What Was the Great Depression and What Caused This Catastrophe?

Thinking of the Great Depression harkens grainy black-and-white images of unemployed workers and bread lines. The widespread turmoil of the era deeply impacted the lives of everyone unlucky enough to encounter the full wrath of this economic crisis. 

Historians and economists agree the Great Depression was one of the most significant economic disasters of the industrial age. Those forged in the fire of these tough economic times were frugal and resourceful folks who made it through a challenging time. 

But a closer look at the Great Depression can act as a mirror for the events of today and give you a deeper appreciation for those who lived through it. 

What Was the Great Depression?

The Great Depression claims the dubious honor as the longest economic recession in modern history, running from 1929 to 1941. Kicking off with the stock market crash of 1929, a series of panics and policy mistakes pushed America deeper into economic chaos, leaving a lasting mark on American history. 

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Causes of the Great Depression 

The Great Depression was a global economic catastrophe of extreme magnitude. Multiple factors contributed to the economic chaos in America during that time. 

Stock Market Crash

Throughout the 1920s, the American public invested in the stock market with vigor. The increasing public interest pushed companies to issue stock and make enthusiastic projections. In turn, stock brokers sold budding investors the dream of large profits without disclosing relevant details about the company’s financial situation. 

In some cases, brokers were selling stocks with completely false promises. The promise of outlandish profits led to the skyrocketing stock prices of that era. 

Investors began to worry about the sky-high stock prices in 1929. True market panic set in by late October. This panic led to a market crash on Oct. 24, 1929, known as Black Thursday. 

On Black Thursday, the Dow Jones Industrial Average dropped by 21% from its high point in September. Additionally, trading volume spiked to three times the typical daily volume. This dark day marks the beginning of the Great Depression. But it was quickly followed by Black Tuesday, when the market dropped by nearly 12%.  

Collapse of World Trade

The plunging stock market took the U.S. economy down with it. 

With limited options, President Herbert Hoover signed the Smoot-Hawley Tariff Act of 1930. The legislation’s goal was to protect American industries from the competition facing them on the world trade stage. It increased tariffs on foreign imports to the U.S. 

In response to this economic policy, other countries decided to increase their own tariffs on American goods. The increased cost of goods caused world trade to collapse. Ultimately, this push toward U.S. protectionism moved the country closer to an economic depression. 

Missteps by the Federal Reserve & Monetary Contraction

Shortly before the Great Depression, President Woodrow Wilson established the Federal Reserve to regulate banking institutions, monitor the credit rights of consumers, maintain the stability of the financial system, and provide services for federal government spending. 

By 1929, the organization charged with maintaining the stability of the U.S. economy was less than 20 years old. And the inexperience led to significant macroeconomic problems throughout the economic downturn.  

The Fed’s monetary policy between 1921 and 1928 involved increasing the money supply significantly. A growing money supply and low-interest-rate environment allowed the economy to expand in a big way.

But when the stock market crashed, the Federal Reserve changed its economic policy. It allowed the money supply to fall by around one-third between 1929 and 1932. The smaller money supply created a lack of liquidity for smaller financial institutions, which slowed the movement of money. 

It also contributed to deflation, which increased debt burdens and reduced consumption. Other impacts of a tight money supply include increased unemployment and bankruptcy for businesses and individuals, each of which contributed to the tough times we associated with the Great Depression. 

Banking Panics 

Before the advent of the ​​Federal Deposit Insurance Corporation, the funds held within a bank were uninsured against bank failures. If a bank closed, the savings of account holders would often disappear. So signs of trouble would often cause a banking panic. 

At this point in history, the U.S. dollar was tied directly to real gold, known as the gold standard. And since the paper dollars spent by Americans were pegged to the valuable metal, a lack of confidence in the banking system or economic future of the country encouraged people to hoard gold. 

If many account holders withdraw their physical funds immediately, you’ve got a bank run. 

Runs drain banks of their reserves. It’s likely the bank cannot provide all the account holders with the funds they seek, which causes bank failure. 

Unemployment & Reduced Purchasing

The stock market crash and subsequent bank failures resulted in low consumer confidence. When consumers aren’t sure about the state of the economy, it leads to a drop in demand for goods and services as consumers hoard money in preparation for hard times ahead. 

