Lecture 12: The Great Depression

It is appropriate to conclude our discussion of business cycles with a discussion of the Great Depression, the greatest business cycle of the 20^th century. (That line will force these notes to be revised in a few years).

The great depression was a real contraction in the economy. Many answers were given to explain why. The Marxists believed that this represented the final days of capitalism, and that we needed to usher in the communist revolution. Marxism believed that capitalism would push the wage rate to the Malthusian subsistence wage and that somehow there would be a dearth of demand of the product. Additional crackpots such as Huey Long with his “share the wealth scheme” advocated radical solutions for the problems of the day, which were fortunately turned back. Others believed in all sorts of nostrums for “sharing the work”, such as the schemes to push married women out of the labor force and lower the retirement age.

We discuss the Great Depression, or the Great Contraction, as some wish to call it, not only because of its economic importance but also because of the dramatic impact it had on economists’ thinking. This was a big event in economics, and economists and economic theory were found wanting in their explanations. In part, this was due to some foolish behavior by economists. Irving Fisher, one of the great theorists of the early 20th century, made a speech in 1929 in which he said that stocks "appeared to have reached a permanently high plateau". Alas, untrue. In part, business cycles were a problem on which we had not worked very hard as a profession. Our explanations were found wanting.

This is not the only Great Depression in the United States. If we go back to the 19^th century, we will find depressions of similar magnitude.

It also gives us an interesting example for discussing the relative importance of demand and supply shifts in causing business cycles.

The Facts

To get an idea of what happened, we need to look at some of the key data on the Great Depression. Tables 12-1, 12-2 and 12-3 present some historical data covering the period 1928-1941. Many date the Depression from the stock market crash in 1929, so 1928 is a pre-Depression year. By 1941, the Depression was over. A rearmament program was in full swing. World War II began in 1939, spending on defense rose dramatically with the fall of France in 1940 and soared after Pearl Harbor on December 7, 1941.

Table 12-1 Selected Historical Data on the Great Depression
Year (1)	GNP Billions of $1958 (2)	GNP Billions of Dollars (3)	Stock Market S&P 1941=10 (4)	Price Level 1958 = 100 (5)	Price Level 1929= 100 (6)	Stocks as percent of 1929 value in real terms (7)	U (8)
1928	190.9	97.0	19.95	50.8	100%	76%	4.2%
1929	203.6	103.1	26.02	50.6	100%	100%	3.2%
1930	183.5	90.4	21.03	49.3	97%	83%	8.9%
1931	169.3	75.8	13.66	44.8	89%	59%	16.3%
1932	144.2	58.0	6.93	40.2	79%	34%	24.1%
1933	141.5	55.6	8.96	39.3	78%	44%	25.2%
1934	154.3	65.1	9.84	42.2	83%	45%	22.0%
1935	169.5	72.2	10.6	42.6	84%	48%	20.3%
1936	193.0	82.5	15.47	42.7	84%	70%	17.0%
1937	203.2	90.4	15.41	44.5	88%	67%	14.3%
1938	192.9	84.7	11.49	43.9	87%	51%	19.1%
1939	209.4	90.5	12.06	43.2	85%	54%	17.2%
1940	227.2	99.7	11.02	43.9	87%	49%	14.6%
1941	263.7	124.5	9.82	47.2	93%	40%	9.9%

Table 12-2 Selected Historical Data on the Great Depression(Cont.)
				Billions of 1958 $
Year	Average Earnings	Real Earnings (1929$)	Interest Rates % LT Gov’t Bonds	GNP	C	I	Gov’t Purchases of Goods and Services.	Federal Purchases of Goods and Services
(1)	(9)	(10)	(11)	(2)	(12)	(13)	(14)	(15)
1928			3.33	190.9
1929	$1,405	$1,405	3.60	203.6	139.6	36.9	22.0	3.5
1930	$1,368	$1,404	3.29	183.5	130.4	28.0	24.3	4.0
1931	$1,275	$1,440	3.34	169.3	126.1	19.2	25.4	4.3
1932	$1,120	$1,410	3.68	144.2	114.8	10.9	24.2	4.6
1933	$1,048	$1,349	3.31	141.5	112.8	9.7	23.3	6.0
1934	$1,091	$1,308	3.12	154.3	118.1	12.1	26.6	8.0
1935	$1,137	$1,351	2.79	169.5	125.5	15.6	27.0	7.9
1936	$1,184	$1,403	2.69	193	138.4	20.9	31.8	12.2
1937	$1,258	$1,430	2.74	203.2	143.1	24.5	30.8	11.5
1938	$1,230	$1,418	2.61	192.9	140.2	19.4	33.9	13.3
1939	$1,264	$1,481	2.41	209.4	148.2	23.5	35.2	12.5
1940	$1,290	$1,487	2.26	227.2	155.7	28.1	36.4	15.0
1941	$1,443	$1,547	2.05	263.7	165.4	32.0	56.3	36.2

Table 12-3 Money in the Great Depression
Year (1)	Money Supply (M1) (16)	Money Supply (M2) (17)
1928	26.38	46.42
1929	26.64	46.60
1930	25.76	45.73
1931	24.14	42.69
1932	21.11	36.05
1933	19.91	32.22
1934	21.86	34.36
1935	25.88	39.07
1936	29.55	43.48
1937	30.91	45.68
1938	30.52	45.51
1939	34.15	49.27
1940	39.65	55.2
1941	46.52	62.51
Billions of Dollars, Annual Average

A discussion of some of the series

These series tell us something about what was going on in the Great Depression

Gross Domestic Product (Series 2 and 3)

Gross Domestic Product, GDP, remains the single best measure of how the economy is doing. Our discussion thus begins with data on GDP. Actually, we have data on GNP, Gross National Product, and not GDP. The difference between GDP and GNP does not matter for our understanding of the Great Depression. Table 12-1 gives two series: the inflation-adjusted value of GNP, presented in 1958 prices, as well as actual GNP.

When most people talk about the Great Depression, they cite the 45% decline in nominal GNP. The series that really matters is real GNP. There, the decline was bad enough. From 1929 to 1933, real GNP fell by about 30%. In began to recover in late 1933, and had almost recovered by 1936. As you will note, there was a second decline in 1938, when the economy went into a second decline.

When it happened, President Roosevelt was asked if his policies were not putting the nation into another depression. Roosevelt, a very smooth and glib politician, dismissed the charge by saying that this wasn't a Depression, but a "Recession", thus coining a new term, which we use to this day. W