A Monetary Policy Primer: US™s Great Depressionassets.cengage.com/pdf/pdf_2015_monetary-policy-primer-great... · ... Deposit Insurance Enacted ... Succeeding US Banking Acts of

A Monetary Policy Primer: US’s Great DepressionNETA 2015 Cengage Teaching Conference

Max GillmanU. of Missouri-St. Louis

Max Gillman U. of Missouri-St. Louis () 1 / 38

Macro Policy Primer: With Money & Banking

Great Recession vs Great Depression Era

Keynes & Depression Era Economics

US Bank Collapse & Government Response

Banking & Monetary Policy

Turning Point of Great DepressionGold and Money RoleThe Day After Gold: Deposit Insurance Enacted

Money Supply & Inflation in Depression

Succeeding US Banking Acts of the 1930s

Government Spending in Depression

Phillips Curves and Deb-Deflation


Crisis Economics & Macroeconomics

"Great Recession" compared to "Great Depression"

Much macroeconomic policy focused on comparison.

Crisis Economics: Still ongoing as is spread Worldwide;

De‡ation now in Europe; Euro falling relative to US Dollar;Banks still struggling to recover.

Macro Policy Debated today formed largely as in 1930s.


Historical Study of "Depression Economics"

"Depression Economics" Samuelson 1949 to 19th ed. in 2009.

Based on Lack of investment in Depression, solved by Govt.Created Keynesian based theory of aggregate economics.Endures with 2 Theories: Keynesian Cross & "IS − LM” models,Supplemented by Nominal Price AS-AD analysis & DSGE.

Two main Results of Cross & IS-LM:

Increase Govt. Money Supply, Spending: increases GDP.

Today, equilibrium conditions derived: Ask same questions.

How economy changes over "normal" business cycleHow changes over long periods of time with economic growth.How changes in Crisis Periods: Banking collapse ofGreat Depression & 2007-2010 (&Vietnam Stagflation period).

Phillips Curves, "Debt-Deflation" & "Rare Event" Theories Related?


Ramsey (RBC, Solow Growth) Ignored by Keynes 1933 :

Essays in Biography:

"But he has left behind him in print (apart from hisphilosophical papers) only two witnesses to his powers - hispapers published in the Economic Journal on "A Contribution tothe Theory of Taxation" in March 1927, and on "AMathematical Theory of Saving" in December 1928. The latterof these is, I think, one of the most remarkable contributions tomathematical economics ever made, both in respect of theintrinsic importance and diffi culty of its subject, the power andelegance of the technical methods employed, and the clear purityof illumination with which the writer’s mind is felt by the readerto play about its subject. The article is terribly diffi cult readingfor an economist, but it is not diffi cult to appreciate howscientific and aesthetic qualities are combined in it together (p.295, original edition, Harcourt, Brace and Company, New York)."


"Real Time" Depression Era Economics

Combined Banking, Monetary & Govt. Spending policies.

Policy Begins: 1930 Tariff Act (Smoot-Hartley) :

decreased trade, growth. Impending legislation "causes?"Stock market crash, bank sector collapse,system-wide bank panic + severe recession.

Pres. Hoover Worsens Disaster:

Balanced budget Act in ’32;increases Corp. Tax Rt; Pers. Tax Rt 25→ 63%.

Depression threat to foundations of democratic societies.

Urgent action required but unclear what to do.

1 Bank law & regulation reform one answer,2 another: Keynes’s (1930, 1936) increase in Govt spending;3 also monetary policy appeared important (not to Keynes?).


Keynes’s Economics

Keynes (1936): excess savings not invested by private sector.

1 Govt should do investment in place of private sector.2 Monetary policy ineffective in Depression.

Govt to do public investment & take up slack in economy.

Keynes’s famous 1936 General Theory:

3 years after Depression Trough.Did not emphasize bank reform or Monetary Policy.1 graph: Savings Supply shifts out more than Invest Demand;similar to 1930 Treatise emphasis on excess savings.

US policy in Great Depression: emphasized banking,

monetary policy & government spending.

Great Depression influences still how Macroeconomics taught today.


US Bank Collapse & Government Response

1 January 22, Reconstruction Finance Corp (RFC) Act of 1932,

federal loans available to entire banking industry plus + life insuranceco.+ railroads.

2 February 27, 1932, enacted Banking Act of 1932,

co-sponsored by Senator Glass and Representative Steagall,Fed Res Bank could make loans to banks in special cases,began as "lender of last resort" instead of RFC .

3 Revenue Act 1932, June 6, raised Pers Income tax 25% to 63%.4 June 1932: Dow Jones Industrial Average hit Depression Low5 July 21, allowed RFC loans funds to state, munic. govt;

designed to increase employment through public works projects;The Emergency Relief and Construction Act of 1932.

