The Roaring Twenties and the Stock Market Crash of 1929

Posted by PITHOCRATES - April 23rd, 2013

History 101

The Roaring Twenties gave us the Modern World and one of the Greatest Economic Booms in History

When the steam engine hit the American farm it increased farm production.  By mechanizing the farm fewer farmers could farm more land.  Allowing American farmers to produce bumper crops.  Creating a boom in farm exports.  Especially during World War I.  As Europeans farmers exchanged their plows for rifles Europe had no one to grow their food.  So even though the mechanization of the American farm caused crop prices to fall the increase in sales volume brought in more farm revenue.  Life was good for the American farmer.  For businesses manufacturing all of that mechanized farm equipment.  And the banks making loans to farmers so they could mechanize their farms.

The1920 presidential election pitted a progressive Democrat against a conservative Republican.  The progressive promised to raise tax rates to pay down the war debt.  Andrew Mellon, Warren Harding’s treasury secretary, found that high tax rates were counterproductive.  They actually reduced tax revenue.  As wealthy people invested their money out of the country to avoid high tax rates.  So when Harding won the election they cut tax rates.  With no need to shelter their income the wealthy invested their money in the United States.  Pouring their money into the domestic economy caused great economic activity.  Great returns on investment.  And great income tax revenue.  The wealthy paid almost three times as much in tax revenue.  While the tax burden on the poor fell.  And the national debt fell by one third.

Harding died in office but Calvin Coolidge continued his policies.  He slashed government spending along with those tax cuts.  Pulling the government out of the private sector economy.  And the private sector economy responded.  Creating a lot of jobs.  Unemployment fell to as low as 2%.  And living standards soared.  For everyone.  Not just those in the unions.  In fact, this general rise in living standards weakened the unions.  For you didn’t need to belong to a union to live well.  It was the beginning of the modern world.  Brought about by a burst of innovation and manufacturing that lasted 8 years.  One of the greatest economic booms in history.  Henry Ford’s moving assembly line made the car affordable for the working man.  Auto registrations rose from 9 million in 1921 to 23 million by 1929.  An increase of 156%.  And keeping pace with the auto manufacturers were their suppliers.  Metal, steel, paint, lumber, leather, cotton, glass, rubber, etc.  And especially the oil industry.  That made lubricating oils and greases.  And the gasoline that powered all of these cars.  With so many jobs per capita income increased from $522 in 1921 to $716 in 1929.  An increase of 37%.  With people earning more home ownership soared.  And this boom in economic activity didn’t end there.

Herbert Hoover thought Government could better Manage the Economy than Messy Laissez-Faire Free Market Forces

Electric utilities were bringing the new electric power to industrial users and private homes during the Twenties.  Industry was using 300% more electric power than they were in 1899.  And it changed home life.  As electric clothes irons, vacuum cleaners, clothes washers, toasters and refrigerators became common household items by the end of the Twenties.  Households that had a telephone increased by 51% during the Twenties.  People were watching movies.  And saw the first talkies in the Twenties.  The radio also became a household fixture with some 7.5 million radio sets sold by 1928.   The economy was booming.  The middle class was expanding.  Consumer prices fell due to increases in productivity giving people more disposable income than they ever had before.  Causing an increase in consumer spending.  Allowing 1 in 5 Americans to own a car.  And increasing the number of people who could afford to fly from 40,000 in 1920 to 417,000 in 1930.  An increase of 943%.  So Americans were buying a lot.  But they were also saving a lot.  And investing.  Some 28% of American families owned stock.  Something once the exclusive privilege of the rich.  Wage earners were even buying life insurance policies to provide for their families in the event of their death.  Things were happening in the United States during the Twenties.  And the innovation and economic tsunami coming out of America had those in Europe worried.  So worried that they were discussing forming a United States of Europe to compete with the American system.

