2 • Who Was Roaring in the Twenties?—Origins of the Great Depression

(photo credit 2.1)

Far less has been written about the origins of the Depression than about its results. Some notion of the relative lack of attention to the Depression’s causes can be seen in statements made by two of those scholars who have tackled the subject. “As a year,” John Kenneth Galbraith wrote in the early fifties, “1929 has always been peculiarly the property of economists.” Two decades later Peter Temin asserted that “economists have—with a few prominent exceptions—left the study of the Depression to others.” If the origins of the Depression are the special province of economists and they have left its study to others, it is apparent that the topic has not received its due.

Not that there is any dearth of explanations of the Depression’s causes. The question of what brought on this worst economic catastrophe in our history is, naturally, one that cries for an answer. Being one whose economic philosophy leans toward emphasis on demand, I am pleased to point out that the strong demand for an explanation of the Depression’s causes has called forth an abundant supply. There is, it should be clear, no contradiction between the existence of a bumper crop of theories and a relative paucity of careful study of the subject. “When people are least sure,” as Galbraith has noted, “they are often most dogmatic.” In a contemporary assessment, W. W. Kiplinger said: “The amazing lesson from this depression is that no one knows much about the real causes of ANYTHING.”

More than a half century after the fact, there is no consensus on what caused the Great Depression. One of the principal reasons is that explanations of that increasingly ancient calamity are generally tied tightly to one’s socioeconomic philosphy and, hence, to current political questions. Although there are many variations and nuances, “liberal” interpretations differ from “conservative” and “radical” explanations.

The debate over what produced the Great Depression is, however, not simply a convenient political weapon. It is far more serious. Our conclusions concerning the causes of the last depression greatly influence our attempts to prevent a new one and our economic policies intended to bring about sustained prosperity. The policies of the Reagan administration, for instance, are based at least in part on the “supply-side” view of the Depression’s causes. In the liberal or Keynesian view, some of these same policies are precisely the ones that brought about the Depression.

Twice in recent years The Wall Street Journal has polled leading economists on the prospects of another Great Depression. The first such survey, conducted in connection with the fiftieth anniversary of the Panic of 1929, found a virtually unanimous opinion that nothing like a repeat of the Depression of the thirties was likely to happen “anytime soon.” In the spring of 1982 that opinion held, but not nearly as firmly as it had less than three years earlier. Galbraith demonstrated the importance of interpretations of the causes of the Depression when he said: “Reagan is putting up a notable effort to have another Great Depression.” Galbraith still doubted in early 1982 that the President would succeed in that effort. Still, it is clear that the growing fear of a new depression—some insisted the nation was already in one by the end of 1982—has made analysis of the origins of the last one a subject of intense interest.

Interpretations of the causes of the greatest economic collapse in the history of the industrial world divide into categories based on various criteria. One distinction is between those who seek to lay the blame on, or at least attach primary importance to, a single cause, and those who maintain that no one factor was responsible. A second split occurs between those who see the major problems originating within the United States and those who find the underlying causes abroad. A third basis for dividing interpretations of the Depression concerns fundamental economic philosophy. Those who now call themselves “supply-siders” see very different causes of the collapse from those we might broadly identify as “demand-siders.” Perhaps a fourth division should be added—most observers believe that human errors of some sort caused the Depression and so it was avoidable. But some insist that it was inevitable, the result of the operation of inexorable business cycles. Although each of these divisions is important, they cut across each other. That is, someone who insists on a single primary cause might locate that cause at home or abroad, and might favor either a supply- or a demand-side explanation.

I offer a particular interpretation in the context of a narrative of the events leading up to the collapse. A few other theories demand comment because they are the most influential.

Among the simplest and, in some respects, most beguiling explanations of the Depression is the “law of compensation.” In biblical terms, the seven fat years of “Coolidge Prosperity” had to be followed—and paid for—by seven lean years. (Unfortunately, the lean years turned out to be seven-cumeleven.) Although this notion that bad times must alternate with good, or the related concept that the economy needs to “rest” periodically, has the attraction of obviating the need for any real explanation, it is easily enough disposed of. We have enjoyed much longer periods of relative prosperity since World War II, and the idea that the economy needed to rest is sheer nonsense. Unemployed workers were quickly more rested than they wanted to be, and most factories and machinery of the nation were in good condition, not in need of repair. A deeper explanation must be sought.

Milton Friedman and Anna Schwartz have provided one possibility. As part of their larger monetarist argument that prosperity is dependent upon the size of the money supply, they contend that the Great Depression was triggered by a “mild decline in the money stock from 1929 to 1930.” The collapse, they say, broadened and deepened when “a wave of bank failures beginning in 1930” further contracted the money supply. The problem, they insist, was not that lack of confidence inhibited businessmen from borrowing, but that insufficient money was available. It was not that the horse would not drink, but that there were not enough watering holes to which he could be led. This monetarist explanation cannot be ignored. It can be refuted, though. Charles Kindleberger, in his overview of The World in Depression, rejected the unicausal monetarist interpretation. Peter Temin went further and demonstrated that the facts plainly do not support the contention of a shrinking money supply from 1929 to 1931. Interest rates declined and so did prices, the latter more sharply than the reduction of the money supply, hence the real money supply was actually growing slightly.

Herbert Hoover, who had some personal interest in the outcome of the analysis, put forward the classic statement of the school that places responsibility in Europe. In his Memoirs, Hoover flatly stated that it “was not the fact” that “the American stock-market slump pulled down the world.” Instead, Hoover found the original source of the Depression in World War I. The Wall Street Crash, the former President admitted, had caused “a normal recession.” But the “great center of the storm was Europe.” Hoover specifically pointed his finger at the European financial collapse of 1931 as the culprit that turned the “recession” into the Great Depression. Although I do not agree with this interpretation, it should not be dismissed out of hand. The Depression was, after all, a worldwide phenomenon. The causes Hoover cited may have played a role, even if they also served the purpose of absolving him.

Others, such as economist Paul Samuelson, have found the origins of the Depression in “a series of historical accidents.” A species of this genus, sired by Joseph Schumpeter, holds that the Great Depression was the consequence of the unfortunate coincidence of several different types of economic cycles reaching their low points simultaneously. These cycles include the fifty-year “super” business wave detected in the 1920s by Russian economist Nikolai Kondratiev, as well as a “normal” nine-year business cycle and a short-range inventory cycle. All this may be statistically correct, but it is hardly satisfying to the historical appetite. If there were “accidents” we need to explore them carefully; if there is anything to the idea of economic cycles, we must nonetheless examine the particulars of what happened in 1929 and subsequent years.

Undoubtedly the most prevalent view of the causes of the Depression has been that which focuses upon a decline in spending—that is, in consumption, investment, or both. John Maynard Keynes gave this interpretation its definitive expression. With various modifications it has been endorsed by Alvin Hansen, Thomas Wilson, J. K. Galbraith, and a host of others. With further modifications, this interpretation forms the foundation for my analysis.