6 July 22, 1932, Federal Home Loan Bank Act of 1932

US chartered and regulated savings and loan industry.


March 1933 & Bank Shutdown

1933 unemployment 25%, real GDP down 30%, bank crisis.

1 on March 1, 1933; Federal Reserve Bank of New York gold reservesbelow 40% required gold reserves relative to Federal Reserve Bankcurrency notes (the money stock).

2 On March 3, 1933: Federal Reserve Bank of New York adoptsresolution for nationwide bank holiday

to stop panic and outflow of gold reservesas people cashed in their currency for gold(under the gold standard that held at the time).President-elect Roosevelt reportedly unwilling to consider this.

3 On March 4, 1933, the Federal Reserve’s 12 Regional Banks tookdecision:

locked all 12 Regional Banks,closed/restricted operations of private banks in 37 US States.














to stop panic and outflow of gold reserves

as people cashed in their currency for gold(under the gold standard that held at the time).President-elect Roosevelt reportedly unwilling to consider this.








to stop panic and outflow of gold reservesas people cashed in their currency for gold

(under the gold standard that held at the time).President-elect Roosevelt reportedly unwilling to consider this.








to stop panic and outflow of gold reservesas people cashed in their currency for gold(under the gold standard that held at the time).

President-elect Roosevelt reportedly unwilling to consider this.


























locked all 12 Regional Banks,

closed/restricted operations of private banks in 37 US States.










The US Bank Holiday: March 1933

1 March 4, 1933, F.D.Roosevelt sworn into Offi ce of US President .Inaugural: reduce unemployment & regulate bank sector .

2 1a.m. March 6, Roosevelt suspended all banking transactions; "BankHoliday" lasted until March 9, 1933.

3 Fed Reserve Board classifies private banks into 3 groupsA, B, & C, with A being solvent & able to be reopened now,B being possibly able to be reopened with some restructuring,C being insolvent & unable to be reopened.

4 March 9, President signs Emergency Banking Act of 1933,retroactively approved nationwide bank holiday andset out how government could regulate bank reopenings.

5 March 13, 1933, 12 regional Fed Res Banks reopen.6 By March 15, more than 90% of private banks reopened

and deposits poured in much faster than withdrawals.4000 private banks, 1700 savings & loans declared failed-closed.

7 Dow Jones Ind Av never again fell below March 1933 average.Max Gillman U. of Missouri-St. Louis () 10 / 38

The Turning Point of the Great Depression

Figure: US Real GDP in the 1930s.Max Gillman U. of Missouri-St. Louis () 11 / 38

Figure: US Nominal GNP 1929-1939.


Gold Standard Ended, Money Supply Increased

1 April 5, 1933 proclamation: return gold coins & notes to Fed.

by May 1, 1933, exchanged for Federal Reserve notes.

2 April 19, 1933: Gold export prohibited, offi cially violating GoldStandard rules.

3 April 19, 1933, Senator Thomas drafted the "Inflation Bill"

via Agric. Adjustment Act, reducing gold content of dollar by 50%.And required Fed to purchase $3 billion of US Treasury with Fed Notes.

4 May 10: $800 million in gold coins & notes returned to Fed.5 May 12, Agric Adjust Act enacted; gold value of dollar now 1/2 oforginal.

6 June 5, 1933 Cong Resolution to Suspend Gold Standard & AbrogateGold Clause

eliminated right to claim payment on debt in gold (note or coin).


The Day After Gold: Deposit Insurance Enacted

1 June 6, 1933, Banking Act of 1933 enacted.

Day after US gold standard ended,Glass (D-VA) - Henry Steagall (D-AL) sponsored,restrictions within-state, interstate branching, speculative invest. bybanks.divided banks into commercial or investment banking;

2 Act Permitted federal bank deposit insurance

which Roosevelt threatened to veto, but did not.Established Federal Deposit Insurance Corporation (FDIC)deposit insurance ( $2500 per deposit account) for FDIC memberbanks.FDIC deposit insurance fund capitalized by US Treasury loan $289million.

3 Established Federal Open Market Committee


Money Supply and Inflation in the Depression

October 1929-March 1933 wholesale prices fell 37%,

and farm prices fell 65%,stock prices fell 80%real output two-thirds of 1929 level.

1 January 30, 1934 Gold Reserve Act of 1934 enacted,

fixed the price of gold at $35 (from $20.67)transferred ownership of all US gold to US Treasuryraised US gold stock value by 69.3%.

2 February 1934, US monetary base accelerated upwards.3 March 33- Feb 34: 16% point change in inflation rate


Figure 3

Figure: Real US Monetary Gold Stock Value: 1914-1947.Max Gillman U. of Missouri-St. Louis () 16 / 38

Figure: US Monetary Base: Currency Plus Reserves at Private Banks, 1923-1939.


