Great Depression, Research Paper Example

Introduction

Great Depression is the most severe economic crisis ever experienced by the global economy so far. It emerged from seemingly nowhere, destroying the hopes for the society of a general prosperity. Realization of the American dream was postponed for years. After 1929, a tough decade for the American society followed. These years were marked by high unemployment rate, low salaries, overall deflation, halted construction, severely damaged heavy industry and virtually bankrupt agricultural sector.

USA was not the only state to experience the terrible consequences of the crisis. All of the countries that were actively involved in international trade and integrated into the global financial market eventually suffered. Foreign trade shrunk by two-thirds, the exchange of goods and technologies virtually halted.  Any industrial area lost most of jobs, while the rural sector experienced massive cuts in profits. World economy was familiar with recessions, downturns and crises. By 1929 it was already clear that the economy tends to develop in cycles, an eventual slowdown after a decade of fast growth 9n 1920s was rather predictable. In reality the crisis that was expected to be nothing more than a small bump on a smooth road of prosperity, lasted for over 5 years and caused collateral damage. Adam Smith’s “invisible hand” somehow failed to regulate the markets and it took massive government interventions combined with war efforts to overcome the consequences of the major economic decline of the 20^th century.

Causes of the Great Depression

Though this major economic crisis happened seventy years ago and was since then thoroughly studied by all the major economists, there still is no single opinion over why the seemingly prosperous global economy faced such a severe downturn. The reasons for the beginning of the crisis are rather obvious – slight overproduction, stock market bubble and drought in the agricultural regions of the United States. But why the crisis last for so long and become so powerful that it changed the face of the world? Various economic schools tend to explain the Great Depression from different points of view, but most agree that overproduction was one of the main triggers for it. In order to understand the process better, we will look into the three major explanations of the crisis.

The Keynesian approach. John Maynard Keynes is one of the greatest economic minds of the 20^th century. He opposed the classical economy of Adam Smith and claimed that markets are not always capable of self-regulation, Great Depression being an ideal example. According to Keynes, demand is the core power that is running the economy. According to him, supply will always adjust to the new need, though it may take some time. If, however, not enough people are willing to buy goods or services, a spiral crisis might evolve. The British economist connected demand to the unemployment rate. If at some point due to the economic instability, the rate of unemployment increases dramatically, serious consequences will follow: unemployed workers do not have income to spend. The overall level of consumption in the economy declines, businesses are unwilling to keep manufacturing goods and services and cut the number of workers, which leads to further growth in the unemployment rate (Caldwell, J. 2007). The vicious circle starts all over again – more unemployment leads to less income and further cuts in consumption. Keynes supposed that the markets might be unable to solve the problem.

Keynes’s approach seemed to be one of the most reasonable ones, as the high unemployment rate prevailed throughout the 1930s and the economy was recovering extremely slowly. Free markets fail to resolve the crisis completely.

The Monetarist point of view. Neoclassical economists, headed by Milton Friedman, largely disagreed with Keyes. They certainly acknowledged that unemployment is an important economic indicator, but supposed that business activity backed by correct monetary policy could have saved the economy and decreased the negative consequences of the Great depression.

According to Milton Friedman, the monetary policy and monetary regulations imposed by the Federal Reserve System could have saved the situation, but due to the frequent mistakes made by the government economic agents, this did not happen (Caldwell, J. 2007). Neoclassical economists supposed that the accessibility of funds for businesses largely predetermines the speed and pattern of the economic growth. In 1928 the interest rate grew, following the fast economic development. Quite logically, after the Black Tuesday, when it became clear that a downturn started, the interest rate should have been lowered by the Federal Reserve, to ensure more profitable investment options for the business (Caldwell, J. 2007).

In reality, however, the interest rate was increased once again in 1930. This entirely discouraged businesses from borrowing money. Banks, many of which collapsed in 1929 and 1930, were completely reluctant to provide any funds to the real sector of the economy. According to Milton Friedman, faulty monetary polices were the real reason for the Great depression to last for so long. Federal Reserve, which was supposed to stimulate the banking sector in the toughest times, actually demotivated bankers to give any loans through establishing high interest rates.

International approach to explaining the causes of the Great Depression focused on the unstable situation with the currency exchange rate and the global financial system. Before the Great Depression most of the countries used gold standard to calculate the true value of their currency. It soon became clear that the fixed amount of gold reserves was not able to satisfy the growing need for money. No country could print more cash without gold to back it up. As the US and UK economies were the first to experience the crisis, people tried to exchange cash for gold, knowing it was more stable. In order to keep the gold inside the country, USA raised the interest rate, while Britain simply refused the gold standard. As a result international trade, one of the main engines of any economy, was virtually ruined.

Ways to Overcome the Crisis

Republican president Hoover was in office when the stock market collapsed. Unfortunately, no immediate actions were taken to try and freeze the crisis as early as possible or at least minimize its consequences. Administration can not be held fully responsible for all the mistakes and failures to act on time. At that time there was no real experience in dealing with such problems. American society believed the free market efficiency so much that was afraid of any government interventions (Scaliger, C. 2008).

When Franklin Delano Roosevelt entered the office, he had a clear program of actions – the New Deal, designed under the influence of Keynes. According to this plan, unemployment was to be reduced through massive government assistance programs. FDR’s administration, however, failed to use FRS to its full capacity and did not increase the supply of money in the economy (Scaliger, C. 2008). The New Deal improved the situation slightly and gave some hope to the Americans. But its scale was obviously not enough to pull the economy out of recession.

Conclusion

Overall it is rather hard to estimate the real damage that the Great Depression caused. Just in three years the summarized volume of exports and imports decreased by 30%, which postponed the globalization of the world economy (Madson, J. 2001). Deflation was around 3-4% a year for the industrial goods and unemployment reached 25% (Bernanke, B. 1995). GDP decline was also substantial, though hard to estimate. Moreover, GDP rate is not always demonstrative, as real GDP/GNP or real GDP/GNP per capita actually matters.

Works Cited

Bernanke, B. “The Macroeconomics of the Great Depression: A Comparative Approach” Journal of Money, Credit & Banking, Vol. 27, 1995.

Madsen, J. “Trade Barriers and the Collapse of World Trade during the Great Depression” Southern Economic Journal, Vol. 67, 2001.

Himmelberg, R. “The Great Depression and the New Deal” Greenwood Press, 2001. 185 pgs.

Caldwell, T. “What Caused the Great Depression?” Social Education, Vol. 71, 2007.

Scaliger, C. “The Great Depression: Contrary to Conventional Wisdom, the Historical Record Shows That Interventionist Policies during the Hoover and FDR Administrations Caused and Prolonged the Great Depression” The New American, Vol. 24, June 23,   2008.