As the summer of 1929 drew to a close, the celebrated Yale university economist Irving Fisher took to the pages of the New York Times to opine about Wall Street. Share prices had been rising all year; investors had been speculating with borrowed money on the assumption that the good times would continue. It was the bull market of all time, and those taking a punt wanted reassurance that their money was safe.
Fisher provided it for them, predicting confidently: “Stock markets have reached what looks like a permanently high plateau.” On that day, the Wall Street Crash of October 1929 was less than two months away. It was the worst share tip in history. Nothing else comes close.
The crisis broke on Thursday 24 October, when the market dropped by 11%. Black Thursday was followed by a 13% fall on Black Monday and a further 12% tumble on Black Tuesday. By early November, Fisher was ruined and the stock market was in a downward spiral that would only bottom out in June 1932, at which point companies quoted on the New York stock exchange had lost 90% of their value and the world had changed utterly.
The Great Crash was followed by the Great Depression, the biggest setback to the global economy since the dawn of the modern industrial age in the middle of the 18th century. Within three years of Fisher’s ill-judged prediction, a quarter of America’s working population was unemployed and desperate. As the economist JK Galbraith put it: “Some people were hungry in 1930 and 1931 and 1932. Others were tortured by the fear that they might go hungry.”
Banks that weren’t failing were foreclosing on debtors. There was no welfare state to cushion the fall for those such as John Steinbeck’s Okies – farmers caught between rising debts and crashing commodity prices. One estimate suggests 34 million Americans had no income at all. By mid-1932, the do-nothing approach of Herbert Hoover was discredited and the Democrat Franklin Roosevelt was on course to become US president.
Across the Atlantic, Germany was suffering its second economic calamity in less than a decade. In 1923, the vindictive peace terms imposed by the Treaty of Versailles had helped to create the conditions for hyperinflation, when one dollar could be exchanged for 4.2 trillion marks, people carted wheelbarrows full of useless notes through the streets, and cigarettes were used as money. In 1932, a savage austerity programme left 6 million unemployed. Germany suffered as the pound fell and rival British exports became cheaper. More than 40% of Germany’s industrial workers were idle and Nazi brownshirts were fighting communists for control of the streets. By 1932, the austerity policies of the German chancellor Heinrich Brüning were discredited and Adolf Hitler was on course to replace him.
Timeline of turmoil.
It would be wrong to think nobody saw the crisis coming. Fisher’s prediction may well have been a riposte to a quite different (and remarkably accurate) prediction made by the investment adviser Roger Babson in early September 1929. Babson told the US National Business Conference that a crash was coming and that it would be a bad one. “Factories will shut down,” Babson predicted, “men will be thrown out of work.” Anticipating how the slump would feed on itself, he warned: “The vicious cycle will get in and the result will be a serious business depression.”
Cassandras are ignored until it is too late. And Babson, who had form as a pessimist, was duly ignored. The Dr Doom of the 2008 crisis, New York University’s Nouriel Roubini, suffered the same fate.
F Scott Fitzgerald described the Great Crash as the moment the jazz age dived to its death. It marked the passing of a first age of globalisation that had flourished in the decades before the first world war with free movements of capital, freedom and – to a lesser extent – goods. In the decade or so after the guns fell silent in 1918, policymakers had been trying to re-create what they saw as a golden period of liberalism. The Great Depression put paid to those plans, ushering in, instead, an era of isolationism, protectionism, aggressive nationalism and totalitarianism. There was no meaningful recovery until nations took up arms again in 1939.
In Britain, recovery was concentrated in the south of England and too weak to dent ingrained unemployment in the old industrial areas. The Jarrow march for jobs took place in 1936, seven years after the start of the crisis. It was a similar story in the US, where a recovery during Roosevelt’s first presidential term ended in a second mini-slump in 1937. Sir Winston Churchill, who lost a packet in the Crash, described the period 1914 to 1945 as the second 30 years’ war.
Only one other financial meltdown can compare to the Wall Street Crash for the length of its impact: the one that hit a climax with the bankruptcy of Lehman Brothers in September 2008. Without the Great Depression, there would have been no New Deal and no Keynesian revolution in economics. Roosevelt might never have progressed beyond the New York governor’s mansion in Albany. Hitler, whose political star was on the wane by the late 1920s, would have been a historical footnote .
Similarly, without the long-lingering effects of the 2008 crash, there would have been no Brexit, Donald Trump would still be a New York City builder and Europe would not be quaking at the possibility of Marine Le Pen replacing François Hollande as French president.