But all was not good.  During the Twenties those Europeans traded their rifles back for plows.  Reducing the export market for American farmers.  And when European governments threw up tariffs on America farm goods that export market disappeared.  Putting great surpluses into the American market.  Causing crop prices to fall further.  Crashing farm incomes.  Making some farmers unable to service their debt for all of that mechanized equipment they financed.  And when they defaulted on their loans en masse banks in the farming regions failed.  And when they did the money supply contracted.  The Federal Reserve made no effort to stop this contraction.  Which had a cooling effect.  Tapping the breaks on an expanding economy.

Coolidge chose not to run for a second term.  His successor, Herbert Hoover, was a progressive Republican.  And was everything Coolidge was not.  Hoover favored a big government perfecting the country.  He was a professional bureaucrat.  He loved bureaucracies.  And he loved paperwork and forms.  Which he wanted to bury private business in.  He thought the government could manage the economy better than messy laissez-faire free market forces.  Those very forces that created the Roaring Twenties.  He wanted to partner government with business.  With the emphasis on government.  (As president he increased the size of the Commerce Department and deepened its reach into the private sector economy.)

The Smoot-Hawley Tariff caused Investors to Dump their Stocks causing the Stock Market Crash of 1929

The Federal Reserve misjudged the stock market.  They thought it was nothing but speculation.  Citing radio maker RCA’s stock price’s meteoric rise.  So the Fed tapped the breaks further to cool this ‘speculative’ fervor.  Further contracting the money supply.  But this wasn’t speculation.  The rate of growth in radio sales actually was greater than the rate of growth in the stock price.  Making it more likely that the stock was undervalued.  Not overvalued.  But the Fed went ahead and contracted the money supply anyway.  Making it difficult for business to get funding for continued growth.  Despite there still being people out there who hadn’t bought a car, a house, electric appliances or a radio yet.  And wanted to.

In 1929 a new tariff bill was moving through Congressional committees.  The Smoot-Hawley Tariff.  Which would raise taxes on imports by up to 30%.  Which would greatly increase the cost of business.  Because most if not all of American manufacturing used some imported raw materials.  Which would increase their selling prices.  Making them less competitive.  Worse, if the U.S. slapped tariffs on imports it was certain their trading partners would respond with some retaliatory tariffs.  Which would just shut down their export markets.  Much like those tariffs shut down the export markets for American farmers.  Then in the autumn of 1929 the Smoot-Hawley Tariff passed critical votes in committee.  Sending the tariff bill on its way to becoming law.  This was not good news for investors.

It was all too much.  The coming expansion of government regulation over the private sector economy.  Higher taxes to pay for this bigger government.  The contraction of the money supply.  And then the Smoot-Hawley Tariff.  Investors could read the writing on the wall.  None of this would be good for business.  It would just smother the economic growth of the Twenties.  For if you increase businesses’ costs and decrease their markets you will slash their profits.  Which will reduce the value of these companies.  And reduce the value of their stock prices.  As investors live by the adage of “buy low, sell high” they’d want to sell those stocks fast before the Smoot-Hawley Tariff sent their prices into a tailspin.  Which they did.  Causing a great selloff starting in October.  That led to the Stock Market Crash of 1929.

Now contrast that with a true speculative bubble.  The dot-com bubble.  Where investors poured money into these dot-com companies eager to find the next Microsoft.  Aided and abetted by the Federal Reserve that was keeping interest rates artificially low.  To encourage all sorts of investment.  Including ones driven by irrational exuberance.  So investors were bidding those stock prices into the stratosphere.  For companies that had no profits.  For companies that didn’t have a product or service to sell.  But these investors were looking with great anticipation at their future profits.  Even though they really didn’t understand the Internet.  They just knew that computers were involved.  Which is what made Microsoft rich.  Producing software to run on computers.  And every investor was sure their dot-com was going to produce something to run on computers.  Making that company rich.  And their investors.  But when the start-up capital ran out there were no earnings to replace it.  And the speculative bubble burst beginning on March 11, 2000.  And those highly overvalued stock prices began to fall back to earth.  With the tech-laden NASDAQ losing 78% of its value before it was all over.  Now THAT is a speculative bubble that the Federal Reserve should have tried to prevent.  Not the economic boom of the Twenties where companies were building real things that real people were buying.

