Compare Contrast The Great Depression Economics Essay

Since the Global Financial Crisis began in 2007, comparings between it and the Great Depression have been commonplace in the media and academic literature likewise. This essay will discourse some of the similarities and differences between these two periods of crisis. The first paragraph will analyze implicit in beliefs in the market and guess. The first paragraph will analyze the similar market beliefs and guess that led to crisis in both instances. The following paragraph will compare the banking crises that characterised both periods. The undermentioned subdivision will compare the diminutions in trade and production during both crises, before contrasting the policy responses to these diminutions. Finally, the overall macroeconomic policies of the two crises will be contrasted before the decision.

Fiscal System

Despite the 80 twelvemonth spread between them, there are a figure of similarities sing the fortunes that led to both the Great Depression and the Global Financial Crisis. Both were the consequence of the alleged ‘boom-bust rhythm ‘ ( Grossman and Meissner, 2009: 6 ) . The Great Depression in the US followed the roar of the ‘roaring mid-twentiess ‘ and unprecedented degrees of investing in the stock market. In Europe, a slack occurred one time the rapid investing that followed the First World War came to a arrest. The Global Financial Crisis was initiated in the US by the bursting of a lodging bubble, built upon securitised sub-prime mortgages, explosion in 2007 ( Grossman and Meissner, 2009: 7 ) . Furthermore, in both instances market guess and hazardous fiscal patterns led to systemic exposures that became evident one time the flop occurred, taking to contagious terrors, increased demand for short-run capital, and currency crises ( ibid: 24 ) . As John Kenneth Galbraith points out, in order for market guess to happen on a big graduated table within a society, a permeant sense of assurance and optimism must be ( Galbraith, 2009: 187 ) . Such a temper appears to hold prevailed in the old ages taking up to both the Great Depression and the Global Financial Crisis, along with a widespread belief that the market could non neglect. High growing occurred in the build-up stages to both crises, with 41 per cent growing happening between 1921 and 1929, and 48 per cent between the 1990s and 2007 ( Aiginger, 2010: 8 ) . An unprecedented rise in stock market monetary values throughout the 1920s attracted big Numberss of American people towards the Wall Street stock market ( Bordo and James, 2009: 3 ) . As a consequence, name money rose from $ 6.4 billion in December 1928 to $ 8.5 billion in early October 1929 ( Kindleberger, 1978: 72 ) . This form is mirrored in the tally up to the Global Financial Crisis, as the steady rise in house monetary values led to a mortgage roar in the US after 2001. In both instances, prosperity and belief in the market led to moral jeopardy and loose pecuniary, financial, and regulative policies ( Blyth, 2009: 5 ; Grossman and Meissner, 2009: 24 ) . The keeping companies and investing trusts of the Great Depression, and the collateralised sub-prime mortgages, recognition default barters, and fudge financess of the Global Financial Crisis, yielded high returns whilst monetary values remained high, but were highly vulnerable to change by reversal leveraging one time monetary values fell ( Krugman, 2008: 149 ; Galbraith, 2009: 196 ; Geisst, 2009: 15 ) . In both instances these implicit in factors, combined with a banking system that was besides vulnerable, increased the likeliness of crisis happening one time a flop occurred.