Not since the 1930s have there been such acute fears of a populist backlash against the prevailing orthodoxy. As then, a prolonged period of poor economic performance has led to a political reaction that looks like feeding back into a desire for a different economic approach. The early 30s share with the mid-2010s a sense that the political establishment has lost the confidence of large numbers of voters, who have rejected “business as usual” and backed politicians they see as challenging the status quo.
Trump is not the first president to urge an America-first policy: Roosevelt was of a similar mind after he replaced Herbert Hoover in 1933. Nor is this the first time there has been such a wide gulf between Wall Street and the rest of the country. The loathing of the bankers in the 20s hardened into a desire for retribution in the 30s.
According to Lord Robert Skidelsky, biographer of John Maynard Keynes: “We got into the Great Depression for the same reason as in 2008: there was a great pile of debt, there was gambling on margin on the stock market, there was over-inflation of assets, and interest rates were too high to support a full employment level of investment.”
There are other similarities. The 20s had been good for owners of assets but not for workers. There had been a sharp increase in unemployment at the start of the decade and labour markets had not fully recovered by the time an even bigger slump began in 1929. But while employees saw their slice of the economic cake get smaller, for the rich and powerful, the Roaring Twenties were the best of times. In the US, the halving of the top rate of income tax to 32% meant more money for speculation in the stock and property markets. Share prices rose sixfold on Wall Street in the decade leading up to the Wall Street Crash.
Inequality was high and rising, and demand only maintained through a credit bubble. Unemployment between 1921 and 1929 averaged 8% in the US, 9% in Germany and 12% in Britain. Labour markets had never really recovered from a severe recession at the start of the 20s designed to stamp out a post-war inflationary boom.
Above all, in both periods global politics were in flux. From around 1890, the balance of power between the great European nations that had kept the peace for three quarters of a century after the battle of Waterloo in 1815 started to break down. The Ottoman and Austro-Hungarian empires were in decline before the first world war; the US, Germany and Russia were on the rise.
More importantly, Britain, which had been the linchpin of late 19th-century globalisation had been weakened by the first world war and was no longer able to provide the leadership role. America was not yet ready to take up the mantle.
Stephen King, senior economic adviser to HSBC and author of a forthcoming book on the crisis of globalisation, Grave New World, says: “There are similarities between now and the 1920 and 1930s in the sense that you had a declining superpower. Britain was declining then and the US is potentially declining now.”
King says that in the 20s, the idea of a world ruled by empires was crumbling. Eventually, the US did take on Britain’s role as the defender of western values, but not until the 40s, when it was pivotal in both defeating totalitarianism and in creating the economic and political institutions – the United Nations, the International Monetary Fund, the World Bank – that were designed to ensure the calamitous events of the 30s never happened again.
“There are severe doubts about whether the US is able or willing to play the role it played in the second half of the 20th century, and that’s worrisome because if the US is not playing it, who does? If nobody is prepared to play that role, the question is whether we are moving towards a more chaotic era.”
There are, of course, differences as well as similarities between the two epochs. At this year’s meeting of the World Economic Forum in Davos, Switzerland, held in the week of Trump’s inauguration, members of the global business elite found reasons to be cheerful.
Some took comfort from technology: the idea that Facebook, Snapchat and Google have shrunk the world. Others said slapping tariffs on imported goods in an era of complex international supply chains would push up the cost of exports and make it unthinkable even for a country as big as the US to adopt a go-it-alone economic strategy. Roberto Azevêdo, managing director of the World Trade Organisation said: “The big difference between the financial crisis of 2008 and the early 1930s is that today we have multilateral trade rules, and in the 30s we didn’t.”
The biggest difference between the two crises, however, is that in the early 1930s blunders by central banks and finance ministries made matters a lot worse than they need have been. Not all stock market crashes morph into slumps, and one was avoided – just about – in the period after the collapse of Lehman Brothers.
Early signs from data for industrial production and world trade in late 2008 showed declines akin to those during the first months of the Great Depression. Policymakers have been rightly castigated for being asleep at the wheel while the sub-prime mortgage crisis was gestating, but knowing some economic history helped when Lehman Brothers went bust. In the early 30s, central banks waited too long to cut interest rates and allowed deflation to set in. There was a policy of malign neglect towards the banks, which were allowed to go bust in droves. Faced with higher budget deficits caused by higher unemployment and slower growth, finance ministers made matters worse by raising taxes and cutting spending.