One thing most of the theories have in common is that they are based more on impressionistic evidence than hard data. They assume their conclusions and then explain the Depression on the basis of their assumptions. Only in the last decade or so have attempts been made to approach the problem of the Depression’s origins through more scientific methods. Just as more careful statistical analyses of the Depression have begun to emerge, however, there has been a resurgence in the popularity of the original classical economic view of the nature of the Depression. This is odd, since the latest versions of the old free-market viewpoint are strictly unscientific, seat-of-the-pants observations. Because of the influence this “supply-side” interpretation has had upon American economic policy in the 1980s, it deserves examination in some detail.1

   American industrialization in the late nineteenth century was accomplished with little government planning. The rapid development of the United States was taken as the ultimate proof of the political economy of Adam Smith. Although much of what had been accomplished in the nation had been the result of cooperative efforts, by the 1920s reverence for the freely operating marketplace was high. America’s plan for prosperity was planlessness—the Adam Smith notion that individual greed and striving led to collective harmony; the “invisible hand” guided all free-market activity.

Most Americans in positions of authority, whether in business or government, were devout believers in old-time economics when the Depression began. Their faith was so strong that it would not have been surprising to hear them joining in a hymn that went something like:

Give me that old-time economics,

Give me that old-time economics,

It was good enough for Bill McKinley,

And that’s good enough for me.

Such men—few of them were of any other gender—literally took their economics as a matter of faith. They worshiped the marketplace as a god who moved in mysterious ways. He was a generally benevolent god, but he could also be a god of vengeance. Just as such “acts of God” as violent weather could not be controlled, neither could the economic storms that the marketplace sent our way. Only fools would try to bring the economy under human control and prevent such storms.

“So long as business activity goes on,” Albert Wiggin, chairman of the Chase National Bank, told a Senate committee in 1931, “we are bound to have conditions of crisis once in so often.” The committee chairman, Robert M. La Follette, Jr., then asked Wiggin if he thought “the capacity for human suffering is unlimited.” “I think so,” the banker replied. (It later came out, we might mention in passing, that during the fall of 1929, Wiggin used more than $6 million of Chase funds to finance an operation in which he sold short some 42,506 shares of stock in his own bank. In the process, while so many were being wiped out by the Crash, Wiggin netted the not inconsiderable profit of $4,008,538 from the decline in the value of Chase stock. The limits of his own capacity for suffering were not severely tested.)

Wiggin’s view of the inevitable nature of depressions contrasted sharply with the glowing New Era forecasts of a few years before. Yet most “conservative” businessmen espoused such interpretations of the collapse. It was a period of chastisement. Americans had been extravagant in the twenties. “Now the piper would be paid his due.” It might even be a blessing, a time of “beneficial readjustment.” Andrew Mellon told Hoover that “a panic was not altogether a bad thing.” “It will purge the rottenness out of the system,” the Treasury secretary declared. “People will work harder, live a more moral life. Values will be adjusted, and enterprising people will pick up the wrecks from less competent people.” Still, as Gilbert Seldes pointed out, “no one ever proposed to continue the depression in order to continue its benefits.”

It is worth noting that most of those who were prepared to face the Depression with equanimity or saw it as a potentially healthy development were men of means. Wiggin and Mellon—like their counterparts in more recent times—were in a position to advocate liquidation, to suggest that it was time to bite the bullet. One assumes that they personally found more palatable fare. Those who, according to the conservative view, paid the price for the past extravagance were too often those who were entirely innocent of those excesses.

The initial reaction to the Depression among many was to “sit and wait with folded hands.” “The great advantage of allowing nature to take her course,” economics writer Stuart Chase noted in 1932, “is that it obviates thought.” That may have been sufficient to recommend the course of inaction to comfortable folk, but as the Depression worsened, the do-nothing approach came to be totally discredited. Not only did the collapse expose men who worshiped the god of the marketplace to ridicule, but it also severely undermined classical economics. Since the discipline had not predicted the Crash, could not explain the Depression, and offered no way out other than waiting till it was over, most people began to look elsewhere for their economic theories. Eric Hobsbawm’s characterization of the economic illiteracy of British leaders during the Depression, while perhaps a bit harsh, can be applied as well to their American counterparts: “Never did a ship founder with a captain and a crew more ignorant of the reasons for its misfortune or more impotent to do anything about it.” The Depression’s devastating impact on classical economics was so great that old-time economics remained in disfavor for most of the half century after 1929. There were always adherents of the old laissez-faire doctrine, and sometimes they even managed to make one of their sect a Republican presidential nominee. But until the 1970s there was something slightly disreputable, in an intellectual as well as a social context, about being an out-and-out laissez-faire advocate. If the adherents of this creed were ever to emerge from their catacombs and win more votes than Barry Goldwater did in 1964, they would have to find some way to explain the Depression on their own terms. The need was admitted by one of those who took up the quest. In attempting to write a book based on a revival of classical political economy, Jude Wanniski of The Wall Street Journal said, “it was necessary that I somehow demonstrate that the Crash of 1929 was consistent with classical theory.”

When one sets out looking for evidence with which to support a preconceived theory, it is not surprising if he finds it. Nor is it particularly surprising that the evidence seems rather strained to the nonbeliever. What may be somewhat more astonishing, though, is the vehemence with which such a proselytizer is willing to push his scanty grounds for belief. One might assume that a writer in the 1970s who refers to Mussolini as “a conservative” has a gift for understatement. Such, alas, is not the case with Wanniski when it comes to advancing his unicausal explanation of the Depression or his faith in the Laffer Curve. More revealing of Wanniski’s attitude might be his reference to children as “human capital.”

To begin at the beginning, the reborn “supply-side” advocates of today are basing their beliefs on Say’s Law. Jean Baptiste Say, an early nineteenth-century popularizer of classical economics, asserted that “a product created offers, from that instant, a market for other commodities to the full total of its value.” More recently, supply-side guru George Gilder has had his children going around the house reciting: “Supply creates its own demand.” On one level, these assertions are true enough. But in the way they are meant by modern “supply-siders” they amount to nonsense. If the assertion means that whenever something is produced that someone else is willing and able to buy, purchasing power equivalent to the price the second party will pay is created, of course this is true. Indeed, it is axiomatic. It could be restated: When something of value is created, value is created. To go beyond this, however, and suggest that “if we can only produce enough, consumption will take care of itself,” is to go too far. It implies that no matter what we produce, in no matter what quantity, there will be a demand for it (at some price). This is absurd. The demand for many products is inelastic—and for some it does not exist. The answer supply-siders would give to this is that they are speaking of the economy as a whole and they mean that once something is produced the producer has gained the wherewithal to buy something else, so the whole economy ought to stay in balance. Unfortunately, this is not so either. The demand side, the question of distribution, cannot be ignored. This, in fact, was a large part of the problem in the late twenties. Too much of the value of what was being produced (and, hence, the effective demand) was going into too few pockets. This did not create a sufficient demand for the items the mass production economy was turning out.

