The Great Depression

Prakhar Maheshwari, West Bengal National University of Juridical Sciences 

Editor’s note: From 1929 to 1933, USA experienced a fall in employment, production of goods and services, stocks, and bank assets. Prices fell dramatically, people went hungry, and the effects of this financial downturn (named the Great Depression) resonated worldwide. This paper offers several explanations for the Great Depression, drawing from mainstream Keynesian, Monetarist and Heterodox theories of the Austrian school of thought. It started with a stock market crash on ‘Black Tuesday’, turning the share trading system from a sure fire way of getting rich to a highway to bankruptcy. Banks had been contributing to their customer’s reserve funds in the money market, and were forced to close when the share trading system plummeted. Widespread panic ensued, leading to extensive fund withdrawal by the public. The long term effects included wage reductions, layoffs, decrease in purchasing habits, and shutting down of several organisations. USA’s GNP fell dramatically. While the Keynesian theory pins fall in demand as the chief cause, the Monetarist theory deemed fall in the cash supply as the trigger.  The Austrian school of thought, meanwhile, blamed the unsustainable credit boom and the help offered to the UK to remain on the Gold standard on a high rate. They concluded that a loss of confidence in the banking system acted as the main proponent of damage. It was a tragic incident, which offered, if nothing else, many lessons to be learnt.


“At a time when going to college has never been more important, it’s never been more expensive, and our nation’s families haven’t been in this kind of financial duress since the great depression. And so what we have is just sort of a miraculous opportunity simply by stopping the subsidy to banks when we already have the risk of loans. We can plow those savings into our students. And we can make college dramatically more affordable, tens of billions of dollars over the next decade.[i] – Arne Duncan, Former Education Administrator, United States of America

Between 1929 and 1933, the amount of products and services created in the United States fell by one-third, the unemployment rate took off to 25 percent of the work drive, stocks lost 80 percent of its esteem and about 7,000 banks fizzled.[ii] At the store, the cost of chicken tumbled from 38 pennies a pound to 12 pennies, the cost of eggs dropped from 50 pennies twelve to a little more than 13 pennies and the cost of gas tumbled from 10 pennies a gallon to short of the price of a nickel. Still, numerous families went hungry, and few could bear to possess an automobile.[iii]

The effects of the Great Depression are numerous and horrifying. In this paper however, we would be discussing the causes which led to the Great Depression. The General theoretical explanations which are the Mainstream Theories like the Keynesian Theory and the Monetarist Theory and Heterodox theories like the Austrian School of thought would be discussed. This paper will provide the views of some important economists on the causes.


“The Great Depression, which endured from 1929 to the early 1940s, was a serious financial downturn brought on by an excessively over-confident, over-augmented securities exchange and a dry spell that struck the South. While trying to end the Great Depression, the U.S. government made an extraordinary and immediate move to help fortify the economy. In spite of this help, the Great Depression finished with the expanded production required for World War II.”[iv]

The Stock Market Crash

The Black Tuesday, as it is popularly known was the official beginning of the Great Depression. On October 29, 1929, the money market crashed, the stock costs plunged with no trust of recuperation, and frenzy struck.  People attempted to offer their stock, however nobody was purchasing. The share trading system, which had given off an impression of being the surest approach to get rich, rapidly turned into the way to bankruptcy.[v]

However, the worst was yet to come. The Stock Market Crash was simply the inception for a decade long misery. [vi] In the decade prior to the Great Depression, US economy went through a boom. Since numerous banks had contributed huge segments of their customers’ reserve funds in money markets, these banks were compelled to close when the share trading system slammed.[vii] Seeing a couple of banks close brought about another big panic over the nation. Anxious about losing their savings and funds, individuals hurried to banks that were still open to withdraw their cash.[viii] As a result there were many banks closing down due to the sudden extensive withdrawal of money. Since there was no possibility to get to a bank’s customers to recuperate any of their investment funds once the bank had shut, the individuals who didn’t achieve the bank in time likewise got bankrupt.[ix]

“Even economic institutions and several industries were affected. The Stock Market crash and the bankruptcy of banks resulted in these companies losing their shares, capital and money. This further led to wage cuts and the companies started to either cut down the number of employees or their working hours. Since money was slowly going out of system, even the users were skeptical of buying unnecessary goods and branded items. They started cutting down their expenses. This absence of customer made other organizations to cut down compensation or lay off some specialists. It’s not possible for organizations to cut down their profits and expertise. Hence these organizations started shutting down due to losses and as a result the workers lost their jobs.[x]

