Question

Discuss the many parallels between the Great Depression and the Great Recession.

Answer 1

The world has experienced two significant events or downfalls in the global economies thataffected the financial and economic performance. Understanding the parallels that arise betweenthe recent great recession and the great Depression explains the occurrences and their influenceon the economy

A key difference is the magnitude of the crisis. The Great Depression represents the worst economic episode in world history and was propagated by the famous stock market crash of 1929. The Great Recession, on the other hand, kicked into full swing with the collapse of investment banking firm Lehman Brothers in September 2008.

No doubt it was appalling to learn about the rampant sub-prime mortgage abuses by mortgage and investment bankers (lest we forget the reckless homeowners) that culminated in a massive housing bubble. When the bubble was finally pricked in 2007, it started the epic global economic crisis of 2008.

However, with all due respect to the 2008 affair, it has been patty cakes compared to the Great Depression. There were so many asset bubbles formed in 1929 you needed a spreadsheet to track them: housing, raw land (especially in Florida), stocks, corporate bonds, farm realty, mortgage debt, commodities, just about everything not tied down was levered to the gills by October 1929.

Adding insult to injury were a legion of policy follies enacted after the market crash that fueled the crisis, which lasted twelve years, caused abject human misery and required a catastrophic world war to stamp out.

Lastly, at its nadir in 1933, the US suffered a startling 25% unemployment rate, massive underemployment, and a 40% mortgage default rate – with no social safety net to intervene on behalf of legions of people in truly desperate traits. I have a deeper appreciation for our clients who recount stories about their parents' experiences during this difficult time.

A positive outcome of the Great Depression was major new legislation / regulation to modulate the excesses of unfettered modern capitalism. For example, a key non-controversial action was the creation of federal deposit insurance to protect banks and depositors alike. Over nine-thousand banks folded during the Great Depression and depositors were either destroyed or forced to hoard cash. Another smart move was the creation of the SEC, which effectively rooted out Wall Street investor fraud (which was much worse than 2008 subprime mortgage fiasco).

However, at the same time the overzealous Roosevelt administration was meddling in almost every aspect of the economy, much of which proved counterproductive (even unconstitutional); some argue it even extended the duration of the depression. If you, like me, went ballistic over the federal government bailout of General Motors in 2008, you do not want read about FDR's thwarted efforts to centrally manage private enterprise in the 1930s.

Like Obama, FDR even had a signature deficit-financed stimulus plan.   He forced through a $2 billion WWI veteran's bonus bill that accelerated a promised payment to all veterans (that was payable in 1945) up to 1936. This massive expenditure, which was borrowed of course, represented 1% of the US GDP at the time and caused a temporary surge in economic activity in 1936. Predictably, its economic impact petered out fast and helped lead to the 1937-38 recession, which was nearly as severe as the bleak 1932-33 period, considered the worst two years in US history.

FDR had more short term success with the public ("make work") work programs which helped knock the national unemployment rate down for a couple of years – before it spiked again when all of the programs ran out of funding in 1937.

Other policy mistakes like a protectionist tariff law, income tax increases, untimely interest rate hikes, over-regulation, bank reserves manipulation and other ill-advised efforts to centrally manage the economy, all of which represented unforced policy errors that prolonged / deepened the depression.

In the aftermath of the 2008 housing bubble crash, the US stock market dropped over 50% by March 2009 (from its October 2007 peak). However, in 1932, the US stock market bottomed out at a total drawdown of over 80% (!) from its 1929 peak. By the way, the Dow Jones Industrial Average market index did not rebound to its 1929 high until 1954.

The current running bull market has been extraordinary, but, like a similarly massive bull market run during the mid-1930s, it has not been organic but rather the result of excessive monetary policy and deficit fiscal spending.