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The Federal Reserve, Roaring Twenties, Stock Market Crash, Banking Crises, Great Depression and John Maynard Keynes

Posted by PITHOCRATES - September 25th, 2012

History 101

The Federal Reserve increased the Money Supply to Lower Interest Rates during the Roaring Twenties

Benjamin Franklin said, “Industry, perseverance, & frugality, make fortune yield.”  He said that because he believed that.  And he proved the validity of his maxim with a personal example.  His life.  He worked hard.  He never gave up.  And he was what some would say cheap.  He saved his money and spent it sparingly.  Because of these personally held beliefs Franklin was a successful businessman.  So successful that he became wealthy enough to retire and start a second life.  Renowned scientist.  Who gave us things like the Franklin stove and the lightning rod.  Then he entered his third life.  Statesman.  And America’s greatest diplomat.  He was the only Founder who signed the Declaration of Independence, Treaty of Amity and Commerce with France (bringing the French in on the American side during the Revolutionary War), Treaty of Paris (ending the Revolutionary War very favorably to the U.S.) and the U.S. Constitution.  Making the United States not only a possibility but a reality.  Three extraordinary lives lived by one extraordinary man.

Franklin was such a great success because of industry, perseverance and frugality.  A philosophy the Founding Fathers all shared.  A philosophy that had guided the United States for about 150 years until the Great Depression.  When FDR changed America.  By building on the work of Woodrow Wilson.  Men who expanded the role of the federal government.  Prior to this change America was well on its way to becoming the world’s number one economy.   By following Franklin-like policies.  Such as the virtue of thrift.  Favoring long-term savings over short-term consumption.  Free trade.  Balanced budgets.  Laissez-faire capitalism.  And the gold standard.  Which provided sound money.  And an international system of trade.  Until the Federal Reserve came along.

The Federal Reserve (the Fed) is America’s central bank.  In response to some financial crises Congress passed the Federal Reserve Act (1913) to make financial crises a thing of the past.  The Fed would end bank panics, bank runs and bank failures.  By being the lender of last resort.  While also tweaking monetary policy to maintain full employment and stable prices.  By increasing and decreasing the money supply.  Which, in turn, lowers and raises interest rates.  But most of the time the Fed increased the money supply to lower interest rates to encourage people and businesses to borrow money.  To buy things.  And to expand businesses and hire people.  Maintaining that full employment.  Which they did during the Roaring Twenties.  For awhile.

The Roaring Twenties would have gone on if Herbert Hoover had continued the Harding/Mellon/Coolidge Policies

The Great Depression started with the Stock Market Crash of 1929.  And to this date people still argue over the causes of the Great Depression.  Some blame capitalism.  These people are, of course, wrong.  Others blamed the expansionary policies of the Fed.  They are partially correct.  For artificially low interest rates during the Twenties would eventually have to be corrected with a recession.  But the recession did not have to turn into a depression.  The Great Depression and the banking crises are all the fault of the government.  Bad monetary and fiscal policies followed by bad governmental actions threw an economy in recession into depression.

A lot of people talk about stock market speculation in the Twenties running up stock prices.  Normally something that happens with cheap credit as people borrow and invest in speculative ventures.  Like the dot-com companies in the Nineties.  Where people poured money into these companies that never produced a product or a dime of revenue.  And when that investment capital ran out these companies went belly up causing the severe recession in the early 2000s.  That’s speculation on a grand scale.  This is not what happened during the Twenties.  When the world was changing.  And electrifying.  The United States was modernizing.  Electric utilities, electric motors, electric appliances, telephones, airplanes, radio, movies, etc.  So, yes, there were inflationary monetary policies in place.  But their effects were mitigated by this real economic activity.  And something else.