John Maynard Keynes one time commented that the Great Depression was the consequence of a ‘Magneto job ‘ , or the fact that while the bulk of the economic system was in good form, the important fiscal system was non working ( taken from Krugman, 2008: 189 ) . The same can be said of the Global Financial Crisis. Both were preceded by periods of high international capital mobility, a status that has historically produced international banking crises ( Reinhart and Rogoff, 7 ) . This meant that one time one banking crisis occurred, it was really difficult to stem the contagious disease that followed. The Depression-era banking system in the US consisted of a big figure of independent, localised units that were extremely susceptible to local dazes, such as a autumn in the monetary value for agricultural green goods ( Bordo and James, 2009: 12 ; Galbraith, 2009: 197 ) . Once the banking crises began in October 1930, asset-freezing led to contagious terror and bank tallies ( Galbraith, 2009: 198 ; Grossman and Meissner, 2009: 5 ) . When the Austrian bank Credit-Anstalt collapsed in May 1931, bank tallies occurred in Poland, Hungary, France, Germany, and the UK, taking to the going of the UK from the gilded criterion in September 1931, a move that reinforced already widespread terror ( Bordo and James, 2009: 4 ; Grossman and Meissner, 2009: 6 ) . Although the fiscal sector had become far more advanced and interconnected by the clip of the Global Financial Crisis, the basic mechanics of crisis remained the same. The prostration of Bear Stearns and BNP Paribas in August 2007, and Lehman Brothers in September 2008, led to strong demand for short-run liquidness across the board, every bit good as monolithic losingss in systemically linked markets ( Dodd and Mills, 2008: 16 ; Blyth, 2009: 7 ; Bordo and James, 2009: 15 ) . This demand exposed the exposures of the leveraged investings discussed in the old subdivision, merely as the banking crises of the 1930s exposed the exposures of keeping companies and stocks during the 1930s. In both instances, bing banking ordinance and cardinal Bankss proved uneffective in forestalling these banking crises one time the economic system began to slouch. The Federal Reserve proved themselves unable, and possibly unwilling, to implement statute law sing the retention of bank militias in the face of the bank runs that occurred in 1930, 1931 and 1933 ( Krugman, 2008: 157 ) Similarly, the abrogation of the Glass-Steagall Act by the US Congress in 1999, allowed for the meeting of commercial and investing Bankss for the first clip since the Great Depression ( Dodd and Mills, 2008: 17 ; Krugman, 2008: 157 ) . This facilitated the outgrowth of a shadow banking system that did non fall under Federal Reserve banking ordinances sing available liquidness ( Krugman, 2008: 160 ) . Therefore, when this system collapsed in 2008, the Federal Reserve was one time once more unprepared to halt the contagion-inducing bank runs that took topographic point throughout this sector, taking to the devastation of $ 330 trillion worth of recognition ( ibid: 171 ) . This complacence can possibly be explained by the belief that Bankss were ‘too-big-to-fail ‘ in both instances. At the clip of their prostration, Credit-Anstalt is estimated to hold held between 60 and 70 per cent of Austria ‘s entire banking assets ( Grossman and Meissner, 2009: 6 ) . Similarly, Lehman Brothers proved to be merely every bit large a hazard to overall fiscal stableness, as fiscal markets were disrupted, recognition flows impeded, and assurance eroded in the aftermath of their prostration ( Bernanke, 2010 ) . The prostration of the fiscal system led to big diminutions in trade and production during both the Great Depression and Global Financial Crisis, which will be discussed in the undermentioned subdivision.

Production

There a figure of similarities between the diminutions in trade experienced during the Great Depression and the Global Financial Crisis. Indeed, during the first twelvemonth of the Global Financial Crisis, planetary end product fell merely every bit fast as it did in the first twelvemonth of the Great Depression ( Almunia et al, 2009: 4 ) . Real exports fell by about 20 per cent during the first twelvemonth in both crises, with planetary industrial end product falling by an norm of 4 per cent during this same period in both instances ( Grossman and Meissner, 2009: 7 ) . In both instances, trade linkages led to a negative rippling consequence that originated in the US. In the months predating the Wall Street Crash of October 1929, money was diverted off from ingestion and production and towards the stock exchange ( Kindleberger, 1978: 72 ) . This diminution can be witnessed in the motor industry, where car production fell from 660,000 units in March 1929 to 92,500 units in December of the same twelvemonth ( ibid ) . The prostration in industrial production in the US led to a rapid diminution in primary trade good monetary values worldwide, take downing the incomes of the largely agricultural states of Latin America, Asia and the underdeveloped universe ( Almunia et al, 2009: 5 ) . This form was repeated during the Global Financial Crisis, as a prostration in trade originating in the US negatively affected the oil-producing states of the universe in 2008 ( ibid ) . In both instances a loss of exports via trade linkages led to a synchronized trade prostration across a whole spectrum of sectors, and led to the internationalization of a crisis that emanated from the US ( Grossman and Meissner, 2009: 27 ) .

