12.3.1 Economic Collapse

When the economic collapse that came to be known as the Great Depression began in the United States in 1929, it ended the postwar boom and sent the entire world’s economy reeling. No economic depression is caused by one element alone. One contributing factor, however, was economic instability that the rising stock market in the United States had camouflaged.

The stock market had set new highs seemingly every year of the 1920s. Some of the increase in stock prices and the resulting valuations of companies’ worth made perfect sense at the time. Companies were in fact selling new products, and more of them. Electric ovens, washing machines, and radios were all highly desirable new consumer items. However, by the late 1920s, the stock market was beset by a wave of pure speculation, that is, the buying and selling of shares based solely on bets that stock prices would go even higher, though unsupported by increased product sales. This guesswork drove stock prices up until they became dangerously overvalued.

Stock prices began to drop sharply in the fall of 1929 and eventually crashed, bringing bank failures in their wake as banks’ investments in stocks lost value. The lack of banking regulations meant that if a bank went bankrupt, those who had placed their money on deposit there lost all their savings. Ironically, when customers began to withdraw their funds because they feared a bank would fail, they often inadvertently triggered that failure, since banks hold only a small percentage of their money as cash in their vaults and invest the rest. Not only did these failures hurt depositors in the banks; they left many communities without the means to obtain loans for businesses or farms, which further compromised the economic health of an area.

Contributing to the Depression was the buying of consumer items on credit. When the Depression came, households struggling with job losses put their remaining income into keeping a roof over their heads and food on the table. Their defaults on their credit payments starved the stores, which then had to lay off more workers to stay afloat. Meanwhile U.S. industry had grown significantly and was producing consumer goods at an unprecedented rate. With consumers both at home and abroad unable to purchase, however, the twin problems of overproduction and underconsumption ground the economy to a halt. Contributing to this financial catastrophe was the unequal distribution of wealth. When the Depression began, the majority of American families (80 percent) had no savings at all, so a job loss quickly led to homelessness and hunger (Figure 12.11).

The Smoot-Hawley Tariff Act of 1930 was an example of the isolationist and protectionist policies the U.S. government followed in the 1920s. An increased tariff of nearly 40 percent had already been enacted in 1922. Smoot-Hawley raised tariff rates another 20 percent on more than twenty thousand kinds of imported goods, supposedly to protect American farmers and industries from foreign competition. These extreme rates caused other countries to institute their own retaliatory high tariff rates on U.S. goods. Therefore, the industrial might of the United States was stymied because its residents were unable to purchase goods due to job losses and lack of income, and its businesses were unable to recoup any of their monies by selling goods overseas. Smoot-Hawley was the highest tariff the U.S. government has ever enacted. It helped stifle world trade, which decreased 30 percent by the early 1930s.

One of the key aspects of the Great Depression was the way it encumbered foreign trade around the globe. Worldwide gross domestic product (GDP)—the value of all the goods and services a country produces in one year—decreased by 15 percent between 1929 and 1932. With trade plummeting, many U.S. banks began recalling loans made to foreign businesses and countries, which caused crises in other places.