1929-2008: a similar context

 
1.The American economy is flourishing

The American economy in the 1920s is a prosperous one. The republican president Herbert Hoover, sworn into office in 1929, predicted that “peace would rule the world for many years” and that “the world is at the brink of great commercial growth.” Of course, he had reason to be optimistic. Industrial production, in particular in the automobile sector, was booming.

In recent years, the US economy also boasted strong figures: GDP per capita rose by 2.2% in 2007 (2.9% for the European Union), 3.4% in 2006 (3% in the European Union), and 3.2% in 2005.

 
However, Olivier Pastré, professor at Paris VIII University notes that the US economy –and therefore the world’s- had begun to slow down in the middle of the 1920s, even before the stock market crash. Today, he remarks, the rapid expansion of Asian economies (around 10% growth expected in China in 2008), helps boost American and worldwide growth.

2. With economic growth comes frantic speculation, both in this century and the last

In 1927, 577 million stocks are bought and sold on the New York Stock Exchange. The following year, 920 million stocks are exchanged on Wall Street.

Today, the volume of traded stocks is even huger: more than 2 billion are traded solely on the Nasdaq daily. But the variation between 1927 and 1928 is similar to that between 2007 and 2008. Last June, the number of stocks being traded daily on the Nasdaq stock exchange had grown by 49% compared to June 2007.

3. Easy credit

In the 1920s, the prosperous economy makes it easier to contract a credit loan. Financial speculation attracts many would-be traders. At the time, it is possible to pay only 10% of the value of a stock option to acquire it, and borrow the 90% remaining. Those 90% are the target of most speculations. When the clockwork stopped ticking in 1929, courtiers turned to small shareholders asking them to pay back the 90% loan, driving many to bankruptcy.

Oddly enough, we can find the same the same type of situation in today’s crisis, except that subprime credits were granted to by real estate instead of stock options. Millions of families, in particular low-income families, contracted mortgages whose rates weren’t fixed, but variable. Financial markets then speculated on these mortgages.

 
“The mechanism is the same”, Jacques Attali told French news website lemonde.fr on September 17. “We let people get into debt by buying assets whose value was artificial. In 1929 it was the stock market, today it’s real estate.”

 
1929-2008: Similar market and banking panic

 
In both cases, the epicenter of the crisis was the New York stock market (as opposed, for example, to the 1997 crisis, which began in developing countries and South America.)

 
Markets have experienced similar losses in both crises. According to Robert Parker, vice president of Credit Suisse Asset Management, the market fell as fast in 2008 than in 1929, if not faster. “At the time, markets lost 489% in fourteen months. Today, we have lost 45% in one month” he says.

After Black Thursday, October 24 1929, several smaller scares hit markets from 1930 to 1933. Nine thousand banks, that is 15% of the deposits in the banking system, disappeared in three years. (Source, Economica 2001, Financial Crisis)

Since the summer of 2007, banks once again find themselves at the forefront of the crisis: Fannie Mae and Freddie Mac, Lehman Brothers, Northern Rock… At the United States, in Asia and in Europe, governments have multiplied announces for partial and total nationalization of previously powerful banks.

1929-2008: different political solutions?

 
It will be more interesting to compare both post-crisis periods. One question keeps nagging economic leaders: have the lessons of 1929 been learnt ?

 
Yes, one could say, judging from the spur of activity from federal reserves, central banks and governments : both the Paulson plan and the measures unveiled by France, the United Kingdom and Germany on October 13 are to inject billions into the economy to boost the flow of liquid assets. For the past year, the Fed has deliberately maintained a certain liquidity in financial markets, by keeping interest rates low. That strategy was adopted by most Asian and European central banks, which lowered their benchmark interest rates in early October.

 
In 1929, on the other hand, the only bailout effort came from New York’s Federal Reserve Bank, shortly after October’s market crash. This allowed financial markets to rebound temporarily, but with little confidence and optimism from investors, the market low lasted nearly three years, and cash became scarce. Meanwhile, banks’ interest rates remained high, and credit possibilities dwindled. Government inaction in the face of the crisis was largely blamed on US president Herbert Hoover, paving the way for Franklin D. Roosevelt’s election in 1932. Federal Reserve Chairman Ben Bernanke notes in his “Essays on the Great Depression” (published in 2000) that the countries that abandoned the gold standard and enhanced money supplies emerged from the crisis sooner than those that didn’t.

Another difference: the current global economy is much more open than in the 1930s. At the time, governments favoured protectionist policies, believing they could boost the economy from the inside. Worldwide trade had declined. Today, we seem to have avoided that type of scenario, notably thanks to the industrial and consumerist boom in emerging countries like China, India and Brazil.

That’s where the similarities between the 1929 and 2008 crises end. The American recession really began to hurt between 1930 and 1935, with massive unemployment. It is therefore too early to determine whether industrial countries will escape another Great Depression. One can only hope that the world’s top specialist on the 1929 crisis, none other than current Fed Chairman Ben Bernanke, will make the right decisions…