To argue that supply creates its own demand is also to remove the role of advertising in creating demand. Advertising often creates its own demand, but supply does not. If we confine ourselves to demand in the economic sense—effective demand (desire backed by ability to buy)—it would be closer to the truth (although not entirely accurate) to say that demand creates its own supply.

But we get ahead of ourselves. The supply-side interpretation of the Depression must be addressed before we get into our own. Jude Wanniski and his supply-side coreligionists worship, like the rich men of the 1920s, at the altar of laissez faire. In his book The Way the World Works, Wanniski sees the free market as the ultimate in democracy. Through its workings, the “global electorate” exercises its franchise. The parliament of this global electorate, it appears, is the New York Stock Exchange, which doubles as its Kaaba. This may strike some as an unusual place to associate with democracy, but one must understand that votes are apportioned among the global electorate on a basis slightly different from the famous Baker v. Carr ruling. In the marketplace electorate, votes are distributed by the formula of one dollar, one vote, or perhaps, $100,000, one vote.

The stock market, Wanniski insists, is a “great, sensitive brain” governed by market forces in such a way that stocks can never be “overpriced” or “under-priced,” but “at any moment, the market is fully priced.” Such a view is not a scientific observation, but a statement of dogma. It sounds rather like Rousseau’s mystical concept of the General Will: “The Sovereign, merely by virtue of what it is, is always what it should be.”

Starting with revealed truth, Wanniski faced the task of finding a way to make the Depression conform. Since the market is supposed to work properly if left alone, the Crash meant, ipso facto, that there had been government interference. In Arthur Laffer’s terminology, government interference takes a “wedge”—a slice of the pie of private transactions. Wanniski’s job was to show that the Crash had been caused by the entrance of a wider “wedge” into the free economy. Wedges are usually taxes and regulations. Thanks to Andrew Mellon, Calvin Coolidge, and friends, these were not expanding in the late twenties. Hence the persistent problem for classical economists in explaining the Depression on their terms.

In 1977, Wanniski found the long-sought deus ex machina: the Hawley-Smoot tariff of June 1930. It had been there all along, of course, but was not on stage at the proper time. Practically everyone had agreed that the tariff increase was a terrible mistake and had made the worldwide Depression worse. It seemed impossible, though, to blame the crash of October 1929 on a law that was not enacted until eight months later. But Wanniski found a coincidence between some of the big drops in the stock market in 1929 and key Senate votes indicating that low tariff forces would be defeated.

One can readily imagine the thrill that Wanniski must have felt at finding the Grail. It is understandable that he allowed himself to be carried away with his enthusiasm. Yet on more sober examination his discovery, while interesting, seems less meaningful. If, as Wanniski insists, the market is “a great sensitive brain” that is guided by the perceptions—or “votes”—of masses of investors, it is hard to see how it could have responded so dramatically to information that went almost unnoticed at the time. As Wanniski himself says, “not a word appeared in the press making note of the remarkable coincidence” of a key tariff vote and the big drop of stock prices in the last hour of trading on October 23. He makes no mention of any words in the press about the similar remarkable coincidences of other days in the fall of 1929. To say that the market can react spectacularly to information the importance of which is not widely recognized is to deny Wanniski’s own view of the market. In any event, many investors believed that higher tariffs would help rather than hurt business.

None of this is to say that the Hawley-Smoot tariff, to which we shall have occasion to return, was insignificant, or anything other than a disaster. But it cannot let classical economics off the hook. The tariff, it may be said categorically, was not the sole, or even the principal, cause of the Crash or the Great Depression. Wanniski must be given credit for the degree of his faith. His panacea of low taxes and low (or no) tariffs, he asserts, would have either prevented Mussolini and Hitler from coming to power or made them nice fellows as rulers. But for bad tax and tariff policies, Wanniski tells us, there would have been no Second World War. He even implies that Hitler became an expansionist only because he had a bad (high) tax policy. It would be nice if the world were so simple.2

   Tariff policies were not at the root of the Great Depression, but international forces did play a role in causing the collapse. The trouble began with the World War and the drastic changes it made in the relative economic positions of the world’s leading nations. Throughout the nineteenth century, Great Britain had been the world’s dominant economic power. By the beginning of the present century, that position was being severely challenged by both the United States and Germany. The war temporarily eliminated Germany as a competitor, but it also weakened the British position and strengthened that of the Americans. Most significantly, the war converted the United States from a net debtor to a creditor nation. This change obligated the country to take more responsibility for the smooth operation of the international economy and to make adjustments in its other policies, including exports and tariffs.

As the leader of the world economy in the century prior to 1914, Great Britain had used its lending policies as a means of stabilizing the international situation. It had also clung to free trade for more than a half century. Doing so caused short-term disadvantages for some British manufacturers during economic slumps, but it helped prevent the sort of self-defeating tariff war that worsened the world depression in the early 1930s. In the 1920s the British were no longer able to act as the stabilizer of the world economy. That position should have gone to the United States, but American leaders did not want it, or rather, they wanted only part of it. Much of the historical debate over whether the United States was isolationist in the 1920s misses the point. The nation wanted all the advantages (and profits) of participation in world affairs, while minimizing the responsibilities that went with world leadership. American leaders sought to make their country an isolated participant in world affairs. They wanted to be in the world, but not of it. It did not work.

The World War also made for instability in the international economy because of the reparations and war debts problems. The Dawes Plan of 1924, the first of several international attempts to ease the reparations-debts problem, set in motion an arrangement whereby Americans lent money to Germany to pay reparations to France and others, who in turn made debt payments to the United States. Although American financiers had already made some large foreign loans before this, the Dawes loan started American foreign lending on a massive scale. Americans in the mid-twenties were new to the role of international financier and approached the market like “a sales department with a new article.” The volume of American foreign lending soared to $900 million in 1924 and $1.25 billion in both 1927 and 1928. This large-scale lending accomplished several things: it provided an outlet for the excess incomes of wealthy Americans, it allowed reparations and war debts to be paid for a time, it offset tariff barriers, and it helped American producers secure overseas markets. This last function was similar to that of domestic credit; it helped an unbalanced economy avoid collapse for a few years, but ultimately made the Crash worse when it came.

American lending abroad slowed in 1928 and 1929, as the opportunities for money-making on Wall Street became more attractive than the interest rates of foreign loans. British lending in the 1800s had generally been countercyclical. When times were good, investment opportunities at home attracted British capital away from international loans, but during slumps the British expanded foreign lending. This policy had had an obvious stabilizing influence. American foreign lending in the twenties and early thirties, though, followed an opposite pattern: lending expanded during the early part of the boom and contracted drastically with the Depression.