President Warren Harding nominated Andrew Mellon to be his treasury secretary.  Probably the second smartest person to ever hold that post.  The first being our first.  Alexander Hamilton.  Harding and Mellon were laissez-faire capitalists.  They cut tax rates and regulations.  Their administration was a government-hands-off administration.  And the economy responded with some of the greatest economic growth ever.  This is why they called the 1920s the Roaring Twenties.  Yes, there were inflationary monetary policies.  But the economic growth was so great that when you subtracted the inflationary damage from it there was still great economic growth.  The Roaring Twenties could have gone on indefinitely if Herbert Hoover had continued the Harding and Mellon policies (continued by Calvin Coolidge after Harding’s death).  There was even a rural electrification program under FDR’s New Deal.  But Herbert Hoover was a progressive.  Having far more in common with the Democrat Woodrow Wilson than Harding or Coolidge.  Even though Harding, Coolidge and Hoover were all Republicans.

Activist Intervention into Market Forces turned a Recession into the Great Depression

One of the things that happened in the Twenties was a huge jump in farming mechanization.  The tractor allowed fewer people to farm more land.  Producing a boom in agriculture.  Good for the people.  Because it brought the price of food down.  But bad for the farmers.  Especially those heavily in debt from mechanizing their farms.  And it was the farmers that Hoover wanted to help.  With an especially bad policy of introducing parity between farm goods and industrial goods.  And introduced policies to raise the cost of farm goods.  Which didn’t help.  Many farmers were unable to service their loans with the fall in prices.  When farmers began to default en masse banks in farming communities failed.  And the contagion spread to the city banks.  Setting the stage for a nation-wide banking crisis.  And the Great Depression.

One of the leading economists of the time was John Maynard Keynes.  He even came to the White House during the Great Depression to advise FDR.  Keynes rejected the Franklin/Harding/Mellon/Coolidge policies.  And the policies favored by the Austrian school of economics (the only people, by the way, who actually predicted the Great Depression).  Which were similar to the Franklin/Harding/Mellon/Coolidge policies.  The Austrians also said to let prices and wages fall.  To undo all of that inflationary damage.  Which would help cause a return to full employment.  Keynes disagreed.  For he didn’t believe in the virtue of thrift.  He wanted to abandon the gold standard completely and replace it with fiat money.  That they could expand more freely.  And he believed in demand-side solutions.  Meaning to end the Great Depression you needed higher wages not lower wages so workers had more money to spend.  And to have higher wages you needed higher prices.  So the employers could pay their workers these higher wages.  And he also encouraged continued deficit spending.  No matter the long-term costs.

Well, the Keynesians got their way.  And it was they who gave us the Great Depression.  For they influenced government policy.  The stock market crashed in part due to the Smoot Hawley Tariff then in committee.  But investors saw the tariffs coming and knew what that would mean.  An end to the economic boom.  So they sold their stocks before it became law.  Causing the Stock Market Crash of 1929.  Then those tariffs hit (an increase of some 50%).  Then they doubled income tax rates.  And Hoover even demanded that business leaders NOT cut wages.  All of this activist intervention into market forces just sucked the wind out of the economy.  Turning a recession into the Great Depression.

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Tax Cuts, Gold Standard, Roaring Twenties, Great Depression, New Deal, Great Society, Stagflation, Ronald Reagan and Class Warfare

Posted by PITHOCRATES - February 28th, 2012

History 101

The Twenties saw one of the Greatest Explosions in Economic Growth in History despite being on a Gold Standard 

There is a duality in economics.  There is Keynesian economics.  And the Austrian School.  The Keynesians believe in central banking.  Forcing interest rates below market rates.  Purposely creating a permanent but ‘manageable’ inflation rate.  And other government interventions into markets.  The Austrians believe in a strong currency.  Even bringing back the gold standard.  Letting the markets set interest rates.  Are against purposely creating inflation.  And oppose government intervention into markets.  So these two schools are sort of the Yin and Yang of economics.  The dark and the light.  The wrong and the right.  The Keynesian and the Austrian.