This pattern of readjusted spending priorities often happens during uncertain economic times. After all, when a consumer loses confidence in the economy, it makes sense to tuck away funds for a rainy day or pay off existing debts for a smoother ride. 

Falling demand means falling prices. As companies brought in less money, the worrisome revenue numbers led to layoffs across the country. A defining feature of the Great Depression was extensive unemployment, which led to even more drop in demand. 

For example, the manufacturing sector shrank by over 30% between 1929 and 1933, which included millions of lost jobs. With more unemployed, demand continued to drop in a devastating spiral. The unemployment rate soared to over 20%, which pushed millions of Americans into poverty. 

Economic Inequality 

When consuming media about the Roaring Twenties, it’s easy to think that everyone in the country was enjoying lavish parties in beaded flapper attire. But that’s not the case. 

By 1928, the top 1% of households received 23.9% of all pretax income. On the flip side, around 60% of households earned less than $2,000 per year. 

The stark contrast between the rich and everyone else was apparent before the financial crisis. But when it hit, the rich had vast savings, while others had nothing to weather the financial storms. And many in the middle class saw their lives turned upside down overnight. 

Drought Conditions 

In conjunction with the fiscal mistakes, protracted drought conditions in the Southern Plains added insult to injury. High winds brought dust storms that culminated in the infamous Dust Bowl. 

As early as 1931, farmers’ crops began to fail. Many farming families already feeling the financial impact of fallen demand due to industrial layoffs were facing a dire situation that exacerbated the broader economic problems of the day. 

Effects of the Great Depression

No single factor caused the Great Depression. Likewise, there were multiple ramifications of this painful economic event, some of which were exaggerated versions of the original causes.

High Unemployment & Poverty

In 1933, the unemployment rate hit a peak of around 25%. With over 12 million unemployed, representing approximately 25% of the workforce, economic turmoil was everywhere. 

The resulting widespread poverty culminated in large numbers of homeless encampments nationwide. The encampments were called “Hoovervilles,” a dig at then-President Herbert Hoover, whose overly measured response and repeated vetoes of more sweeping measures to control the Depression were widely blamed for prolonging the suffering.  

Bank Failures

Over 9,000 banks failed during the Great Depression. Depositors lost over $7 billion in assets as a result of these closures. For the poor and middle class, the lost money often pushed them (further) into poverty. Many of the rich also lost vast sums of money.  

Mass Migrations

The search for work spurred mass migrations. The exact number of migrants is a matter of controversy. However, History.com cites University of California research estimating that around 400,000 migrants left the Dust Bowl area in search of work in California. And the Migration Policy Institute estimates that over half a million people who’d previously emigrated to the U.S. left the country between 1928 and 1937. 

Increased Crime Rates

The Great Depression overlapped with Prohibition, which made it illegal to sell or drink alcohol in the U.S. Violent crime rates spiked as the unemployed sought to create a living for themselves, and organized crime gained a foothold thanks to lucrative activities like alcohol bootlegging, bank-robbing, and loan-sharking.

Some of the most infamous criminals of the day included Bonnie and Clyde and Machine Gun Kelly (the notorious gangster, not the modern musician). But the average American was largely unaffected by the gangs unless they sought them out (such as for borrowing money). In fact, gangsters became folk heroes thanks to Americans’ distrust of both the government and banks.

Decreased Tax Revenue

The wage income for workers fell by 42.5% between 1929 and 1933. When combined with the high unemployment rates, the federal government collected less in taxes. 

The failing revenue led the government to raise taxes in 1936. With the expense of the New Deal, the government had to get creative about raising tax revenues. Congress created a wealth tax with the Revenue Act of 1935 to generate the necessary funds. Additionally, the Revenue Act of 1937 closed loopholes for a stronger stance on tax evasion.   

School Closures & Child Labor

Around 10 million children taught in approximately 20,000 schools across the country faced shorter school years. Over 2,500 of those schools closed completely. It wasn’t uncommon for children to work to help their families scrape by. 