Effects of The Great Depression on Common Man

The depressions that had occurred before saw farmers unaffected and mostly safe from the damaging effects. This was because the farmers were able to provide themselves and their families with food. This time however, the Great Depression was accompanied with large scale famines and dust storms in the Plains.[xi]

The most common, severe and terrible effect of any economic meltdown is unemployment. Great Depression was no different. The number of unemployed people was in millions. In search of work, they set out on roads to various places and hoped to find luck. While a few had cars, the majority of the population had to travel by the rail[xii]


The story of the Great Depression can be told with a litany of bleak statistics:

“By 1933, the country’s GNP had fallen to barely half its 1929 level[xiii]. Industrial production fell by more than half, and construction of new industrial plants fell by more than 90%. Production of automobiles dropped by two-thirds; steel plants operated at 12% of capacity.”[xiv]

When Herbert Hoover was the president, approximately thirteen million American citizens were sacked from their companies. “Of those, 62% found themselves out of work for longer than a year; 44% longer than two years; 24% longer than three years; and 11% longer than four years.[xv] Unemployment shot up to its maximum of 24.1% in 1933, and was always above 14.3% until World War II. (By contrast, the unemployment rate has never surpassed 9.7% since.)[xvi][xvii]

The Wall Street’s Great Crash in the year 1929, caused huge amounts of cash and capital and assets worth billions of dollars to disappear. The rich Americans were affected by the Stock Market Crash which caused their assets to reduce in value by around 80%.[xviii] “Even more troubling to the entire population were rampant bank failures—between 1929 and 1933, two out of every five banks in America collapsed, causing more than $7 billion of their customers’ hard-earned money to evaporate.[xix][xx]


Keynesian Theory

Economists set themselves too easy, too useless a task if in tempestuous seasons they can only tell us that when the storm is long past the ocean is flat again.”[xxi]

– John Maynard Keynes, British economist.

Keynes in his extremely famous and leading book General Theory of Employment, Interest and Money, written in 1936, believes that it was the fall in demand across the country which led to the lowering of the equilibrium than maximum employment. [xxii] This is condition in which the conditions of a depression remain for any period of time.[xxiii]

The justification of the theory of Keynes can be understood like: when the economy is functioning well, there is prosperity all around, people have jobs and there is a lot of consumption of goods. [xxiv] When consumption is high, spending has to be a lot. But when a person spends money, that money is another person’s income. This cycle goes on and at the end, everybody is spending and the cash or money flow is efficient and good. However, let us now take a situation where consumers believe that the market is not performing well and that there isn’t a chance of growing. The consumers start to believe that difficult times are ahead and that he must save and not spend in the market. This results in consumers spending lesser amount of their income. When the cash flow reduces, the person who was earning due to the spending of another has to in turn cut his spending for the simple reason that his income has decreased.[xxv] Hence a vicious cycle is created where a person loses confidence in the market, reduces his spending, which in turn affects the market.[xxvi]

Keynes, in his book The General Theory of Employment, Interest and Money[xxvii], “introduced concepts that were intended to help explain the Great Depression. One argument for a non-interventionist policy during a recession was that if consumption fell due to savings, the savings would cause the rate of interest to fall. According to the classical economists, lower interest rates would lead to increased investment spending and demand would remain constant.”[xxviii]

Keynes however brings out the point that businesses are only concerned with profits. They will put their money only where there is profit. Hence when businesses see that the consumption falls and that the fall may be long-term, they have little hopes for sales in the future. [xxix] Hence businesses always tend to avoid investing money if the production increases in the future even if the interest rates make the capital economical.[xxx] This is the reasoning given by Keynes when he says that investment may even go down in case of lower interest rates. Hence the economy can slow down due to lesser consumption. Keynes suggests that this was the reasoning during the Great Depression where businesses were shutting down and there was no very little hope for growth which is extremely important for any economy to boom.[xxxi]

In short: Workers unemployed – Consumers spend little – Businesses reluctant to produce goods that would probably not be purchased – Businesses cut production – More layoffs.