So it’s not surprising to see periods of history where these two schools bump up against each other.  As we transition from good economic times to bad economic times.  And vice versa.  When politicians change policies for political reasons.  Or when politicians change policies for economic reasons.  When the Keynesians are out of power and want to get back into power.  Or the Keynesians are in power, have destroyed the economy and the electorate wants to throw them out.  Starting shortly after World War I.  When John Maynard Keynes’ ideas came to light.  Economic policies that used smart people and an active, benevolent government.  Exactly what Woodward Wilson and his progressives were looking for.  Who wanted to quantify human behavior and improve it.  With an activist and scientific government.  To bless the United States with their brilliance again now that the war was over.  And return to the new enlightened way.  Helping people everywhere to be better citizens.  And fixing all the ‘faults’ of free market capitalism.

But the progressives lost the 1920 election.  The voters favoring Warren Harding’s message to return to normalcy.  And rejecting the progressives and their new scientific ways of government.  They wanted jobs.  And that’s what Harding gave them.  By cutting taxes.  Thanks to the advice of his brilliant treasury secretary.  Andrew Mellon.  And getting out of the way of businesses.  When he died Calvin Coolidge continued his policies.  And the Twenties roared.  It was one of the greatest explosions in economic growth in history.  Where credit was plentiful.  Despite being on a gold standard.  As the United States electrified.  And modernized.  Electric power.  Telephones.  Radio.  Electric appliances.  Movies.  Even on the farm.  Where mechanization provided bountiful harvests and inexpensive food.  The Roaring Twenties were great times for consumers.  The average American.  Thanks to minimal governmental interference into the free market.  And capitalism.  But, alas, that wouldn’t last.

Ronald Reagan won in a Landslide based on an Economic Platform that was Austrian to the Core 

It was the mechanization of the farm that began the process that lead to the Great Depression.  The average American benefited greatly from those low food prices.  But not the farmers who went into debt to mechanize their farms.  And when those European World War I soldiers traded their rifles for plows the American farmers lost some valuable export markets.  Farmers were struggling with low prices.  And heavy debt.  Some defaulted on their debt.  Causing bank failures in the farming regions.  Which soon spread throughout the banking system.  And when president Hoover came to office he was going to help the farmers.  For Hoover, though a Republican, was a progressive.  He brought back activist government.  He interfered with the free market.  To fix these problems.  Price supports for farmers to import tariffs.  Raising costs for businesses.  And prices for consumers.  Then the Smoot-Hawley Tariff launched an all out trade war.  Crashing the economy.  And giving us the Great Depression.

The 1930s was a lost decade.  FDR’s New Deal policies increased the size of government.  And their reach into the free market.  Which prolonged the Great Depression.  But nothing they tried worked.  Despite trying their progressive brilliance for some ten years.  It took World War II to pull the United States out of the Depression.  When the government at last allowed businesses to pursue profits again.  And got out of their way.  This surge in economic activity continued after the war and through the Fifties.  And into the Sixties.  With none other than JFK cutting taxes in a very Austrian way.  Yes, Kennedy was an adherent to the Austrian school.  But LBJ wasn’t.  And when he took over things changed.  The progressives were back.  Calling themselves liberals now.  And instead of the New Deal they gave us the Great Society.  Which grew the government even larger than the New Deal did.  And the Great Society spent the money.  Along with putting a man on the moon and the Vietnam War, government spending exploded.  The Keynesians were hitting their prime.  For once they could do all of the great things they always said they could.  And in the process fix a ‘broken’ free market system.  Finally having brilliant people in all the right places in government.  Making brilliant policies to help people live better lives.

