
      let those who wanted goods buy products on credit. The concept of
      buying now and paying later caught on quickly. By the end of the
      1920's 60% of cars and 80% of radios were bought on installment
      credit16. Between 1925 and 1929 the total amount of outstanding
      installment credit more than doubled from $1.38 billion to around $3
      billion17. Installment credit allowed one to "telescope the future
      into the present", as the President's Committee on Social Trends
      noted18. This strategy created artificial demand for products which
      people could not ordinarily afford. It put off the day of reckoning,
      but it made the downfall worse when it came. By telescoping the
      future into the present, when "the future" arrived, there was little
      to buy that hadn't already been bought. In addition, people could
      not longer use their regular wages to purchase whatever items they
      didn't have yet, because so much of the wages went to paying back
      past purchases.

      The U.S. economy was also reliant upon luxury spending and
      investment from the rich to stay afloat during the 1920's. The
      significant problem with this reliance was that luxury spending and
      investment were based on the wealthy's confidence in the U.S.
      economy. If conditions were to take a downturn (as they did with the
      market crashed in fall and winter 1929), this spending and
      investment would slow to a halt. While savings and investment are
      important for an economy to stay balanced, at excessive levels they
      are not good. Greater investment usually means greater productivity.
      However, since the rewards of the increased productivity were not
      being distributed equally, the problems of income distribution (and
      of overproduction) were only made worse. Lastly, the search for ever
      greater returns on investment lead to wide-spread market speculation.

      Maldistribution of wealth within our nation was not limited to only
      socioeconomic classes, but to entire industries. In 1929 a mere 200
      corporations controlled approximately half of all corporate
      wealth19. While the automotive industry was thriving in the 1920's,
      some industries, agriculture in particular, were declining steadily.
      In 1921, the same year that Ford Motor Company reported record
      assets of more than $345 million, farm prices plummeted, and the
      price of food fell nearly 72% due to a huge surplus20. While the
      average per capita income in 1929 was $750 a year for all Americans,
      the average annual income for someone working in agriculture was
      only $27321. The prosperity of the 1920's was simply not shared
      among industries evenly. In fact, most of the industries that were
      prospering in the 1920's were in some way linked to the automotive
      industry or to the radio industry.

      The automotive industry was the driving force behind many other
      booming industries in the 1920's. By 1928, with over 21 million cars
      on the roads, there was roughly one car for every six Americans22.
      The first industries to prosper were those that made materials for
      cars. The booming steel industry sold roughly 15% of its products to
      the automobile industry23. The nickel, lead, and other metal
      industries capitalized similarly. The new closed cars of the 1920's
      benefited the glass, leather, and textile industries greatly. And
      manufacturers of the rubber tires that these cars used grew even
      faster than the automobile industry itself, for each car would
      probably need more than one set of tires over the course of its
      life. The fuel industry also profited and expanded. Companies such
      as Ethyl Corporation made millions with items such as new "knock-
      free" fuel additives for cars24. In addition, "tourist homes"
      (hotels and motels) opened up everywhere. With such a wealthy upper-
      class many luxury hotels were needed. In 1924 alone, hotels such as
      the Mayflower (Washington D.C.), the Parker House (Boston), The
      Palmer House (Chicago), and the Peabody (Memphis) opened their
      doors25. Lastly, and possibly most importantly, the construction
      industry benefited tremendously from the automobile. With the
      growing number of cars, there was a big demand for paved roads.
      During the 1920's Americans spent more than a $1 billion each year
      on the construction and maintenance of highways, and at least
      another $400 million annually for city streets26. But the automotive
      industry affected construction far more than that. The automobile
      had been central to the urbanization of the country in the 1920's
      because so many other industries relied upon it. With urbanization
      came the need to build many more apartment buildings, factories,
      offices, and stores. From 1919 to 1928 the construction industry
      grew by around $5 billion dollars, nearly 50%27.