Monetarist Theory

Milton Friedman and Anna Schwartz, in their book A Monetary History of the United States, 1867–1960[xxxii], laid out their case for an alternate clarification of the Great Depression. “Basically, the Great Depression, in their perspective, was brought on by the fall of the cash supply. Friedman and Schwartz compose: “From the cyclical top in August 1929 to a cyclical trough in March 1933, the supply of cash fell by over a third.”[xxxiii] The result was what Friedman calls the “Extraordinary Contraction” — a time of falling pay, costs, and business brought about by the stifling impacts of a limited cash supply. [xxxiv] Friedman and Schwartz contend that individuals needed to hold more cash than the Federal Reserve was supplying.[xxxv] Thus individuals stored cash by devouring less.[xxxvi] This brought on a withdrawal in vocation and creation since costs were not adaptable enough to quickly fall. [xxxvii] The Fed’s disappointment was in not understanding what was occurring and not making restorative move.”[xxxviii]

“The Monetarist explanation generally assumes that markets work well to coordinate economic activities. Proponents of this view see the problem in money. Because of its crucial role as a medium of exchange, measure of value, and way to hold wealth, disruptions in the stock of money or in its acceptance for goods, services, or resources disrupt market coordination. Most Monetarists believe that the supply of money is too important to be left to the private sector and must become a government monopoly. The problem then becomes the wise or appropriate use of monetary policy; they argue that depressions, when government controls the stock of money, can be traced to failures of monetary policy.”[xxxix]

They argued that moves made by the Federal Reserve System both created and sustained the depression.[xl] The Federal Reserve System brought investment rates up in right on time 1928, which disheartened business acquiring and using and achieved the decrease in creation that started in the exact after summer. Investment rates were brought again up in 1930 and 1931.[xli] Also, when banks started to fizzle in substantial numbers at the end of 1930, the Federal Reserve System did little to aid them.[xlii] The Federal Reserve System had been made by Congress in 1913 for the express reason for averting bank disappointment brought about by a “run” on the bank that happened when numerous clients withdrew their stores as money, constraining the bank to close since all its money was drained.[xliii] In such cases, Federal Reserve Banks were to supply manages an account with enough money to meet the requests of their clients, subsequently forestall bank disappointment.[xliv] By the by, as indicated by Friedman and Schwartz, the Federal Reserve Banks in the 1930s declined to help banks that they thought were unrealistic to reimburse them, driving a lot of people essentially established banks into liquidation.[xlv] At the point when a bank falls flat, its stores can never again be used; accordingly, the measure of cash flowing in the public eye goes down, discouraging interest for products and administrations.[xlvi]

Austrian School of Thought

“Austrian school of Economists such as Hayek and Ludwig Von Mises place much of the blame on an unsustainable credit boom in the 1920s. In particular, they point to the decision to inflate the US economy to try and help the UK remain on the Gold standard at a rate which was too high. They argue after this unsustainable credit boom a recession became inevitable. The Austrian school doesn’t accept the Friedman analysis that falling money supply was the main problem. They argue it was the loss of confidence in the banking system which caused the most damage.”[xlvii]

In 1963, brothers Hayek and Murray Rothbard wrote a book called, respectfully, America’s Great Depression[xlviii]. Their theory is, “the Depression was not cause by the crash in the stock market, and lack of money in 1929, but the market boom in early 1920’s. The instability of the excess money supply in these years was the main reason why the market crashed in 1929; in their opinion.”[xlix]

The individuals who support the Austrian clarification additionally contend that market methodologies work well to arrange investment action.[l] In any case, they keep up that the information issue makes it outlandish for government to administer the economy.[li] The people in the legislature who should really settle on the choices can never have the information that is accessible to the majority of the business members, especially the learning of time, spot, and circumstances accessible to individual business sector transactors.[lii] “Austrians” likewise contend that cash is so critical it would be impossible be hoarded or controlled by government powers on the grounds that they can never have the information important to wield financial arrangement shrewdly, and there is a lot of enticement to let political motivation focus it.[liii] When all is said in done Austrians contend that melancholies happen on the grounds that legislatures disturb business sector forms through such things as awards of syndication, taxes and exchange boundaries, and wage and value controls or through arrangements that modify the load of cash in ways that disco-ordinate budgetary exercises.[liv]


The Great Depression was a very tragic incident for the world and there are many lessons which need to be learnt from it. There can be many arguments about the causes and origins of such an economic calamity but the difficult part is to announce the winner. The blame-game continues and every other theorist and economist and school of thought comes up with a new theory and a new cause. The Keynesians came up with the demand going down while Monetarists blamed the money supply. Hence it might be useless to even talk about who is right. For example, it’s very difficult to determine who is responsible for a coffee stain – the person who spilt the coffee, the person who bumped, the person who could figure out that a clash was going to happen, the cloth for being there, etc.