By the late twenties, each country was seeking to advance its own interests, even if in the process it worsened the positions of others. In a delicate, interdependent world economy, these “beggar thy neighbor” tactics were suicidal. Nowhere should this have been more clear than in the United States. This country was trying nothing less in the 1920s than to be the world’s banker, food producer, and manufacturer, but to buy as little as possible from the world in return. This attempt to eat the world and have it, too, was the epitome of a self-defeating policy. This is one of the two points on which the popular blaming of Herbert Hoover for the Depression has some validity. As secretary of Commerce, Hoover was a dynamo in promoting both foreign sales and foreign investment, yet he consistently favored high tariffs for the United States. Such attempts to assure a very “favorable” balance of trade cannot succeed for long. It is impossible, in fact, for a country to maintain a “favorable” balance of trade over a prolonged period. What all nations should strive for is a balance that is neither favorable nor unfavorable. If the United States would not buy from other countries, there was no way for others to buy from Americans, or to meet interest payments on American loans.

The weakness of the international economy and contradictory American foreign economic policy unquestionably contributed to the coming of the Great Depression. If the origins of the calamity are to be kept in perspective, though, it must be realized that while the world collapse was cutting $1.5 billion from American exports between 1929 and 1933, domestic contraction was slicing $12 billion from the American gross national product. Statistically, internal problems appear to have had an effect on the American Depression some eight times greater than did foreign ones. This is not to underestimate the significance of the nearly 10 percent of American GNP that went into exports in 1929. That $5 billion was of great importance, and the loss of a large portion of it undoubtedly affected domestic parts of the economy. But if we are to find the most telling causes of the Depression, we must look within the borders of the United States.3

   In some respects, the agricultural problems of the 1920s were closely tied to the international difficulties just recounted. The fundamental problem facing the American farmer in the twenties was chronic overproduction of agricultural commodities around the world. (“Overproduction” in the economic sense, of course, does not necessarily mean that there was more food and fiber than the world’s ill-fed and ill-clad multitudes could use. It refers only to more than there was a paying market for.) For some reason this excess agricultural supply did not create its own demand. This is especially extraordinary from the perspective of classical economics, because farm products were in as close to a genuine free market as existed. This was a big part of the farmers’ problem. They still sold on a largely unregulated world market and had no control over the prices they received, but the companies from which they bought and the banks from which they borrowed were often in a position to dictate terms.

The more immediate cause of the farmers’ troubles in the 1920s was World War I. Here is Herbert Hoover’s other small contribution to the origins of the Depression. During the war the American government, particularly in the person of Food Administrator Hoover, encouraged a vast increase in agricultural production. This was fine during the war, when European production was way down and demand was very high. But after the war the success of the wartime stimulation of increased production came back to haunt the nation’s farmers. Added to this were increased mechanization and more specialization and intensive methods. Another little-noted but quite significant cause of overproduction of farm products in the twenties was the coming of the automobile and tractor on a large scale. Some 25 million acres previously used to grow feed for horses and mules was turned to other agricultural uses as the demand for beasts of burden declined. The result of all these factors was, as I noted earlier, that farmers struggled with a depression throughout the prosperity decade.

Although the farmer was declining in American society in the 1920s, his continuing importance to the economy must be recognized. In 1929 fully one-quarter of all employment in the United States was in farming. A solidly based prosperity could not leave out this segment of the population. If the whole economy was dependent upon agriculture, agriculture was particularly dependent upon the export market. More than one-quarter of American farm income in 1929 came from exports. The economy as a whole could be harmed by a sharp reduction in exports, but farming could be devastated by such an export drop. That is precisely what happened in 1929 and subsequent years.

The weak position of American farmers was exacerbated by their heavy burden of debt. The expansion of the war years had helped to double farm mortgages from $3.3 billion to $6.7 billion between 1910 and 1920. In the first five years of the twenties, another $2.7 billion was added to the total. When the debt burden is added to chronic overproduction and the perennial farmers’ problems, such as uncertain weather, it is clear that the structural weaknesses in this quarter of the American economy were sufficiently grave as to pose a threat to the whole economy.

Until the middle of 1928 the abundance of credit, both at home for the farmers and abroad for those who bought their products, helped to keep the decidedly leaky craft that was American agriculture afloat. Beginning in 1928, though, the already overloaded ship had new weights dumped upon it. It began to sink. As American international lending declined, the ability of consuming countries to pay for imports of American foodstuffs dropped sharply. At the same time, the world market was becoming further glutted. The Soviet Union decided to begin large exports of wheat in 1928. The full impact of this decision on the world market was not felt until 1930, but it did not help the worldwide surplus.

Agriculture in the 1920s was more than a blemish on the face of Coolidge Prosperity; it was a vital segment of the economy that was falling further behind and increasingly unable to keep its consumption up to the level the rest of the economy required of it. Plainly this was not the trigger of the Depression, but it was an unsound feature of the fundamental business of the country.4

   The structure of American business and industry itself—the crown jewel of Coolidge Prosperity—was another contributing factor in bringing on the collapse of that prosperity. The idealized American economy of small, freely competing units upon which much of the nation’s economic thought and social philosophy was based was largely a thing of the past by the 1920s. In the preface to the classic study of corporate concentration in the twenties that he undertook with Gardiner C. Means, The Modern Corporation and Private Property, Adolf A. Berle put his finger on the crux of the phenomenon: “American industrial property, through the corporate device, was being thrown into a collective hopper wherein the individual owner was steadily being lost in the creation of a series of huge industrial oligarchies.” By the end of the twenties, roughly two-thirds of the industrial wealth of the United States had passed “from individual ownership to ownership by the large, publicly financed corporations,” Berle said. It was enough to make a red-blooded American uneasy, even in the midst of unprecedented prosperity.

In 1929, 200 corporations controlled nearly half of all American industry. The $81 billion in assets held by these corporations represented 49 percent of all corporate wealth in the nation and 22 percent of all national wealth. Moreover, the trend was rapidly in the direction of even more concentration. The estimates for three years earlier were that the same corporations held 45 percent of corporate and less than 20 percent of all national wealth. And by 1932, Berle calculated that 600 American corporations owned 65 percent of the nation’s industry. The rest was “spread among millions of little family businesses.” Some 2000 men, the active directors of the giant corporations, were in a position to dominate the life of the United States.

What the degree of concentration exposed by these figures meant, Berle and Means said, was that the political economy of Adam Smith, which had dominated American thinking for a century and a half, no longer applied. The competitive model drawn by Smith as the “great regulator of industry” was based upon the assumption of numerous small units whose prices were determined by market forces. This was not the case in the United States of the late 1920s, and so the market had lost its inherent tendency toward equilibrium.

The booming decade of the twenties saw a new headlong rush into corporate mergers. President Hoover’s Committee on Social Trends reported that between 1919 and 1928 some 1200 mergers “involving the disappearance of over 6000 independent enterprises” had been registered.

Clearly a major cause of the unstable foundation beneath the prosperity decade was the dichotomy between the reality of massive concentration in American business and the classical economic model upon which policy was still being based. Coolidge and Mellon were playing by the rules of Adam Smith’s pin factory at a time when Henry Ford’s River Rouge plant was more indicative of the true nature of the economy. It would have been remarkable if disaster had not resulted from this discrepancy.5

   One result of the use of eighteenth-century theories to deal with twentieth-century reality was a growing maldistribution of income in twenties America. No cause of the Great Depression was of larger importance.