      Also prospering during the 1920's were businesses dependent upon the
      radio business. Radio stations, electronic stores, and electricity
      companies all needed the radio to survive, and relied upon the
      constant growth of the radio market to expand and grow themselves.
      By 1930, 40% of American families had radios28. In 1926 major
      broadcasting companies started appearing, such as the National
      Broadcasting Company. The advertising industry was also becoming
      heavily reliant upon the radio both as a product to be advertised,
      and as a method of advertising.

      Several factors lead to the concentration of wealth and prosperity
      into the automotive and radio industries. First, during World War I
      both the automobile and the radio were significantly improved upon.
      Both had existed before, but radio had been mostly experimental. Due
      to the demands of the war, by 1920 automobiles, radios, and the
      parts necessary to build these things were being produced in large
      quantities; the work force in these industries had been formed and
      had become experienced. Manufacturing plants were already in place.
      The infrastructure existed for the automotive and radio industries
      to take off. Second, due to federal government's easing of credit,
      money was available to invest in these industries. Thanks to
      pressure from President Coolidge and the business world, the Federal
      Reserve Board kept the rediscount rate low.

      The federal government favored the new industries as opposed to
      agriculture. During World War I the federal government had
      subsidized farms, and payed absurdly high prices for wheat and other
      grains. The federal government had encouraged farmers to buy more
      land, to modernize their methods with the latest in farm technology,
      and to produce more food. This made sense during that war when war-
      ravaged Europe had to be fed too. However as soon as the war ended,
      the U.S. abruptly stopped its policies to help farmers. During the
      war the United States government had paid an unheard of $2 a bushel
      for wheat, but by 1920 wheat prices had fallen to as low as 67 cents
      a bushel29. Farmers fell into debt; farm prices and food prices
      tumbled. Although modest attempts to help farmers were made in 1923
      with the Agricultural Credits Act, farmers were generally left out
      in the cold by the government.

      The problem with such heavy concentrations of wealth and such
      massive dependence upon essentially two industries is similar to the
      problem with few people having too much wealth. The economy is
      reliant upon those industries to expand and grow and invest in order
      to prosper. If those two industries, the automotive and radio
      industries, were to slow down or stop, so would the entire economy.
      While the economy did prosper greatly in the 1920's, because this
      prosperity wasn't balanced between different industries, when those
      industries that had all the wealth concentrated in them slowed down,
      the whole economy did. The fundamental problem with the automobile
      and radio industries was that they could not expand ad infinitum for
      the simple reason that people could and would buy only so many cars
      and radios. When the automotive and radio industries went down all
      their dependents, essentially all of American industry, fell.
      Because it had been ignored, agriculture, which was still a fairly
      large segment of the economy, was already in ruin when American
      industry fell.

      A last major instability of the American economy had to do with
      large-scale international wealth distribution problems. While
      America was prospering in the 1920's, European nations were
      struggling to rebuild themselves after the damage of war. During
      World War I the U.S. government lent its European allies $7 billion,
      and then another $3.3 billion by 192030. By the Dawes Plan of 1924
      the U.S. started lending to Axis Germany. American foreign lending
      continued in the 1920's climbing to $900 million in 1924, and $1.25
      billion in 1927 and 192831. Of these funds, more than 90% were used
      by the European allies to purchase U.S. goods32. The nations the
      U.S. had lent money to (Britain, Italy, France, Belgium, Russia,
      Yugoslavia, Estonia, Poland, and others) were in no position to pay
      off the debts. Their gold had flowed into the U.S. during and
      immediately after the war in great quantity; they couldn't send more
      gold without completely ruining their currencies. Historian John D.
      Hicks describes the Allied attitude towards U.S. loan repayment:

      In their view the war was fought for a common objective, and the
      victory was as essential for the safety of the United States as for
      their own. The United States had entered the struggle late, and had
      poured forth no such contribution in lives and losses as the Allies
      had made. It had paid in dollars, not in death and destruction, and
      now it wanted its dollars back.33