Despite these similar forms in industrial diminution and synchronised trade prostration, the Great Depression and the Global Financial Crisis differ in a figure of cardinal respects, peculiarly in relation to affected parts, policy responses, and the sum of clip it took for recovery to get down. The construction of the planetary economic system has changed significantly since the Great Depression. Given that industrialized production chiefly occurred in North America and Western Europe during the Great Depression, these parts were disproportionately affected in comparing with the non-industrialised and agricultural states throughout the universe ( Almunia et al, 2009: 5 ) . The globalization of universe trade that has occurred since the Great Depression has led to the spread of fabricating industry to every part of the Earth. This helps to explicate why the 20 per cent bead in overall universe trade that occurred between April 2008 and January 2009 alone is more than 50 per cent higher than the diminution in universe trade that occurred between 1929 and 1932 ( ibid: 6 ) . Furthermore, today the planetary economic system is far more reliant on more volatile consumer goods and investing than it was in 1929. Given the nature of these merchandises, consumers are far less likely to purchase or put during the periods of uncertainness that accompany fiscal crises ( Grossman and Meissner, 2009: 28 ) . By 2007, 70 per cent of planetary trade consisted of these goods, in comparing to 44 per cent in 1929 ( Almunia et al, 2009: 7 ) . The disconnected cross-border nature, or perpendicular specialization, of production today has increased the sensitiveness of trade to even the smallest market alterations in comparing to the chiefly localized industries of the Great Depression epoch ( Brahmbhatt and Da Silva, 2009: 5 ; Grossman and Meissner, 2009: 29 ) . Despite a greater diminution in trade, employment has non reached similar degrees today as it did during the Great Depression. Again, this difference may be explained by the transmutation of economic activity that has occurred since 1929. In 1929, more secure occupations in the private sector or authorities accounted for merely 55 per cent of entire employment, in comparing to 82 per cent at the beginning of the Global Financial Crisis ( Brahmbhatt and Da Silva, 2009: 3 ) . Despite high rates of unemployment today, the comparative occupation security of a more important service industry, in comparing to the now defunct US motor industry for illustration, has helped to forestall a repetition of the mass unemployment experienced during the Great Depression. One of the most dramatic differences between the Great Depression and the Global Financial Crisis involves policy responses to the negative dazes brought approximately by the prostration in trade. The Great Depression was worsened by a scope of protectionist steps and duties introduced by provinces, such as the US Smoot Hawley Tariff Act of 1930. Today, the establishments established under the Bretton Woods system – the International Monetary Fund, the World Bank, and peculiarly the World Trade Organisation – have prevented a broad graduated table return to protectionism ( Grossman and Meissner, 2009: 32 ) . Even at the tallness of the crisis in November 2008, cooperation occurred between G-20 leaders on a scope of anti-protectionist steps ( Bordo and James, 2009: 23 ) . Whereas the Great Depression brought about a moving ridge of insular protectionism, peculiarly on the portion of the US, multilateralism has mostly prevailed throughout the Global Financial Crisis, peculiarly at EU degree. These differences, and others, may assist to explicate why it took far less clip for planetary trade to get down recovery during the Global Financial Crisis than it did during the Great Depression. Despite two periods of recovery during the Great Depression, overall industrial production declined for three consecutive old ages ( Almunia et al, 2009: 4 ) . In contrast, probationary trade recovery began to happen after merely one twelvemonth during the Global Financial Crisis ( ibid ) . By 2010, trade degrees had about recovered to 2008 degrees ( Bordo and James, 2009: 23 ) . This can possibly be explained by the monolithic divergency in policy responses between the two crises, as the following subdivision will discourse.