Children of the time had some protections, including a limit of 8 hours to a working day. But age restrictions on child labor weren’t implemented until the passage of the Fair Labor Standards Act of 1938, which limited the working age to 16 in both the manufacturing and mining industries. 

When the dust settled after the Great Depression, children who missed out on an education were at a disadvantage to navigate the world as adults. 

Children’s Health Issues 

The realities of hard labor and malnutrition significantly impacted the health of children across the country. And those impacts had long-reaching ramifications. 

For example, a working paper by Valentina Duque and Lauren L. Schmitz out of Boston College showed evidence that even those who were prenatal during the Great Depression saw significant declines in work productivity later in life and placed increased demands on the health care system. But the effect applied to children born during the ‘30s too.  

Recovery From & Legacy of the Great Depression

The Great Depression was a grim era. But eventually, the country recovered and walked away with what was likely a different history than we otherwise would have had and lessons to last a lifetime, including: 

  • The Election of Franklin D. Roosevelt. Roosevelt, often known as just FDR, became president in 1933. He worked with Congress to set the country on a path to prosperity. As the only president to serve four terms, he left a lasting mark on the country, including his signature legislation, the New Deal. 
  • The New Deal. The federal government launched the New Deal to revitalize the American economy. It set lofty goals to ensure something like that never happened again, including the creation of a national infrastructure, achieving full employment, and increasing worker wages. Part of the New Deal was creating the Works Progress Administration, which employed workers to complete public works projects. 
  • Decrease in Crime Rates. Crime rates started to fall in the mid-1930s after Roosevelt’s landmark New Deal legislation began to pull us out of the economic turmoil and the repeal of Prohibition ended criminals’ monopoly on alcohol (reducing related crimes along with it). Americans also eventually turned on their outlaw heroes.
  • End of the Gold Standard. FDR took the U.S. off the gold standard with the Gold Reserve Act of 1934. Essentially, this bill made it illegal for the public to possess gold and required individuals to turn in their gold for a set price. From there, the government increased the price of gold, which allowed the economy to start growing again. 
  • Labor Unions. The National Labor Relations Act of 1935 protected the right to unionize with the hope that collective bargaining would help workers maintain better working conditions and wages. 
  • Stock Market Regulation. The government created the Securities and Exchange Commission to regulate Wall Street. Its charge is preventing securities fraud and seeking accurate financial data for investors. 
  • Banking Regulation. The Glass-Steagall Act restored confidence in the banking system. It tightened the regulator controls and created the Federal Deposit Insurance Corporation (FDIC) to insure banks against failure. 

Before the onset of World War II, unemployment rates had fallen and inflation-adjusted gross domestic product had risen. But ultimately, World War II tends to mark the end of this challenging chapter in history. However, even before millions of soldiers were conscripted into the army and secured a regular wage, the American economy was close to a full recovery. 

Could the Great Depression Happen Again?

Income inequality and failed government policies were among the driving causes of the Great Depression. Millions suffered from the fallout. 

As the gap between the rich and poor widens, the possibility of a repeat grows more real. Although it seems impossible, the reality is that the Great Depression was a terrible recession. We know that recessions can and do happen somewhat frequently. The Great Depression just proves it’s possible for a recession to go wrong in a big way.

Fortunately, it’s unlikely we’ll encounter another Great Depression, complete with Hoovervilles, mass migration, and unbelievable hardships. But it’s possible we’ll see extensive economic turmoil again.

If a financial system is broken, it’s very easy for it to spiral out of control. The pandemic taught us that our global economic ties are anything but stable. As people navigate increasingly tumultuous times, that opens the door for changes that could include some painful economic conditions along the way. 

When governments, corporations, or powerful individuals aren’t incentivized to do what’s best for the people, it can create the perfect storm for an economic disaster of unimaginable proportions. 

Final Word

The Great Depression marked a dark period in our country’s history. A dangerous combination of policy failures and a growing wealth gap pushed the country headlong into economic turmoil. 

Everyone hopes the past doesn’t repeat itself. But whether or not we see a depression again, recessions are a natural part of the economic cycle. If a depression were to happen, it’s possible to prepare yourself for the worst recession in recent history.

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