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Keith Rankin: Understanding the Great Depression of the 30s

Understanding the Great Depression of the 1930s

by Keith Rankin
21 December 2011

At a time when the likelihood of a global crisis of the magnitude of the 1930s' Great Depression is significantly raised, we remain stoically ignorant of the underlying causes of that event, and of the eventual recovery.

The subject is difficult to teach in schools, because there are no adequate explanations sufficiently distilled for a lay audience. In higher education, the absorption of economics teaching into business schools, and the resulting de-emphasis of the subjects of economic history and the history of economic thought have meant that even the experts we look to have little real idea of what happened.

Economics as a discipline serves more as a career path for economists than as a serious attempt to investigate real-world economic phenomena. The dominant form of economics – neoclassical economics – represents the study of idealise markets rather than of real-world phenomena. Further, economics discourse is excessively about policy, because it is in policy where the technocratic jobs are.

Thus, the two principal explanations of the Great Depression are that it was a catastrophic failure of either fiscal policy or of monetary policy. Further, explanations of historical economic events inevitably reflect the changing fashions in economic thought; and too many predominant economists hail from the United States, giving a heavily Americanised favour to what was a truly global event.

Keynes' General Theory (1936), which did have many important things to say about the Great Depression, became emasculated and institutionalised (Keynesian macroeconomics) as a narrow set of policy prescriptions around government spending and taxation (fiscal policy). Thus the Great Depression represented a failure of fiscal policy. Indeed, the Great Depression did see many failures of fiscal policy. Nevertheless, such failures fall far short of an explanation.

Keynesian macroeconomics fell into disfavour in the 1970s, in part because its textbook manifestation did not provide good explanations and remedies for the "Great Inflation" of 1974 to 1982. So, in a "back to the future" move, pre-Keynesian classical macroeconomics came back into vogue, under the name of "monetarism" and in the name of Milton Friedman.

So the Keynesian explanation of the Great Depression was given short shrift, and a monetarist explanation seemed to become the only explanation. In this view, the whole global catastrophe was caused by failures of the US Federal Reserve Bank (the "Fed") to cut interest rates soon enough, and by a sufficient amount. This is a view to which the present chairman of the Fed (Ben Bernanke) substantially supports, albeit with much more nuance than Friedman ever showed.

Yes, there were failures of monetary policy, in many countries. But, once again, they fall far short of an explanation for the Great Depression. (In a more recent vein, a well-known contrarian documentary, "Inside Job", is seen by many as offering a sufficient explanation of the 2008 Global Financial Crisis. While the movie reveals much very bad behaviour within financial organisations, in reality it falls far short of an explanation. Banks were in fact actively involved in recycling money, a task that had to be done by someone.)

It is not my intention here to write a treatise on the causes and resolution of the Great Depression. Rather I will mention three authors.

Of those who experienced the Depression as a young person, Charles Kindleberger has been consistently the most readable and enlightening. Although born in the United States, thanks in part to his parentage he always understood the Depression to be a global event, and recognised that it could never be properly understood if addressed in essentially a national context.

Of established economic historians still practising their craft today, the most useful authors are Barry Eichengreen and Peter Temin. A good article written by both is "The Gold Standard and the Great Depression" from the 2000 volume of the journal Contemporary European History. They argue that "the most important barrier to actions that would have arrested or reversed the decline was the mentality of the gold standard". This is important to us today because the mentalities around the present Euro crisis, and around the price mechanism upon which neoclassical economics is based, are almost no different from those 1920s' mentalities that Eichengreen and Temin expose.

The third author I would mention is the Taiwanese economist Richard Koo, who has made a substantial career with Nomura Bank in Japan. Koo, who had exhaustively studied and written about the Japanese experience of the 1990s, finds close parallels with both the post GFC (global financial crisis) environment, and with the 1930s' Great Depression. A most useful reference here is the 2009 edition of his book "The Holy Grail of Macroeconomics - Lessons from Japan’s Great Recession"; also Koo's December 2011 article in the Real World Economics Review ("The world in balance sheet recession: causes, cure, and politics", see blog at

In his book, Koo even devotes a segment to the New Zealand economy, as the polar opposite of the Japanese economy through the 1990s to mid-2000s. Koo's big (and very important) idea, that of a "balance sheet recession", was discussed in my 28/07/2011 Scoop article "Global Balance Sheet Recession"). The central idea is that the private sector, at certain times, runs substantial financial surpluses, regardless of the interest rate. (See my 20/12/2011 Scoop article "Global Debt Crisis") In particular, Koo emphasises the role of technically insolvent corporates repaying debt, and only being able to if governments take on that debt.

Keynes, in his General Theory, strongly emphasised the role of the "propensity to consume" (which essentially means the willingness to spend), and the role of uncertainty with respect to our future incomes. Keynes actual emphasis was on the private sector's rising "propensity to save" (ie the increasing preference of households and firms to not spend) in the face of rising uncertainty. It is in this direction, through focussing on private rather than government behaviour, that any understanding of substance of economic crises can be found. Crises in policy, and in banking, are merely symptomatic of these deeper issues.

We need to address the issues of the Great Depression now. Better late than never. Any substantial analysis of the 1930s' global economic crisis requires an understanding of the overly cautious or greedy private behaviours that "gum up of the works" (Margaret Atwood: Payback, Debt and the Shadow Side of Wealth); behaviours of ordinary "mums and dads" (not only the proverbial Japanese housewives and Belgian dentists) and cash-hoarding businesses. It is up to us as private individuals to remedy our lack of knowledge of this time. Library books on the Great Depression should have long request lists. My guess, however, is that most will still be sitting gathering dust in the shelves or back-room stacks.


Keith Rankin teaches economics in Unitec's Department of Accounting and Finance.

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