greatdepression (2)

8/11/2019 greatdepression (2)

1/18

An Overview of the Great Depression


2/18

What makes a Depression Great?

Recession: When your neighbor loses his or her job.

Depression: When you lose your job.


3/18

Why study the Great Depression?

Worst economic disaster of the 20th century.

Cause or causes are still debated.

A defining event, especially for thegovernments involvement in the economy.

Useful for learning important macroeconomic

concepts.


4/18

Some Concepts

Gross Domestic Product (GDP): Comprehensivemeasure of the nations output of final goods andservices.

Real GDP: GDP measured at a fixed price level(i.e., inflation adjusted).

Nominal GDP: GDP measured at current prices.

Recession: Sustained decline in real GDP(approximately two quarters). Officially declaredby NBER committee.

Depression: Very severe recession.


5/18

More Concepts

Inflation: A sustained increase in the general price

level (often calculated in terms of the Consumer

Price Index (CPI)).

Deflation: A sustained decrease in the generalprice level.

Money Stock: The stock of assets that serve as

media of exchange (e.g., coin, currency, checkingaccounts).

Real Interest Rate: Measure of the cost of

borrowing adjusted for inflation/deflation.


6/18

Real output (GDP) fell 29% from

1929 to 1933.

Unemployment increased to 25%

of labor force.

Consumer prices fell 25%;

wholesale prices 32%.

Some 7000 banks failed.

How Great was the Great Depression?


7/18

Why Did It Happen? Some Suggested Causes

The stock market crashend of the party


8/18

The Stock Market Crash

The timing of the crash (Oct. 1929) is suggestive.

Possible channels:

Destruction of wealthIncreased uncertainty

Role of banks

Conclusion: Probably had some effect, but not big

enough by itself.


9/18



Collapse of world tradeglobalization in reverse


10/18

The Collapse of World Trade

$ value imports of 75 countries


11/18



Collapse of world tradeglobalization in

reverseMonetary collapse


12/18

Bank Failures

7000 banks failed -- many during

panics

Number of banks fell from 25,000 in

1929 to 15,000 by 1934

Possible Channels:

Loss of depositsdecline in

expenditures

Customer relationships broken

harder to borrow

Money supply contraction


13/18

Banking Panics

Bank depositors lost confidencebank runs

Banks lost gold, currency and other reserve assets

Loss of reserves caused banks to reduce loans anddeposits (causing money stock to fall)

Contracting money stock reduced spending

Reduced spending led to lay-offs (increasedunemployment), falling prices (deflation) and loweroutput.


14/18

Fed officials did not watch (or evenmeasure) the money supply. But, why didnt

they respond to bank panics?

Most failed banks were small,nonmember banks.

Interest rates were falling and few banks

borrowed at the discount window.

The Feds Monetary Policy


15/18

But Were Interest Rates Really Falling?

Deflation caused the realinterest rate (i.e., the real

cost of borrowing) to rise sharply:

i(nominal)inflation rate = i(real)e.g., 2% -(-10%) = 2% + 10% = 12%

Firms stopped investing in new buildings, equipment,

etc.

Bankruptcies increased as borrowers lacked theincomes to repay their debts.

Banks failed because borrowers defaulted on their

loans.


16/18

Recovery

Rapid money supply growth (end of bankingpanic, gold inflows)

rising price level

falling real interest rate

and increased spending.


17/18

Recovery

Rapid money supply growth (end of bankingpanics, gold inflows)rising price level, fallingreal interest rate and increased spending.

World War II (when unemployment finally fell

below 10%)


18/18

The Depression was not a failure of capitalism or

markets, but rather a failure of the Federal

Reserve.

Monetary policy should maintain price stabilityavoid deflation and inflation.

The Fed should respond to financial crises that

increase the demand for money or threaten todisrupt the payments system.

Could It Happen Again?

greatdepression (2)

Documents