We live in a complicated world, and things that we use every day work only because thousands of other people make them possible. Consider for a moment your cell phone. Companies make money providing services that make your web surfing possible. People built towers, designed equipment, and maintain software. An entirely different group of people make sure our electric grid continues humming. It would be inconceivable for any one person to make a cell phone function entirely on his or her own.

Our financial systems are equally complicated, and although the Great Depression began nearly a century ago, America’s financial system was complex even then. Everyday Americans went about their daily lives of school, work, family, friendship and fun in a world that relied on bankers, businesses, telegraph operators, and thousands of others to keep the system going.

But things fell apart at the end of the 1920s. Beginning in 1929, the stock market failed, and then banks, farmers, and eventually stores, factories, and then even schools and churches as well. It was as if the entire system was like a house of cards, or perhaps a tower of Jenga bricks that simply could not stand without every other piece being in its exact correct place.

With this analogy in mind, consider what happened at the outset of the Great Depression and consider your own connectedness in the present world. This is perhaps a frightening mental exercise as it might leave you feeling terribly vulnerable and powerless to control your future, but hopefully it will also help you understand the important role each individual plays in make the wheels of modern society turn in harmony.


Few presidents were as loved as Herbert Hoover, and few were as despised as Herbert Hoover. Before running for president, Hoover had coordinated relief efforts for foreign nationals trapped in China during the Boxer Rebellion. At the outset of World War I, he led the food relief effort in Europe, specifically helping millions of Belgians who faced German forces. President Woodrow Wilson subsequently appointed him head of the U.S. Food Administration to coordinate rationing efforts in America as well as to secure essential food items for the Allied forces and citizens in Europe. As an administrator of complex systems, he was unmatched, and as a beloved hero who had saved the lives of countless people, he was renowned.

Hoover’s first months in office hinted at the reformist, humanitarian spirit that he had displayed throughout his career. He continued the civil service reform of the early 20th Century by expanding opportunities for employment throughout the federal government. As the summer of 1929 came to a close, Hoover remained a popular successor to Calvin “Silent Cal” Coolidge, and all signs pointed to a highly successful administration. However, history now counts Hoover among the worst presidents, and his bid for reelection was a total failure.


The promise of the Hoover administration was cut short when the stock market lost almost one-half its value in the fall of 1929, plunging many Americans into financial ruin. However, as a singular event, the stock market crash itself did not cause the Great Depression that followed. In fact, only approximately 10% of American households held stock investments and speculated in the market. Yet nearly a third would lose their lifelong savings and jobs in the depression that followed. The connection between the crash and the subsequent decade of hardship was complex, involving underlying weaknesses in the economy that many policymakers had long ignored.

Although the 1920s were marked by growth in stock values, the last four years saw an explosion in the market. In an article titled “Everyone Ought to Be Rich,” wealthy financier John J. Raskob advised Americans to invest just $15 dollars a month in the market. After twenty years, he claimed, the venture would be worth $80,000. Stock fever swept the nation, or at least those that had the means to invest. In 1925, the total value of the New York Stock Exchange was $27 billion, but by September 1929, that figure skyrocketed to $87 billion. This meant that the average stockholder more than tripled the value of the stock portfolio he or she was lucky enough to possess.

Fueling the rapid expansion was the risky practice of buying stock on margin. A margin purchase allowed an investor to borrow money, typically as much as 75% of the purchase price, to buy a greater amount of stock. Stockbrokers and even banks funded the reckless speculation. Borrowers were often willing to pay 20% interest rates on loans, being certain that the risk would be worth the rewards as the stock increased in value. Both borrowers and lenders was so certain that the market would rise that such transactions became commonplace, despite warnings by the Federal Reserve Board against the practice. Clearly, there had to be a limit to how high the market could reach before everyone realized that the stocks were simply not worth the prices they were selling for.

Secondary Source: Chart

The crash in the stock market is clearly visible in this chart showing the value of the Dow Jones Industrial Average, the average price of major American companies, in the year before and after the crash.

What causes stock prices to fall? Although the workings of the New York Stock Exchange can be quite complex, one simple principle governs the price of stock. When investors believe a stock is a good value they are willing to pay more for a share and its value rises. When traders believe the value of a security will fall, they cannot sell it at as high of a price. Generally, this principle guides day-to-day buying and selling and the market works well. However, if all investors realized all at once that the entire market is overvalued and try to sell all their shares in all they stocks at once and no one is willing to buy, the value of the entire market shrinks.

On October 24, 1929, a day now remembered as Black Thursday, this massive sell-a-thon began.

Sensing a crash underway, J.P. Morgan gathered the leading financiers of Wall Street, twisted arms and they pooled their resources to began to buy stocks in the hopes of reversing the trend. But the bottom fell out of the market on Tuesday, October 29. A record 16 million shares were exchanged for smaller and smaller values as the day progressed. For some stocks, no buyers could be found at any price. By the end of the day, panic had erupted, and the next few weeks continued the downward spiral. In a matter of ten short weeks the value of the entire market was cut in half.