The response to the Crash, according to Adam Tooze in his book The Deluge, was deflationary policies were pursued everywhere. “The question that critics have asked ever since is why the world was so eager to commit to this collective austerity. If Keynesian and monetarist economists can agree on one thing, it is the disastrous consequences of this deflationary consensus.”
At the heart of this consensus was the gold standard, the strongly held belief that it should be possible to exchange pounds, dollars, marks or francs for gold at a fixed exchange rate. The system had its own automatic regulatory process: if a country lived beyond its means and ran a current account surplus, gold would flow out and would only return once policy had been tightened to reduce imports.
After concerted efforts by the Bank of England and the Treasury, Britain returned to the gold standard in 1925 at its pre-war parity of $4.86. This involved a rise in the exchange rate that made life more difficult for exporters.
What the policymakers failed to realise was that the world had moved on since the pre-1914 era. Despite being on the winning side, Britain’s economy was much weaker. Germany’s economy had also suffered between 1914 and 1918, and was further hobbled by reparations. America, by contrast, was in a much stronger position.
This changing balance of power meant that restoring the pre-war regime was a long and painful process, and by the late 20s the strains of attempting to do so were starting to become unbearable in just the same way as the strains on the euro – the closest modern equivalent to the gold standard – have become evident since 2008.
Instead of easing off, policymakers in the early stages of the Great Depression thought the answer was to redouble their efforts. Peter Temin, an economic historian, compares central banks and finance ministries to the 18th-century doctors who treated Mozart with mercury: “Not only were they singularly ineffective in curing the economic disease; they also killed the patient.”
Skidelsky explains that in Britain, the so-called “automatic stabilisers” kicked in during the early stages of the crisis. Tax revenues fell because growth was weaker while spending on unemployment benefits rose. The public finances fell into the red.
Instead of welcoming the extra borrowing as a cushion against a deeper recession, the authorities took steps to balance the budget. Ramsay MacDonald’s government set up the May committee to see what could be done about the deficit. Given the membership, heavily weighted in favour of businessmen, the outcome was never in doubt: sterling was under pressure and in order to maintain Britain’s gold standard parity, the May committee recommended cuts of £97m from the state’s £885m budget. Unemployment pay was to be cut by 30% in order to balance the budget within a year.
The severity of the cuts split the Labour government and prompted the formation of a national government led by MacDonald. Philip Snowden, the chancellor, said the alternative to the status quo was “the Deluge”. Financial editors were invited to the Treasury to be briefed on measures being taken to protect the pound, and when one asked whether Britain should or could stay on the gold standard, the Treasury mandarin Sir Warren Fisher rose to his feet and thundered: “To suggest we should leave the gold standard is an affront not only to the national honour, but to the personal honour of every man or woman in the country.”
The show of fiscal masochism failed to prevent fresh selling of the pound, and eventually the pressure became unbearable. In September 1931, Britain provided as big a shock to the rest of the world as it did on 23 June 2016, by coming off the gold standard.
The pound fell and the boost to UK exports was reinforced six months later when the coalition government announced a policy of imperial preference, the erection of tariff barriers around colonies and former colonies such as Australia and New Zealand.
Britain was not the first country to resort to protectionism. The now infamous Smoot-Hawley tariff had been announced in the US in 1930. But America had a recent history of protectionism – it had built up its manufacturing strength behind a 40% tariff in the second half of the 19th century. Britain, as Tooze explains, had been in favour of free trade since the repeal of the corn laws in 1846.
“Now it was responsible for initiating the death spiral of protectionism and beggar-thy-neighbour currency wars that would tear the global economy apart.”
Britain’s 1931 exit from the gold standard meant it secured first-mover advantage over its main rivals. For Germany, the pain was especially severe, since the country’s mountain of foreign debt ruled out devaluation and left Chancellor Brüning’s government with the choice between default and deflation. Brüning settled for another round of austerity, not realising that for voters there was a third choice: a party that insisted that national solutions were the answer to a broken international system.
The reason borrowing costs were slashed in 2008 is that central bankers knew their history. Ben Bernanke, then chairman of America’s Federal Reserve, was a student of the Great Depression and fully acknowledged that his institution could not afford to make the same mistake twice. Interest rates were cut to barely above zero; money was created through the process known as quantitative easing; the banks were bailed out; Barack Obama pushed a fiscal stimulus programme through Congress.
But the policy was only a partial success. Low interest rates and quantitative easing have averted Great Depression 2.0 by flooding economies with cheap money. This has driven up the prices of assets – shares, bonds and houses – to the benefit of those who are rich or comfortably off.