Policy Responses

The most dramatic difference between the Great Depression and the Global Financial Crisis has been the ability, and willingness, of authoritiess and fiscal establishments to use a broad scope of tools this clip about. During the Great Depression, the gilded criterion restricted the pecuniary policies of authoritiess, as the demand to forestall capital escapes prevented authoritiess from prosecuting in expansionary pecuniary policy or following financial stimulation bundles to shoot money into the economic system ( Almunia et al, 2009: 10 ) . This system of fixed exchange imposed a deflationary prejudice, produced unsustainable instabilities, and limited the ability of authoritiess to react efficaciously ( Grossman and Meissner, 2009: 25 ) . Ultimately, financial stimulations came in the signifier of a figure of international wars throughout the 1930s, with World War II supplying much needed end product and employment at the terminal of the decennary ( Almunia et al, 2009: 25 ) . Furthermore, the Federal Reserve in the US proved unwilling to follow any pecuniary policy that could perchance take to rising prices or budget shortages, even though this reluctance and passiveness often exacerbated the economic state of affairs ( Galbraith, 2009: 202 ) . For illustration, the Federal Reserve increased the price reduction rate from 3.8 per cent in 1927 to 5.3 per cent in 1929 in an effort to control market guess and thereby prevent rising prices ( Bordo and James, 2009: 5 ; Aiginger, 2010: 12 ) . In consequence, this step helped to transform a reasonably everyday recession into the Great Depression. The determination to farther increase the price reduction rate when Britain left the gilded criterion in 1931 merely made affairs worse by farther cut downing the money supply and compromising an already worsening banking system ( Bordo and James, 2009: 6 ; Brahmbhatt and Da Silva, 2009: 5 ) . Money supply decreased by 21 per cent in the US between 1929 and 1932, and did non get down to turn until every bit tardily as 1933 ( Aiginger, 2010: 12 ) .

The international response to the Global Financial Crisis was markedly different from that of the Great Depression. Even though some lessons from past experiences have been neglected or forgotten wholly, counter-cyclical macroeconomic policy is a now a changeless characteristic of economic life ( Brahmbhatt and Da Silva, 2009: 5 ; Grossman and Meissner, 2009:30 ) . When the Global Financial Crisis hit, the US, EU, and UK all cut price reduction rates to less than 1 per cent within a twelvemonth ( Aiginger, 2010: 13 ) . In order to aim domestic economic systems and trade with issues such as rising prices, cardinal Bankss have engaged in quantitative moderation, injected capital into ‘bad ‘ Bankss, and offered discretional loaning, to call but a few steps that have been employed ( Brahmbhatt and Da Silva, 2009: 6 ; Aiginger, 2010: 13 ) . These steps are grounds of an increased willingness to run budget shortages today than during the Great Depression, with a figure of emerging markets in peculiar utilizing aggressive financial policy in order to battle the fiscal crisis ( Almunia et al, 2009: 9 ) . Today, the Federal Reserve follows an involvement rate mark, can pay involvement on militias, and can sell long-run securities should the economic clime call for any of these steps ( Bernanke, 2010 ) . During 2008 and 2009, pecuniary supply increased by 17 per cent in the US and 8 per cent in the EU ( Aiginger, 2010: 13 ) . There has besides been a general credence of the demand for financial stimulation in order to cover with crisis. Whist the full effects of these bundles remains to be seen ; by 2009 most G-20 states had adopted a financial stimulation bundle tantamount to 2 per cent of GDP ( Brahmbhatt and Da Silva, 2009: 6 ) . It is possibly the aggression, invention, and coordination of these pecuniary policies that have prevented the Global Financial Crisis from making a similar prostration and reversal of capital flows as occurred during the Great Depression ( Bordo and James, 2009: 27 ; Grossman and Meissner, 2009: 25 ) . Given that the ability of authoritiess to prosecute in these steps has mostly been accredited to the absence of a fixed exchange rate such as the gilded criterion, inquiries still remain as to the sustainability of the Euro in the current economic clime. However, it is excessively shortly to pull any decisions on this peculiar issue.

Decision