For investors who had purchased stocks on margin, the crash was even worse. After stock prices fell, banks called in their loans, and when the investors sold back their stocks at a loss, they were left with both the cost of the loan to repay, plus enormous interest payments. Instead of enormous profits they had expected, these investors were left with enormous debts. Suicide and despair swept the investing classes of America.


The 1920s have the nickname the Roaring Twenties and this tends to give the impression that the economy was charging along on all cylinders right up until the onset of the Great Depression, but this is not actually the case. In the later half of the decade the economy began to cool. Fewer jobs were being created and factories were turning out fewer goods.

Most importantly, the largess of the decade did not extend to America’s farmers. During World War I, American farmers saved Europe from starving. To feed the struggling people who had lost everything during the war, and to feed America’s own army, farmers had borrowed money to purchase new equipment and put more land into cultivation. However, as Europeans went back to their farms after the war and began feeding themselves, and as the government cut back on food purchases, farmers found themselves hard hit. No one was willing to pay for all the extra food they were growing.

The basic elements of supply and demand kicked in. The demand for farm products fell as the supply soared. Farmers were obligated to pay back their loans but found themselves unable to pay. While their city-dwelling neighbors were buying new refrigerators and dancing at speakeasies, farmers were literally losing their farms to foreclosure as banks took the only thing of value the famers had left.

The problem receives little attention in a study of the 1920s because automobiles, gangsters, and jazz clubs are so much more interesting, but knowing that the economy had was operating with a broken leg, so to speak, helps explain what happened next.


By itself, the crash in the stock market and a slowdown in the economy did not cause the entire system to fail. Many stock market crashes have occurred that have not led to economic depressions. 1929 was different, however. In addition to the stock market, the Depression was initiated by the closure of thousands of banks across the country.

Banks make money by taking in deposits and turning around and loaning that money back out. Borrowers pay interest on their loans, which earns the bank a profit. Depositors trust the bank to hold their money and give them what they need as they need it. If depositors lose trust in the bank, they will stop giving the bank their money, or worse, demand to withdraw all of their money. Since most of the money has already been loaned out, a bank simply does not have the cash necessary to give everyone all their money at once. When rumors spread that a bank was weakening, people would literally run to their bank in order to withdraw their money when the bank still had some cash left before the other depositors got there. This was a run on the bank, and numerous banks were destroyed by bank runs.

Primary Source: Photograph

A run on the American Union Bank. Depositors lined up outside the bank waiting to withdraw all of their savings. Runs like this became common in 1929 as the economy collapsed.

In response to the pressure to show that their institutions were sound, bankers looked for ways to increase their cash supply. One way was to demand the people who had taken out loans pay back those loans early. For stock market investors who had borrowed on margin and had been burned by the crash, this proved impossible. Many other Americans were not able to pay back their loans early.

In November 1930, the first major banking crisis began and over 800 banks closed their doors by the end of the year. By the end of 1931, over 2,100 banks were out of business. The economy as a whole experienced a massive reduction in banking as more than 9,000 closed by 1933.


Economists are not all in agreement as to the exact reason the overall economy finally failed. Certainly the stock market had crashed and banks were closing, but the economy is complex, and there are differing explanations that try to make sense of the catastrophe that we call the Great Depression. The most common explanations are based on the work of Milton Friedman, Anna J. Schwartz, and British economist John Maynard Keynes.

Primary Source: Drawing

A caricature of John Maynard Keynes by Dennis Low. Highly respected for his ideas and understanding of the economy, Keynes was also criticized as being a promoter of dangerous ideas that might lead to government take-over.

In his great book “The General Theory of Employment, Interest and Money,” Keynes focused on demand in the economy. The consensus among demand-driven theories is that a large-scale loss of confidence led to a sudden reduction in consumption and investment spending. Once panic set in, people believed they could avoid further losses by staying out of business. It was safer to hold on to any cash, rather than risk putting it in bank, spending it, or buying stock. Holding money became profitable as prices dropped lower and a given amount of money bought ever more goods, exacerbating the drop in demand. As people held on to their money, the total amount of money flowing through the economy shrank. Although the total number of dollars out in the world had not changed, the total number available had fallen. Friedman and Schwartz called this the Great Contraction and viewed it as the primary cause of the Great Depression. Economists believe that the Great Depression started as an ordinary recession, but the shrinking of the money supply greatly exacerbated the economic situation, causing a recession to descend into the Great Depression.

After an earlier economic crisis, Congress had created the Federal Reserve Board (Fed), an independent branch of the government that serves as a bank for banks. In theory, when times are tough, the Federal Reserve can loan money to banks to prevent them from failing. However, as the country was slipping into the Depression, the Federal Reserve did not deal with the real problem. They saw that the total amount of money had not changed, and assumed that the economy was still sound. In reality, they focused on the wrong factor. It mattered little how much money existed, if so little of it was flowing through the economy.

There is consensus that the Federal Reserve should have prevented banking collapse by printing and injecting more money into the economy. If they had done this, the economic downturn would have been far less severe and much shorter.