For those not doing so well, it has been a different story. Wage increases have been hard to come by, and the strong desire of governments to reduce budget deficits has resulted in unpopular austerity measures. Not all the lessons of the 1930s have been well learned , and the over-hasty tightening of fiscal policy has slowed growth and caused political alienation among those who feel they are being punished for a crisis they did not create, while the real villains get away scot-free . A familiar refrain in both the referendum on Brexit and the 2016 US presidential election was: there might be a recovery going on, but it’s not happening around here.
Internationalism died in the early 30s because it came to be associated with discredited policies: rampant speculation, mass unemployment, permanent austerity and falling living standards.
Totalitarian states promoted themselves as alternatives to failed and decrepit liberal democracies. Hitler’s Germany was one, Stalin’s Soviet Union another. While the first era of globalisation was breaking up, Moscow was pushing ahead with the collectivisation of agriculture and rapid industrialisation.
What’s more, the economic record of the totalitarian countries in the 30s was far superior to that of the liberal democracies. Growth averaged 0.3% a year in Britain, the US and France, compared with 3.1% a year in Germany, Italy, Japan and the Soviet Union.
Erik Britton, founder of the consultancy Fathom , says: “The 1920s saw the failure of liberal free-trade, free-market policies to deliver stability and growth. Alternative people came along with a populist stance that really worked, for a while.”
There is, Britton says, a reason mainstream parties are currently being rejected: “It is not safe to assume you can deliver unsatisfactory economic outcomes for a decade without a political reaction that feeds back into the economics.”
Economic devastation caused by the Great Depression did eventually force western democracies into rethinking policy. The key period was the 18 months between Britain coming off the gold standard in September 1931 and Roosevelt’s arrival in the White House in March 1933.
Under Hoover, US economic policy had been relentlessly deflationary. As in Germany – the other country to suffer most grievously from the Depression – there was a dogged insistence on protecting the currency and on balancing the budget.
That changed under FDR. Policy became both more interventionist and more isolationist. If London could adopt a Britain-first policy, then so could Washington. Roosevelt swiftly took the dollar off the gold standard and scuppered attempts to prevent currency wars. Wall Street was reined in; fiscal policy was loosened. But it was too late. By then, Hitler was chancellor and tightening his grip on power. Ultimately, the Depression was brought to an end not by the New Deal, but by war.
King says the world is already starting to become more protectionist in terms of movement of capital and labour. Trump has been naming and shaming US companies seeking to take advantage of cheaper labour in the emerging countries, while Brexit is an example of the idea that migration needs to be controlled.
The US supported the post-war global instutional framework: the UN, IMF and European Union, through the Marshall plan. “It tried to create a framework in which individual countries could flourish,” King adds. “But I don’t see that [happening again] in the future, which creates difficulties for the rest of the world.”
So far, financial markets have taken a positive view of Trump. They have concentrated on the growth potential of his plans for tax cuts and higher infrastructure spending, rather than his threat to build a wall along the Rio Grande and to slap tariffs on Mexican and Chinese imports.
There is, though, a darker vision of the future, where every country tries to do what Trump is doing. In this scenario, a shrinking global economy leads to shrinking global trade, and deflation means personal debts become more onerous. “It becomes a vicious, self-fulfilling cycle,” Britton says. “People seek answers and find it in authoritarianism, populism and protectionism. If one country can show it works, there is a strong temptation for others to follow suit.”
This may prove too pessimistic. The global economy is growing by around 3% a year; Britain and the US (if not the eurozone) have seen unemployment halve since the 2008-09 crisis; low oil prices have kept inflation low and led to rising living standards.
Even so, it is not hard to see why support for the policy ideas that have driven the second era of globalisation – free movement of capital, goods and people – has started to fracture. The winners from the liberal economic system that emerged at the end of the cold war have, like their forebears in the 20s, failed to look out for the losers. A rising tide has not lifted all boats, and those who do not consider themselves the beneficiaries of globalisation have grown weary of hearing how marvellous it is.
The 30s are proof that nothing in economics is inevitable. There was eventually a backlash against the economic orthodoxies and Skidelsky can see why there is another backlash happening today. “Globalisation enables capital to escape national and union control. I am much more sympathetic since the start of the crisis to the Marxist way of analysing things.
“Trump will be impeached, assassinated or frustrated by Congress,” Skidelsky suggests. “Or he will remain popular enough to overcome the liberal consensus that he is a shit of the first order. After all, a lot of people agree with what he is doing.”