According to the famous Brookings Institution study, America’s Capacity to Consume, the top 0.1 percent of American families in 1929 had an aggregate income equal to that of the bottom 42 percent.* Stated in absolute numbers, approximately 24,000 families had a combined income as large as that shared by more than 11.5 million poor and lower-middle-class families. Fully 71 percent of all American families (a term that includes unattached individuals) in what was generally regarded as the most prosperous year the country and the world had ever known had incomes under $2500. At the other extreme, the 24,000 richest families enjoyed annual incomes in excess of $100,000 and 513 American families that year reported incomes above $1 million. Nor was the prosperity of the twenties narrowing the gap. On the contrary, the authors of the Brookings study concluded, it appeared that “income was being distributed with increasing inequality, particularly in the later years of the period.” The income of those at the very top was increasing more rapidly than that of any other group. Late in the twenties, “a larger percentage of the total income was received by the portion of the population having very high incomes than had been the case a decade earlier.” Between 1920 and 1929, per capita disposable income for all Americans rose by 9 percent, but the top 1 percent of income recipients enjoyed a whopping 75 percent increase in disposable income. The share of disposable income going to the top 1 percent jumped from 12 percent in 1920 to 19 percent in 1929. Here in stark statistics was one of the principal causes of the Great Depression.

Maldistribution of wealth in 1929 was even greater than that of income. Nearly 80 percent of the nation’s families—some 21.5 million households—had no savings whatsoever. The 24,000 families at the top—0.1 percent—held 34 percent of all savings. The 2.3 percent of families with incomes of more than $10,000 controlled two-thirds of America’s savings. Stock ownership, as we shall see shortly, was even more concentrated. The top 0.5 percent of Americans in 1929 owned 32.4 percent of all the net wealth of individuals. This represented the highest concentration of wealth at any time in American history. The Depression and World War II cut into this concentration somewhat, and the amount held by the top 0.5 percent has hovered around 20 percent throughout the postwar years.

A large part of the reason for the growing gap between rich and poor was that productivity was increasing at a far faster rate than wages. In the decade ending in 1929 output per worker in manufacturing leaped upward by a remarkable 43 percent. In only six years between 1923 and 1929 manufacturing output per person-hour increased by almost 32 percent. During the same period, wages increased also, but only by 8 percent—a rate one-fourth as fast as the rise in productivity. With production costs falling rapidly, prices remaining nearly stable, and wages rising only slowly, the bulk of the benefits from increased productivity went into profits. In that same six-year period ending in 1929, corporate profits soared upward by 62 percent and dividends rose by 65 percent.

This, in cold figures, was the essence of the New Era. Prosperity was shared by fairly large segments—although certainly not all—of the populace, but in very unequal portions. The rich were getting richer at a much more rapid rate than the poor were becoming less poor. Government policies during the twenties were designed to achieve just this end. The unfavorable climate for labor unions made it more difficult for workers to obtain their share of the benefits of rising productivity. And Mellon’s tax cuts for the wealthy helped to aggravate the gross disparity in income levels.

The maldistribution of income, although growing worse, was already marked in the mid-twenties, while prosperity reigned. Any interpretation of the origins of the Depression that places significant emphasis on maldistribution must account for the peaceful coexistence of prosperity with maldistribution in the years preceding the Crash. This is not as much of a problem as it may appear.

For the economy to remain on an even keel, it is of course necessary for total demand to equal total supply. Say’s Law to the contrary notwithstanding, there was no automatic assurance that this would happen, especially in a mass production economy with a poor distribution of income. The balance could be achieved in a number of ways. The largest part of the demand side was made up of domestic consumption of nondurable and durable consumer goods. These categories range from food and clothing in the former to automobiles and houses in the latter. Almost all the income of more than three-fourths (the lower three-fourths, of course) of the American people went for these purposes. These people were doing their part to maintain prosperity. They could do no more for the demand side of the balance unless they were paid more.

But what of the huge incomes of those at the top of the scale, most conspicuously the 24,000 families with annual incomes above $100,000? They bought consumer goods, too, and in far larger quantities than their less affluent neighbors. They could, however, be expected to eat only so much and buy only so many cars and houses. The income of the $100,000 per year man, we find by simple arithmetic, was 40 times greater than that of the above-average $2500 man. It was not reasonable to ask the former to eat 40 times as much or buy 40 Model A’s (or 15 Cadillacs). The wealthy and nearly-so had to find other ways to use their money. Up to a point, this was beneficial. Saving and investment, as well as consumption, are necessary for the well-being of the economy. This, along with luxury spending, was the principal use to which excess profits were put in the twenties. Maverick economist William Trufant Foster may have gone too far when he said of the decade, “Far from having been profligate, the nation wasted its substance in riotous saving,” but there was a serious point beneath the exaggeration. Investment remained at a high level throughout the years 1925–29, dipping below 15 percent of GNP only in 1928 (a threshold that investment did not break again until 1948). This high level of investment helped keep the economy in temporary balance during the boom years, but it was intensifying the long-term problem. That is, greater investment usually meant further increases in productivity. All other things being equal, this would be to the good. But when are all other things equal? Surely they were not in the twenties. Since the gains in productivity were not being fairly distributed, the heavy investment was making the problem of income distribution worse.

Other means existed for disposing of the supply for which there was insufficient domestic demand. Two of these came to be heavily relied upon in the twenties: exports and credit sales. We have already discussed the former. The purpose and effects of the latter were similar. The basic macroeconomic problem growing out of maldistribution was that those with the means to buy more of the products of mass production industry could satiate their needs and desires by spending only a small fraction of their incomes, while those whose needs and desires were not satisfied had no money. One obvious temporary solution was to let those who wanted goods to buy them without the money. Thus the installment plan arose for the first time on a massive scale. By the second half of the decade, it was possible to purchase cars, appliances, radios, furniture, and other expensive items on “easy monthly (or weekly) payments.”

Convincing Americans to buy now and pay later required a reversal of many traditional American values. People brought up on the aphorisms of Poor Richard had to be weaned. Advertising was the medium through which this message was transmitted to American consumers. First, people had been convinced to consume rather than save. Now they must go further. The idea that a penny saved is a penny earned was passé. It was now to be: Spend the penny before you earn it. It was no longer necessary to save for a rainy day, since in the New Era of eternal prosperity the sun would always shine.

By the last years of the decade, three of every five cars and 80 percent of all radios sold were purchased with installment credit. Between 1925 and 1929 the amount of installment credit outstanding in the United States more than doubled, from $1.38 billion to $3 billion. In keeping with the live-for-today attitude of many Americans in the 1920s, as the President’s Committee on Social Trends pointed out, time payment schemes allowed people “to telescope the future into the present.” The device helped to put off the day of reckoning by unnaturally keeping up demand, but it made the collapse worse when it came. When the supply of consumers who could be persuaded to make time purchases and the credit of those customers were exhausted, the installment stopgap could no longer perform its service. What made matters worse, though, was the fact that all those carrying installment debt could no longer even use all of their regular wages or salaries for new buying; part of their current income was taken up paying off past purchases.