Keynes’ basic idea was simple: to keep people fully employed, governments have to borrow money when the economy is slowing. When the private sector cannot invest enough to keep production at the normal level and bring the economy out of recession, it is government’s role to pick up the slack. As the Depression wore on, President Franklin D. Roosevelt embraced Keynes’s ideas and tried to cure the problem through enormous public spending, including construction projects, payments to farmers, and other devices to restart the economy. According to the Keynesians, this improved the economy, but Roosevelt never spent enough to bring the economy out of recession until the start of World War II.

Milton Friedman, Anna J. Schwartz and their followers are called Monetarists. They argued that the solution lay in the banking crisis. If the Fed had lowered interest rates and allowed banks to borrow enough money to stop the disastrous bank runs, the financial system would have survived and recovered. By not lowering interest rates, by not increasing the monetary base and by not injecting liquidity into the banking system to prevent it from crumbling, the Federal Reserve passively watched the transformation of a normal recession into the Great Depression. Instead, the Federal Reserve allowed some large public bank failures, particularly that of the New York Bank of United States, which produced panic, and the Federal Reserve sat idly by while banks collapsed.

It is worth noting that the explanation for the Great Depression and both solutions have little to do with the stock market itself, although the Black Thursday Crash of the market made flashy headlines and is best remembered. As usual, history is complicated and defies easy explanation.

For everyday Americans, the explanation mattered little. Life was hard no matter what precisely was causing their pain. For us today, we can appreciate the hard work that talented economists such as Keynes, Friedman and Schwartz have done to understand the crisis, and hope that future generations of American politicians and economic leaders will learn from the mistakes of the past so that we will never have to live through another Great Depression.


Farmers took out loans to pay for equipment and land to grow food the government needed. Then as the government cut back on purchasing farmers found themselves unable to pay back the loans. Banks found themselves in a position of needing cash, but farmers, and then in 1929 stock speculators who had purchased on margin, had no cash to pay.

Banks failed because depositors lost trust, not just one-by-one, but en masse. No banker, no matter how talented, could overcome the crush of a bank run. Then, as banks failed, the businesses that relied on those banks for daily operations also crumbled. Workers found that their favorite stores were closing, and then the workers who had just lost their jobs stopped shopping, leading to a cascade of bad news.

Looking back at the start of the Great Depression, and at other economic crises that have followed, we can see how insignificant any one person is in this great web of cause and effect. We feel a bit like one grain of sand on a beach pounded by the waves. Certainly, the beach could not exist without sand, but no one grain seems to make any particular difference on its own.

So, we can appreciate how the choices of others, especially when multiplied together, can have an enormous impact on our own lives. And we should consider how our own choices, insignificant though they may seem in isolation, can combine with the actions of millions of others to create massive changes in the world.



BIG IDEA: Poor economic decisions in the 1920s led to a financial crisis in 1929, and poor decisions by government officials made the problem worse and turned the crisis into the Great Depression.

President Hoover had been a popular public servant during the 1920s. He was the third Republican president during the 1920s and it seemed like he would be popular as president as well.

When the stock market was doing well in the 1920s, people thought that prices would only go up. To cash in on the opportunity to make money, some investors borrowed money to buy stocks, thinking that they could pay back the money later when the stock price went up. Eventually stock prices fell and these investors lost all their money. Although participation in the stock market increased during the 1920s, only 10% of all Americans had purchased stock. The failure of the stock market in 1929 made the Great Depression worse, but did not cause the Great Depression.

The 1920s was not a good decade for farmers. They had taken out loans to buy new equipment and open up new land for farming during World War I, and when demand fall after the war, they could not pay back their loans.

Some banks began to fail. They made loans that borrowers could not pay. Sensing that a bank was in trouble, people who had depositors ran to a bank to withdraw all their savings. This sort of bank run ruined both well-run and poorly-run banks. When bank failures spread to New York City, the economy failed.

The real cause of the disaster was a failure of the Federal Reserve to respond to the crisis. Instead of supplying banks with funds to continue operation, the Fed held back and the nation fell into the Great Depression.



Milton Friedman: Economist who studied the Great Depression along with Anna Schwartz.

Anna J. Schwartz: Economist who studied the Great Depression along with Milton Friedman.

John Maynard Keynes: British economist who proposed the idea that in times of economic recession or depression the government must borrow and spend in order to jump start economic activity. His ideas formed the justification for the New Deal and later government programs such as President Obama’s stimulus.

Federal Reserve Board (Fed): Independent government agency that is responsible for managing the overall economy by serving as the lender of last resort for the nation’s banks.


Foreclosure: When a bank takes back property such as a house or farm if the owner is unable to repay a loan.

Bank Run: When depositors run to a bank to withdraw all their savings because of a rumor that the bank is failing. The result is that the bank fails since it does not have cash to cover all the withdraws.


Black Thursday: October 24, 1929, the day the stock market crashed and a traditional starting date for the Great Depression although the crash did not start the depression by itself.

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