      There were several causes to this awkward distribution of wealth
      between U.S. and its European counterparts. Most obvious is that
      fact that World War I had devastated European business. Factories,
      homes, and farms had been destroyed in the war. It would take time
      and money to recuperate. Equally important to causing the disparate
      distribution of wealth was tariff policy of the United States. The
      United States had traditionally placed tariffs on imports from
      foreign countries in order to protect American business. However
      these tariffs reached an all-time high in the 1920's and early
      1930's. Starting with the Fordney-McCumber Act of 1922 and ending
      with the Hawley-Smoot Tariff of 1930, the United States increased
      many tariffs by 100% or more34. The effect of these tariffs was that
      Europeans were unable to sell their own goods in the United States
      in reasonable quantities.

      In the 1920's the United States was trying "to be the world's
      banker, food producer, and manufacturer, but to buy as little as
      possible from the world in return."35 This attempt to have a
      constantly favorable trade balance could not succeed for long. The
      United States maintained high trade barriers so as to protect
      American business, but if the United States would not buy from our
      European counterparts, then there was no way for them to buy from
      the Americans, or even to pay interest on U.S. loans. The weakness
      of the international economy certainly contributed to the Great
      Depression. Europe was reliant upon U.S. loans to buy U.S. goods,
      and the U.S. needed Europe to buy these goods to prosper. By 1929
      10% of American gross national product went into exports36. When the
      foreign countries became no longer able to buy U.S. goods, U.S.
      exports fell 30% immediately. That $1.5 billion of foreign sales
      lost between 1929 to 1933 was fully one eighth of all lost American
      sales in the early years of the depression37.

      Mass speculation went on throughout the late 1920's. In 1929 alone,
      a record volume of 1,124,800,410 shares were traded on the New York
      Stock Exchange38. From early 1928 to September 1929 the Dow Jones
      Industrial Average rose from 191 to 38139. This sort of profit was
      irresistible to investors. Company earnings became of little
      interest; as long as stock prices continued to rise huge profits
      could be made. One such example is RCA corporation, whose stock
      price leapt from 85 to 420 during 1928, even though it had not yet
      paid a single dividend40. Even these returns of over 100% were no
      measure of the possibility for investors of the time. Through the
      miracle of buying stocks on margin, one could buy stocks without the
      money to purchase them. Buying stocks on margin functioned much the
      same way as buying a car on credit. Using the example of RCA, a Mr.
      John Doe could buy 1 share of the company by putting up $10 of his
      own, and borrowing $75 from his broker. If he sold the stock at $420
      a year later he would have turned his original investment of just
      $10 into $341.25 ($420 minus the $75 and 5% interest owed to the
      broker). That makes a return of over 3400%! Investors' craze over
      the proposition of profits like this drove the market to absurdly
      high levels. By mid 1929 the total of outstanding brokers' loans was
      over $7 billion41; in the next three months that number would reach
      $8.5 billion42. Interest rates for brokers loans were reaching the
      sky, going as high as 20% in March 192943. The speculative boom in
      the stock market was based upon confidence. In the same way, the
      huge market crashes of 1929 were based on fear.

      Prices had been drifting downward since September 3, but generally
      people where optimistic. Speculators continued to flock to the
      market. Then, on Monday October 21 prices started to fall quickly.
      The volume was so great that the ticker fell behind44. Investors
      became fearful. Knowing that prices were falling, but not by how
      much, they started selling quickly. This caused the collapse to
      happen faster. Prices stabilized a little on Tuesday and Wednesday,
      but then on Black Thursday, October 24, everything fell apart again.
      By this time most major investors had lost confidence in the market.
      Once enough investors had decided the boom was over, it was over.
      Partial recovery was achieved on Friday and Saturday when a group of
      leading bankers stepped in to try to stop the crash. But then on
      Monday the 28th prices started dropping again. By the end of the day
      the market had fallen 13%45. The next day, Black Tuesday an
      unprecedented 16.4 million shares changed hands46. Stocks fell so
      much, that at many times during the day no buyers were available at
      any price47.