There were at least two other ways in which demand might have been brought into balance with supply. One possibility was for the government to buy the surplus through deficit spending. Suicide would have been a more welcome suggestion to most politicians, businessmen, and economists in the pre-Depression decade. The remaining solution was, if anything, more repulsive to the powers-that-be than were peacetime deficits: higher taxes on the rich. Again it was William T. Foster who brazenly spoke the truth. In the interests of the rich (as well as of everyone else), he said, “we should take from them a sufficient amount of their surplus to enable consumers to consume and business to operate at a profit. This,” Foster neatly added, “is not ‘soaking the rich’; it is saving the rich.” The rich, on the whole, chose to remain unregenerate.6

Under these circumstances, the New Era economy was peculiarly dependent on a continued high level of luxury spending and investment by those receiving a disproportionately large share of the national income. If something caused a sudden loss of confidence by these affluent Americans, the whole economic structure might collapse, particularly if the decline in investment and luxury spending coincided with a loss of foreign markets and a saturation of the credit-purchase market at home. Just such a confluence occurred in the fall of 1929.

   American values, it should be plain by now, were undergoing important changes during the 1920s. Some were long-term and more or less permanent. Others were part of recurring shifts in attitude. Among the latter, the most notable of the twenties was an unusually high degree of self-centeredness and emphasis on financial gain.

American society—or rather, a large portion of it—came in the twenties to be preoccupied with the single-minded pursuit of riches. A growing number of people accepted the proposition that “God intended the American middle class to be rich.” (Had He not so intended, why had He made middle-class Americans with wallets and savings accounts?) The mood of the times was evident in the title of a 1929 article Democratic national chairman John J. Raskob wrote for the Ladies’ Home Journal, “Everybody Ought to be Rich.” The new convert to the Democracy had a plan whereby a company would be established to help the little fellow pool his meager resources with those of others like him, so they could enjoy the benefits of stock ownership and speculation. It was, doubtless, one of the more altruistic thoughts of the age. Cynics might point out that if more people could be gotten into the market, demand for stocks would keep rising and hence the boom and profits would be bigger and better for large speculators, of whose number Raskob was one. But who are we to question the motives of a man who would make everyone rich?

The values of the society were shown, albeit in a somewhat exaggerated form, in a 1929 New York Times ad offering the securities of the National Waterworks Corporation: “Picture this scene today, if by some cataclysm only one small well should remain for the great city of New York [how much could be charged for water?]—$1.00 a bucket, $100, $1,000, $1,000,000. The man who owned the well would own the wealth of the city.” The thought of so many parched lips was surely enough to wet those of an investor.

As more and more Americans came to believe that “they were predestined … to become rich without work” and excess income accumulated in the accounts of many, the likelihood of the rise of large speculative bubbles increased. The medium of speculation was of little importance. As it happened, the first one to present itself in the mid-twenties was Florida real estate. Sunshine had already done wonders for southern California; the automobile and growing wealth put Florida within reach as a winter haven for the well-to-do of the Northeast. That much of the 1924–26 boom in Florida property was based on reality. The rest was largely fantasy, but a financial fantasy in which one could get rich quickly.

Some of the land sold in Florida at rapidly appreciating prices was genuinely attractive; much of it was not. But that was of no concern to most buyers once the bubble had begun to inflate. Roughly 90 percent of those who made purchases in the Florida land boom had no intention of ever occupying the property—or even of owning it for long. Its actual value (or the fact that it turned out to be in a swamp forty miles from the nearest beach) was immaterial. One bought the land not for its use value, but in the expectation that it could be sold shortly to someone else at a handsome profit. The new purchaser was not a fool, either. He bought for exactly the same reason. Anyone who stopped to consider the situation had to realize that this game had limits and the bubble was bound to burst. The trick was, though, to ride with the expansion as long as possible and get out before the collapse. Some did. But greed was what it was all about, and many investors were tempted into staying too long. Indeed, it could not have been otherwise, because as soon as any significant number decided the time had come to get out, it inevitably became that time.

It was grand while it lasted. In 1925 the Miami Herald carried more advertising than any paper anywhere in the history of the world ever had before. Soon it was over, though. In 1926 deflation of values set in, and it is extremely difficult for a speculative boom to start up again after it has begun to subside. Nature provided the mandatory exclamation point at the end of the Florida boom. Two vicious hurricanes ripped through the state in the summer of 1926 and destroyed any hope for a quick revival. For the remainder of the decade, while much of America boomed, Florida sat in the doldrums. Its land boom proved to be only the dress rehearsal for the decade’s biggest speculative mania: the stock market. It was a tribute to the extent of confidence Americans had in their destiny to get rich that the popping of the Florida bubble was not sufficient to make people wary of another round of speculation.

Before we delve into the mysteries of the Great Bull Market, it must be made clear that while “speculation” and “boom” are often used in close proximity one to the other, there was nothing speculative about the economic boom of the Coolidge years. It was real. The boom was built on the foundation of new technology, especially upon the automobile. Numerous other industries surged forward in the twenties, holding on to the rear bumper of the automobile. Rubber, steel, oil, road construction, suburban housing, service stations, and many others were dependent upon automotive sales. When those sales tapered off, the boom slowed; when they dropped sharply, the boom turned bust. The automobile was so central to the economy, in fact, that most authorities identify Henry Ford’s decision to shut down production for six months while he shifted from the Model T to the Model A as the chief cause of the recession of 1927. The genuine industrial boom helped to fuel optimism and the belief that anyone could get rich. As the Florida bubble deflated, excess profits were already moving on a large scale into the stock market.

It was not true, as was often heard in the late twenties, that “everyone’s in the market.” Roughly 4 million Americans owned stock in 1929, out of a population of approximately 120 million. Only 1.5 million of those stockholders had a sufficiently large interest to have an account with a broker. The bulk of the “stockholders” owned only a few shares. The distribution of dividends tells the story of concentration of stock ownership. Almost 74 percent of all 1929 dividends went to the fewer than 600,000 individual stockholders with taxable incomes in excess of $5000. Just under 25 percent went to the 24,000 taking in over $100,000 for the year, and nearly 6 percent of all dividends went to 513 individuals whose families reported an income of more than $1 million for the year.

The reasons for the great speculative boom of the late twenties have long been debated. One culprit often pointed to is the Federal Reserve Board’s decision early in 1927 to lower the rediscount rate one-half point to 3.5 percent. The decision was based on the need to save international liquidity in the wake of Britain’s overvaluation of the pound. Of course it also meant easier money at home. Surely this made stock speculation easier, but it did not cause it. The source of the Great Bull Market was the same as that of the Florida land boom that preceded it: the notion that it was easy to get rich quickly. Stocks, once bought principally on the basis of their earning power, came to be purchased only for resale after their price had risen. As with a swamp lot in Florida, the quality of a stock was largely immaterial, as long as prices continued to rise. That earnings were of little interest can be seen in the case of one of the “glamour” stocks of the age: Radio Corporation of America, which leaped from 85 to 420 during 1928, even though it had never paid a dividend. When the Fed reversed its easy-money policy in the spring of 1928, it had no effect on the market. By this time the lure of fantastic easy profits had become sufficiently bright that higher interest rates were no deterrent.

