MACROECONOMICS ASSIGNMENT

TOPIC:
“GREAT DEPRESSION”

Submitted by:
Bhavanna Kappala 18020841008
Kriti Sahore 18020841017
Manisha Aachra 18020841018
Sonal Bhalla 18020841035
Q. Identify the major causes of the
Great Depression
Ans) The most famous cause of the Great
Depression was the stock market crash of
October of 1929. The stock market had
crashed many times in its history. In fact, the
greatest one-day crash occurred in October
of 1987. That day 16 million shares changed hands and the industrial index fell
by 43 points and no relief was in sight.
The October losses alone totalled $16 billion.

Though this crash the most graphic event during the early days, it was not the
fundamental cause of the Depression.
The two American industries most responsible for the prosperity of the 1920s,
Construction & Automobiles had begun to display signs of weakness.
 Construction: Construction had passed its peak and was declining
rapidly.
 Automobiles: The sale of new automobiles was no longer increasing at a
rate equal to that of their production. The traditional indicators of the
economy’s well-being: freight car loading, industrial production and
wholesale prices were all declining.
However, the general agreement was that many factors are involved, the most
important of which are of follows: -
 First, the decline in the value of stocks made many people poorer (the
wealth effect). Throughout the decade, the proportion of national income
going to rural Americans, industrial workers and other potential
consumers was too small to create a market for the goods produced by the
American business. Once capital investments had created sufficient plant
space, factories began to produce more goods than consumers could
afford to purchase.
 Second, and perhaps more importantly, the decline in stock prices
affected people’s expectations, making them much more pessimistic
about the future.
When consumers are pessimistic, they are more likely to save their
income rather than spend it. And when businesses become pessimistic,
they are less likely to buy new capital goods.
 Aggregate demand falls as consumption and business investment
spending both decrease. (Consumption fell from $79 billion in 1929 to
$64.6 billion in 1933.)

 Third, the decline in the stock prices of 1929 also caused a decline in
the money supply. Initially, banks made loans to people who would use
the proceeds to buy stocks. In the 1930s, people would know that the
banks were getting into trouble as they came to own stocks that were
increasingly worthless. People might then want their money in cash.
Since the banks did not have the funds to meet all of these withdrawals,
many had to close. If a bank closed, the money in it ceased to exist. It was
simply gone. As a result, the money supply fell.
The decline in the money supply was a major cause of the Great
Depression.

Year Money Supply (M-1)

1929 $26.4 Billion
1930 25.4
1931 23.6
1932 20.6
1933 19.4

 The Federal Reserve System proposed a disproportionate tax system

which had worked to increase, not decrease the disparity in incomes
between the rich and individuals of modest means. High tariffs had
restricted foreign trade which in turn, lead to the Great Depression.
 Also, throughout the contraction, the system had ample powers to cut
short the tragic process of monetary deflation and banking collapse. Had
they used these powers effectively in late 1930 or mid-1931, the
successive liquidity crises could have been pretended and the stock
market kept from declining.
Such action would have eased the severity of the contraction and would
have brought it to an end much earlier.
Thus, these are some of the factors that caused the Great Depression of 1929.
Q. Impacts of the Great Depression
 Financial Institutions were strained, and
finally broken, by the economic
catastrophe. A wave of bank failures hit
the mid-west and border states in
October 1930, and one large New York
bank, the private bank of United States,
collapsed in December, 1930.
 In the spring of 1931, a second round of failures swept the banking
industry, and an even more serious run on the banks occurred in early
1933.
 The resulting loss of faith in banks as financial intermediaries was
catastrophic. While the total amount of currency and commercial bank
deposits with the Federal Reserve, actually grew in these year’s
M2(which combines outstanding currency with checking and saving
deposits) fell by one-third between 1929 and 1932.
 Also, M1(currency held by the public and adjusted demand deposits held
in commercial banks) for the same period, fell from 26.4 to 20.6. In the
times of panic, there was huge drawings from the savings account. Banks
had to borrow and sell assets to meet this heavy withdrawal.
 Also, the financial turmoil gave rise to a frozen lending system, less
liquidity which resulted in fall in Money Supply by one third. This
majorly led to deflation and fall in Real GDP.
 More than one-fifth of the commercial banks in the US, holding nearly
one-tenth of volume of deposits, at the beginning of the contraction
suspended operations because of financial difficulties.
 As mentioned in the Inaugural Address of Franklin D. Roosevelt (March
4, 1933), he denoted the impact of The Great Depression as “the dark
realities of the moment”.
 Taxes rose tremendously
 The ability to pay fell drastically
 Government of all kinds were faced by serious curtailment of income
 The means of exchange were frozen in the currents of trade
 The withered leaves of industrial enterprise were scattered everywhere in
the economy
 Farmers found no market for their produce
 The savings of many years in thousands of families were gone.
 Most importantly, a host of unemployed citizens faced the grim, problem
of existence, and an equally great number of toils with little return.
Q3) Measures taken to overcome Great depression
Ans) The government’s response to the Great Depression, beginning in 1933,
marked a major change in the role of the government in the economy.

For the first time, the government took what is called an “activist role”,
attempting to use its powers to generate better economic times.
While we cannot go into great detail here about the reforms, called the New
Deal, we can highlight several important points.
 First, the government at first saw the falling prices and the falling
wages as the cause of the problem, rather than being a result of the
problem. As a result, the National Industrial Recovery Act (later declared
unconstitutional) was passed to help companies create price floors on
their products. The
Wagner Act was passed, aiding the ability of workers to form labour
unions. With stronger unions, it was believed that wages would not
decline. And the Agricultural Adjustment Act was passed, creating the
price floors for agricultural products

 Second, the government created a series of programs designed to put

people to work. For example, the Works Progress Administration and the
Public Works Administration created employment opportunities building
sewers, roads, bridges, water systems, Post Offices, and so forth.

 Third, the government took action to make the banks safer for
depositors. The main such action was the creation of the Federal Deposit
Insurance Corporation (FDIC). The FDIC insures bank accounts against
bank failures.

 Fourth, there was the creation of what has been called the “Welfare
State”. The best known of these programs was the creation of Social
Security in 1935.
Additional Welfare State programs that were created in this period
include Unemployment Compensation and Aid to Families with
Dependent Children (AFDC).

 Finally, since the government was now going to actively attempt to

influence economic results, there needed to be an ability to control the
American money supply. As a result, the connection to gold was severed
in 1934 as the United States went off the Gold Standard.
  A number of special monetary institutions were established in the course
of the contraction, notably the reconstruction finance corporation and the
federal home loan banks, and the power of the Federal Reserve System
were substantially modified.

 The contraction was shortly followed by the enactment of the Federal

insurance of banks deposits and by further important modifications in the
powers of the Federal Reserve System.

 It was followed also by a brief period of suspension of Gold payments

and then by a drastic modification of the Gold Standard which reduced it
to a shadow of its former self.

The Great Depression of the 1930s was an economic catastrophe unlike any that
had been seen in the United States before.