      This speculation and the resulting stock market crashes acted as a
      trigger to the already unstable U.S. economy. Due to the
      maldistribution of wealth, the economy of the 1920's was one very
      much dependent upon confidence. The market crashes undermined this
      confidence. The rich stopped spending on luxury items, and slowed
      investments. The middle-class and poor stopped buying things with
      installment credit for fear of loosing their jobs, and not being
      able to pay the interest. As a result industrial production fell by
      more than 9% between the market crashes in October and December
      192948. As a result jobs were lost, and soon people starting
      defaulting on their interest payment. Radios and cars bought with
      installment credit had to be returned. All of the sudden warehouses
      were piling up with inventory. The thriving industries that had been
      connected with the automobile and radio industries started falling
      apart. Without a car people did not need fuel or tires; without a
      radio people had less need for electricity. On the international
      scene, the rich had practically stopped lending money to foreign
      countries. With such tremendous profits to be made in the stock
      market nobody wanted to make low interest loans. To protect the
      nation's businesses the U.S. imposed higher trade barriers (Hawley-
      Smoot Tariff of 1930). Foreigners stopped buying American products.
      More jobs were lost, more stores were closed, more banks went under,
      and more factories closed. Unemployment grew to five million in
      1930, and up to thirteen million in 193249. The country spiraled
      quickly into catastrophe. The Great Depression had begun.

      John D. Hicks, Republican Ascendancy: 1921-1933 (New York: Harper &
      Row, 1960) 110.
      Robert S. McElvaine, The Great Depression: America 1929-1941 (New
      York: Times Books, 1981) 38.
      McElvaine, 38.
      American Decades: 1920-1929, 82.
      McElvaine, 21.
      "Average Hours and Earnings of Production Workers, 1964-1991," The
      World Almanac, 1993 ed.: 155.
      McElvaine, 38.
      McElvaine, 39.
      McElvaine, 39.
      McElvaine, 39.
      American Decades: 1920-1929, 80.
      Hicks, 106.
      American Decades: 1920-1929, 78.
      McElvaine, 50.
      McElvaine, 331.
      McElvaine, 41.
      McElvaine, 41.
      McElvaine, 41.
      McElvaine, 37.
      American Decades: 1920-1929, 76-77.
      McElvaine, 21.
      Hicks, 114.
      Hicks, 114.
      American Decades: 1920-1929, 77.
      American Decades: 1920-1929, 77.
      Hicks, 115.
      Hicks, 115.
      Hicks, 173.
      Hicks, 19.
      Hicks, 136.
      McElvaine, 34.
      Hicks, 136.
      Hicks, 136.
      Hicks, 221.
      McElvaine, 35.
      McElvaine, 35.
      McElvaine, 35.
      The World Almanac, 141.
      McElvaine, 44.
      McElvaine, 44.
      McElvaine, 45.
      Hicks, 227.
      Hicks, 227.
      McElvaine, 47.
      McElvaine, 48.
      McElvaine, 48.
      McElvaine, 48.
      McElvaine, 48.
      Hicks, 229.
      Baughman, Judith S. American Decades 1920-1929, Detroit: Gale
      Research, Inc., 1996.
      Hicks, John D. Republican Ascendancy, 1929-1933. New York: Harper &
      Row, 1960.
      Hoffman, Mark S. ed. The World Almanac. 1992 ed. New York: Pharos
      Books, 1992.
      Magill, Frank N., ed. The American Presidents: The Office and the
      Men. Vol. 2. Pasadena, California: Salem Press, 1986.
      McElvaine, Robert S. The Great Depression. New York Times Books,
      Perret, Geoffrey. American in the Times. New York: Simon & Scuster,
      Inc., 1982.
    Your message has been successfully submitted and would be delivered to recipients shortly.