Hence there is no way to let us know what right is. On the other hand, all the theories are right in their place and all of them make sense. It can be concluded that not one but probably all reasons contributed somewhat to this great depression.

Edited by Neerja Gurnani

[i] Arne Duncan, ‘Brainy Quotes’ ( ) <> accessed 26 June 14.

[ii] David C. Wheelock, ‘The Great Depression: An Overview’ ( ) <> accessed 26 June 14.

[iii] Ibid.

[iv] Jennifer Rosenberg, ‘The Great Depression’ ( ) <> accessed 27 June 14.

[v] Ibid.

[vi] Ibid.

[vii] Ibid.

[viii] Ibid.

[ix] Ibid.

[x] Jennifer Rosenberg, ‘The Great Depression’ ( ) <> accessed 27 June 14.

[xi] Ibid.

[xii] Ibid.

[xiii] Susan Carter, Scott Sigmund Gartner, Michael Haines, Alan Olmsted, Richard Sutch and Gavin Wright, ‘Historical Statistics of the United States: Millennial Edition’ ( Cambridge: Cambridge University Press, 2006) <> accessed 27 June 14.

[xiv] David Siminoff and Deb Tennen, ‘The Great Depression’ ( 2009) <> accessed 27 June 14.

[xv] David M. Kennedy, ‘Freedom From Fear: The American People in Depression and War, 1929 – 1945’ [1999] Oxford 163.

[xvi] N8.

[xvii] N9.

[xviii] David Siminoff and Deb Tennen, ‘The Great Depression’ ( 2009) <> accessed 27 June 14.

[xix] David M. Kennedy, ‘Freedom From Fear: The American People in Depression and War, 1929 – 1945’ [1999] Oxford 163.

[xx] Ibid.

[xxi] Ibid.

[xxii] Ibid.

[xxiii] Ibid.

[xxiv] Steve Kangas, ‘A REVIEW OF KEYNESIAN THEORY’ ( 1997) <> accessed 27 June 14.

[xxv] Ibid

[xxvi] Ibid

[xxvii] J.M. Keynes, General Theory Of Employment , Interest And Money (1st, Atlantic Publishers & Dist, New Delhi 2008).

[xxviii] Ibid.

[xxix] J.M. Keynes, General Theory Of Employment, Interest And Money (1st, Atlantic Publishers & Dist, New Delhi 2008).

[xxx] Ibid.

[xxxi] Ibid.

[xxxii] M. Friedman, A.J. Schwartz, A Monetary History of the United States, 1867–1960 (1st, Princeton University Press, Princeton 2008).

[xxxiii] M. Friedman, A.J. Schwartz, A Monetary History of the United States, 1867–1960 (1st, Princeton University Press, Princeton 2008).

[xxxiv] Paul Krugman, “Who Was Milton Friedman?” (New York Review of Book, 2007) 32, 32.

[xxxv] Ibid.

[xxxvi] Ibid.

[xxxvii] Paul Krugman, “Who Was Milton Friedman?” (New York Review of Book, 2007) 32, 32.

[xxxviii] Ibid.

[xxxix] G. Smiley, ‘WHAT CAUSED THE GREAT DEPRESSION?’, The American Economy in the 20th Century (1st, College Division, South-Western Publishing Company, USA 1993).

[xl] Jennifer Dorman, ‘What Caused the Great Depression – Three Theories‘ ( 2007) <> accessed 27 June 14.

[xli] Ibid.

[xlii] Ibid.

[xliii] Ibid.

[xliv] Ibid.

[xlv] Ibid.

[xlvi] Ibid.

[xlvii] Tejvan Pettinger, ‘Causes of Great Depression’ ( 2012) <> accessed 27 June 14.

[xlviii] M.N. Rothbard, America’s Great Depression (1st, Ludwig von Mises Institute, Auburn 1963).

[xlix] Ibid.

[l] G. Smiley, ‘WHAT CAUSED THE GREAT DEPRESSION?’, The American Economy in the 20th Century (1st, College Division, South-Western Publishing Company, USA 1993).

[li] Ibid.

[lii] Ibid.

[liii] Ibid.

[liv] G. Smiley, ‘WHAT CAUSED THE GREAT DEPRESSION?’, The American Economy in the 20th Century (1st, College Division, South-Western Publishing Company, USA 1993).

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