The Dow Jones industrial average rose from 191 early in 1928 to 381 in September 1929, a 100 percent increase in less than two years. By most standards, this represented more than reasonable returns, but it was no measure of the possibilities for gamblers during the period. The magic words of the fantasy land in lower Manhattan in those years were “margin” and “leverage.” Buying stocks on margin was similar to buying an automobile on credit. The purchaser paid a part of the price—say 10 percent—and used the stock as collateral for a loan of the remainder. Just as installment credit stimulated industry, margin buying aroused the market. Such borrowing gave the customer leverage. An illustration will show how this worked. Suppose a buyer purchased on margin a share of the aforementioned RCA stock at the beginning of 1928, putting up $10 and borrowing the remaining $75 from his broker. At the end of the year he could have sold it for $420. The stock itself had appreciated by 394 percent, which wasn’t bad; but Mr. X saw his $10 investment bring him $341.25 ($420 less $75 and 5 percent interest owed to the broker). His profit for the year was over 3400 percent!

It seemed too good to be true. It was. The miracle of leverage when prices were rising would operate in reverse if prices fell. The host of margin buyers could be wiped out quickly. What was more, the whole market in 1929 compounded the leverage idea as “investment trusts” proliferated and pyramids were erected from one end of Wall Street to the other. The investment trust existed for the sole purpose of owning stocks. It had no assets other than the securities of other companies. It, in turn, sold stock of its own. By the summer of 1929, such businesses were being piled one on top of another. More and more speculators saw them as centers of intelligence—or at least inside information—that could do a better job with a person’s investments than he could do for himself. It seems that the investment trusts had become a kind of electoral college for Wanniski’s “global electorate.” The individual investor would buy—on margin—stock in Investment Trust A, which would buy—on margin—stock in Investment Trust B, which would buy—on margin—stock in “genuine” corporations. Here was “leverage” on a grand scale. The principal building material used on Wall Street in 1929 was credit. The economic equivalent of the 1926 Florida hurricanes could easily blow down such ill-built structures.

In the uncalm before the storm, Wall Street was attracting much of the available capital in the world. As the demand for call money (for brokers’ loans to allow margin buying) rose, so did the interest rate. Eventually call money rates reached 10 and 12 percent, finally even touching 20 percent. Such returns on what seemed like utterly safe investments (the loans were secured by the stocks) were irresistible. The amount banks provided for brokers’ loans actually declined in 1929, but that was more than made up for by the funds being made available by corporations. In particular, corporations with surplus capital (of which there was a great deal in the wake of the Mellon tax cuts and refunds) often found lending money on Wall Street a more attractive option than expanding their own production.

Foreign investors came to the same conclusion. Some observers charged that the New York Stock Exchange was sucking up all the money in the world. Of course funds used to purchase stocks did not vanish. For every buyer, a seller received money. This obvious fact did not mean, though, that Wall Street was not absorbing funds normally available for productive purposes. Most of the money used for speculation was held for that purpose on a continuing basis and was not offered for productive investment. Moreover, as the call money rate rose, credit for other purposes became very tight. Speculators might be willing to pay 12 percent interest, since they expected a far higher return; but companies considering expansion could not afford to borrow at such rates.

Brokers’ loans—probably the best measure of the extent of speculation—sped upward from less than $5 billion in the middle of 1928 to nearly $6.5 billion at year’s end. Six months later the total of outstanding brokers’ loans was just over $7 billion. In the next three months—July through September 1929—they shot up by another $1.5 billion. Such massive speculation was obviously unhealthy. In his Memoirs, Herbert Hoover passed his judgment on speculators: “There are crimes far worse than murder for which men should be reviled and punished.” But who would have done so in 1928 or 1929? It was not the speculators who were reviled in that fantastic time, but those who dared to criticize speculation. The Wall Street Journal reacted to one criticism in September 1929 by asking: “Why is it that any ignoramus can talk about Wall Street?”

Under the circumstances, government action to deflate the bubble was virtually impossible. Ending the boom would not only have been unpopular, it almost certainly would also have caused a bust. Bubbles are hard to deflate without popping them. If the choice is between a collapse now or later, politicians and regulators normally prefer to put off until tomorrow what they could do today. Thus in his last days as president, Calvin Coolidge issued a statement declaring that prosperity was “absolutely sound” and stocks were “cheap at current prices.”

One observer pointed out that by the late twenties the broker’s office had replaced the saloon; it had “the same swinging doors, the same half-darkened windows.” The offices of one New York investment service even had a speakeasy-style peephole. It was a telling analogy. Stock speculation provided a legal spirit of intoxication in a time when intoxicating spirits were prohibited by the Eighteenth Amendment. By the fall of 1929, those who were guiding the market were driving under the influence. A terrible crash, to be followed by unpleasant sobering experiences and an awful hangover were the likely results.7

   Contrary to popular impression, the Wall Street Crash of 1929 was not a single collapse of one or two days (Black Thursday and Black Tuesday, October 24 and 29, are usually identified), but a long, rolling downward slide that went on for weeks, from September 3 through November 13. There were brief upsurges after some of the worst days.

The speculative boom was, of course, dependent upon confidence. Confidence was a commodity, however, that was available in abundance in 1929. The bull market had suffered two sharp breaks, in December 1928 and March 1929, only to come back stronger than ever. Accordingly, it took a prolonged, devastating collapse to convince speculators that it was really over. Even after the collapse had started in the fall of 1929, the demand for confident statements kept bringing forth a plentiful supply. Noted economist Irving Fisher of Yale, for example, declared on October 15: “Stock prices have reached what looks like a permanently high plateau.” As the decline degenerated into the Crash, a wide array of leaders repeated phrases containing the words “fundamentally sound.”

Not everyone was so sure, though. Since taking office in March, President Hoover had tried on several occasions to warn against speculation. In April the President ordered his financial agent to sell some of Hoover’s stocks, “as possible hard times coming.” When the President issued his famous October 25 statement about “the fundamental business of the country” being “on a sound and prosperous basis,” he reportedly declined a request from a group of bankers to say something specifically about the stock market.

The story of the Crash itself is summarized easily. The peak of the bull market was reached on September 3. Two days later there was a break. It was not too serious, and the general assumption was that it was just another “adjustment.” Thereafter the market drifted generally downward, but unevenly. Optimism remained the official watchword, and speculators continued to flock into the market. Brokers’ loans rose by more in September than ever before. Prices continued downward in early October. Then on Monday, October 21, the real rout began. Although far worse days were to come, the style of the next few weeks was set on this day. The volume was huge, causing the ticker to fall far behind. This added a terrible ingredient of uncertainty to the gathering panic. Knowing that prices were falling, but not knowing by how much, produced great fear and led many to sell quickly, before prices dipped further. Such sales, of course, added to the price declines.