And then came the Seventies.  The government was spending so much that they turned to the printing presses.  Because they could.  Thanks to central banking.  Even if it was hamstrung by gold.  You see, at that time the dollar was convertible into gold.  And with the Americans printing so much money and depreciating the dollar countries holding U.S. dollars said, “Screw that.”  And converted their dollars into gold.  That great sucking sound they heard in the Seventies was the sound of U.S. gold reserves getting sucked out of the country.  Well, even though the Keynesians hated gold they didn’t want to see all their gold reserves disappearing.  So Nixon did something very Keynesian.  And decoupled the dollar from gold.  Freeing the government at last to spend as irresponsibly as the Keynesians wanted.  And spend they did.  Turning the printing presses on high.  Depreciating the dollar ever more and causing double digit inflation.  Worse, all that Keynesian spending did nothing for the economy.  There was high unemployment as well as inflation.  An unusual phenomenon as you typically had one or the other.  Not both.  But this was stagflation.  A Keynesian phenomenon.  And you measured how bad it was by adding the unemployment rate to the inflation rate.  Giving you the misery index.  And the misery was pretty high during the Keynesian Seventies.  It was so miserable that they joked about it on Saturday Night Live.  With Dan Aykroyd impersonating Jimmy Carter.  Joking about high nice it would be to own a $400 suit.  And how nice it was just to make a phone call to get the printing presses to print more money.  The people thought Aykroyd’s Carter was funny.  But they didn’t care for the real one all that much.  And made him a one term president.  As Ronald Reagan won in a landslide.  Based on an economic platform that was Austrian to the core.  Including a promise to return responsibility to government spending by reinstating a gold standard.  (Which was a political ‘bridge too far’.)

The Electorate paying Federal Income Taxes fell from 80% when Reagan was in Office to about 50% by 2009 

The Eighties were so prosperous that the Keynesians, liberals and progressives derisively call them the decade of greed.  They tried everything within their power to rewrite history.  Calling the exploding economic activity ‘trickle down’ economics.  But the figures don’t lie.  Despite the liars figuring.  The inflation rate fell.  Interest rates fell.  The unemployment rate fell.  And despite the cuts in tax rates the government was never richer.  Tax revenue collected under the reduced rates nearly doubled.  But there was little cutting in government spending.  Flush with all that cash they kept spending.  In part to rebuild the military to win the Cold War.  Which Reagan won.  But all the social spending continued, too.  Which led to some record deficits.  Not the trillion dollar deficits of the Obama administration.  But large nevertheless.  Which provided the meme to explain away the prosperity of the Eighties.  “But at what cost?” being the common refrain.  They talk about the deficits.  But very conveniently leave out that part of how tax revenues doubled at the reduced tax rates.

Well, as time passed the Keynesians got back into government.  In the late Nineties as they kept interest rates low again to stimulate the economy.  Creating the dot-com bubble.  And the early 2000s recession.  George W. Bush cut taxes.  Brought the economy out of recession.  But then the Keynesians went back to playing with those interest rates.  Kept them artificially low.  Creating a great housing bubble.  And the Subprime Mortgage Crisis.

Keynesian economics have failed throughout the last century of trying.  And taxpayers clearly saw this along the way.  Voting for Austrian policies every time economic policy mattered.  Especially after another failure of Keynesian policy.  Every time their policies failed, though, the Keynesians had an excuse.  Supply shocks.  Liquidity traps.  Something.  It was always something that caused their policies to fail.  But it was never the policies themselves.  Despite Mellon, Harding, Coolidge, Kennedy and Reagan proving otherwise.  So they had to try something else.  And they did.  Class warfare.  They transferred the tax burden to the wealthier.  Reduced the number of people paying federal income taxes.  And gave ever more generous government benefits.  This took the failed ideology out of the equation.  Making it easier to win elections.  For when Reagan was in office more than 80% of the electorate were taxpayers.  And Austrian economics won at the polls.  The Nineties ended with only about 65% of the electorate paying federal income taxes.  By 2009 that number shrunk to about only half of the electorate.  Which gave the tax and spend Keynesians an edge over responsible-governing Austrians.  Because people who don’t pay income taxes will vote for policies to increase taxes on those who do.  Not because of concern over economic policy.  But just to get free stuff.  Something Keynesians learned well.  When at first you fail just buy votes.  And then you can continue your failed policies to your heart’s content.

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