Wednesday, October 23, although not as often noted as the 24th or the 29th, may have been the key day of the Crash. An hour before the closing bell, a slide began which saw the Dow Jones industrials lose 21 points in 60 minutes, wiping out all the fantastic advances of July and August. Greater losses and higher volumes would be registered on subsequent days, but October 23 was the trigger. After trading closed amid the hour-long scramble to sell, many investors concluded that this time the boom was really over. They would sell the next day, before it was too late. Once a sizable number of important investors decided the boom had ended, it had ended. It had all been built on expectations of rising prices. As soon as those expectations were reversed, the market had to fall. Adding to the deflationary pressures were a large number of margin calls, which forced many to sell who did not want to. (Since the stocks provided the security for the loans, when their value fell more money had to be put up to cover the loans.)

The voluntary and involuntary decisions to sell that evening took their toll when the market opened the following morning, October 24. If the image of a downward slide had been appropriate for earlier days, the metaphor for Black Thursday was that of the bottom falling out. A vast supply of shares for sale hit the market that morning, but they failed to create their own demand until prices had plummeted. Partial recovery was achieved in the afternoon when a group of leading bankers headed by Thomas W. Lamont of J. P. Morgan moved in to support prices. This calmed the situation and restored some confidence. In the afternoon most of the terrible losses were reversed. By the end of the day, The New York Times industrial average had climbed back to within 12 points of where it opened.

On Friday and Saturday prices stabilized. Then on Monday the 28th, everything fell apart. The Dow lost more than 38 points, nearly 13 percent of its value at the start of the day. The bankers’ group threw in the towel that afternoon, admitting that it could not stem the collapse. The next day was the infamous Black Tuesday, October 29, 1929, usually cited as the day of the Crash. An unprecedented 16.4 million shares changed hands. At many points during the day, no buyers were available at any price. Even after a closing rally, the Times index was down another 45 points at the close.

The day after Black Tuesday saw a remarkable recovery in which two-thirds of Tuesday’s losses were regained. But the Crash was far from over. After a short session on Thursday, the market closed for the rest of the week. When trading reopened on Monday, November 4, a startling new collapse set in. The Times industrials lost 22 points that day, 37 on Wednesday (the Exchange was closed on Tuesday for election day), and a total of 50 more points during the first three days of the following week. When the Crash bottomed out (for 1929—prices would go much lower in subsequent years of the Depression), the Times index had lost 228 points since the high point of September 3. Fifty percent of the value of stocks in the index had been lost in ten weeks. The New Era was over.

As J. K. Galbraith has pointed out, nothing was lost in the Crash “but money.” Given the values of the day, though, many losers might have responded: “What else is there?” Americans soon found out what else there was. Industrial production fell by more than 9 percent from October to December 1929. American imports dropped by 20 percent from September to December. The Great Depression was under way.8

   The unavoidable question must be asked again: Did the Crash cause the Depression? There are two correct answers. If it is meant as a “why” question, the answer is: “Of course not!” If it is a “how” or a “when” question, the response must be: “Yes, in part.” “Whatever happens in a stock market,” Milton Friedman has declared, “it cannot lead to a great depression unless it produces or is accompanied by a monetary collapse.” Although I disagree with Friedman’s exclusive emphasis upon monetary factors, his statement is a useful one. He is absolutely right in contending that a stock market collapse is unlikely to produce a large depression by itself. But the stock market, fantasy land though it had become in 1929, was not operating in a vacuum. Wall Street’s connections with other parts of the economy meant that the Crash would do more than merely reflect the weaknesses in the economic structure. Among other things, the fragile economy was heavily dependent upon confidence and the spending and investment of the well-to-do. These were precisely the things that the Crash most effectively undercut.

The fact is that, despite all the statements about fundamental soundness, both the domestic and international economies were fundamentally unsound by the late 1920s. When someone becomes ill after “catching a chill,” it is not the cold itself that causes the sickness. Rather the cold reduces the body’s resistance to microorganisms already present in it, which then are able to cause the illness. Some such role is the proper one to assign to the Crash. The cold wind that swept through lower Manhattan in October and November 1929 lowered the economy’s resistance to the point where already existing defects could multiply rapidly and bring down the whole organism. The Crash is important in explaining how and when the Depression happened.

As for the question of where the Depression began, it clearly started in the United States. The American collapse need not have set off a worldwide depression had the United States not been the leader of the world economy. But it was. This placed certain responsibilities on the United States—responsibilities that, in the main, the nation shunned. When the United States cut lending and erected higher tariff walls, the world economy faltered further. Doubtless the world situation—sparked by American actions—in turn made the Depression worse in this country. Cause and effect should not be reversed. Geographically, the origin and spread of the Depression went in just the opposite direction from that traced by Herbert Hoover.

By far the most important question about the origins of the Depression is why? Unicausal explanations simply cannot stand up. When an American today develops cancer, it is usually impossible to say precisely what caused it. Such environmental factors as diet, chemicals, radiation, and tobacco, to name a few, may be among the possible causes. The “typical” American’s environment is filled with carcinogens. The same was true of the nation’s economy in the 1920s. Yet it is often possible in studying the cancer patient’s life to identify things that were more likely than others to have done the most damage. Exposure to some carcinogens is more apt to be sufficient cause of the disease than others. This seems to have been the case with the Great Depression as well.

The causes of the Great Depression were many, sufficiently so that they have required a long chapter to explore. In the end, though, the greatest weight must be assigned to the effects of an income distribution that was bad and getting worse. Michael Harrington has succinctly stated the problem: “The capitalist genius for production was on a collision course with the capitalist limits on consumption.” A recent statistical analysis of the origins of the Depression has concluded that, although the data are not sufficient to answer many questions, they do point toward the belief that “the Depression was the result of a drop in autonomous expenditures, particularly consumption.” The most persuasive reasons for that drop have to do with poor distribution of income. It seems more than coincidental that the shares of income going to the upper reaches of American society have been appreciably smaller in the years of postwar prosperity than they were in 1929. (See table, this page.)

Maldistribution was only one among many roots of the Great Depression, but it was the taproot. It led to both underconsumption and oversaving, and it helped fuel stock speculation. Maldistribution was the most important factor in the greatest paradox of the Depression. As eloquently stated in a 1932 article in Current History:

We still pray to be given each day our daily bread. Yet there is too much bread, too much wheat and corn, meat and oil and almost every other commodity required by man for his subsistence and material happiness. We are not able to purchase the abundance that modern methods of agriculture, mining and manufacture make available in such bountiful quantities. Why is mankind being asked to go hungry and cold and poverty stricken in the midst of plenty?

Here was the central question of the Depression.9

* A table comparing income distribution in 1929 with that in selected years since, down to 1981, appears in Chapter 15, this page.

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