Figure: Percentage Change in US Consumer Price Index, 1923-1939


Private versus Public Money Supply

Monetary Base in Figure 1.4 was rising reasonably stronglythroughout deflation.

Private bank money was not:

Banks create "money that circulates" when make loans: Private bankmoney,

keeping only fraction of deposits as reserves.

Ratio of currency to (demand plus time deposits) tells dramatic story

From 17.27% in March 1933 to 12% in August 1935.

Similar timing to Stock Market Reversal.

Fed monetary policy: after 1951 "Accord" of US Treasury & Fed.


Figure: US Currency to Demand Deposit Ratio, 1923-1939.


Stock Market Reversal When Deposits Back In Bank

Figure: US, 1915-1960, Dow Jones Industrial Stock Index (red) andCurrency/[Currency+Deposits] (blue).


Irving Fisher (1933) with the Last Word

‘Point 39. Those who imagine that Roosevelt’s avowed reflationis not the cause of our recovery but that we had "reached thebottom anyway" are very much mistaken’(Fisher, 1933, p. 346).


Succeeding US Banking Acts of the 1930s

1 May 12, 1933, Emergency Farm Mortgage Act: loans to farms2 May 27 Executive order creating the Farm Credit Administration(FCA)

3 May 27, Securities Act of 1933: regulated and enforced disclosure4 June 13, Home Owners Loan Act: emerg relief: home loans.5 June 16, The Farm Credit Act of 1933: for Land, Credit, Coop Banks6 June 26, 1934, Federal Credit Union: Federal Credit Union System.7 June 6, Securities Exchange Act of 1934: Sec&Exch Comm (SEC)8 June 28, National Housing Act of 1934:

created Federal Savings and Loan Insurance Corporation (FSLIC)provide deposit insurance to "savings and loans" banks (FDIC in ’89).

9 The Banking Act of 1935 made the FDIC permanent; $5000 limit.10 1936: US Treasury gold vault built at Fort Knox to hold huge goldstock.


Government Spending in the Depression

1 July 21, 1932 Emerg Relief Construction Act: 1.5 Bill public works.2 Economy Act of 1932: fed govt could buy from fed agencies.3 March 20, 1933, Govt Econ.Act: reduce federal pay,veteran ben.4 March 22, end of prohibition with Beer-Wine Revenue Act.5 March 31, Emerg Conservation Work Act: Civilian Cons Corps (CCC).

jobs for otherwise unemployed, with Army help:road building, telephone wiring, tree planting, national park work.

6 May 12, Fed Emerg Relief Act of 1933: unemployment hardship.7 May 12, Agricultural Adjustment Act: first of modern farm bills8 May 18, Tennessee Valley Authority Act: Appalachia public works9 June 16 National Industrial Recovery Act of 1933: minimum wage,public works.

10 June 16, 1933, Emergency Railroad Transportation Act: railroadconsolidation.


Figure: US Unemployment Rate, 1929-1942.


US Government Spending: Historical Experience

Real GDP recovered to above 1929 levels in 1936,

unemployment still at 15% in January 1936.

Fell to near-0 level of August 1929 only in June 1942.

From WWII Govt Spending.

Wartime spending important for unemployment falling.

Figure shows 1940-1945 unparalleled increase in US real Govt/GDP,

peaking about double that of WWI , at 40%.


Total Government Spending share of GDP since 1929

Figure: US Total Government Expenditure as a Share of GDP.


Figure: US Defense Spending as Share of GDP, 1900-2013.


Unemployment and Govt Defense Spending

Unemployment still at 10% as 1941 began.

Govt expenditures already above 20% of GDP by 1931

and stayed relatively constant at that level until WWII .

Defense in Iraq wartime: share of GDP rising to 4.9%, then to 5.6%in 2009:3.

Share of defense in GDP below 5% before WWII ,

and peaked at 41% of GDP during WWII ;

had a 22% peak during WWI .


Figure: US Defense as Share of GDP, 1929-2013.


Figure: US Real GDP 1929-48.


Phillips Curve & Stock Prices: July 2008 to May 2009

Dow Jones Industrial Average: 11,555 on August 1, 2008to 7063 on February 1, 2009, a 39% fall;correlated with Phillips Curve:

Figure: Phillips Curve During US Stock Market Crash & Great RecessionMax Gillman U. of Missouri-St. Louis () 32 / 38

Great Depression % Change Dow Jones IndustrialsJuly 2008 to May 2009

Figure: Great Recession Stock Crash from July 2008 to May 2009


Rare Events & Lost Decades

Consider US "rare events" of

1. Great Depression, 2. Great Recession, &

3. "lost decade" of 1970’s stagflation.

Great Depression has Phillips curve,

for Three years!

starting from May 1929, going to May 1933.


Great Depression 3-year Phillips Curve

Figure: US Phillips Curve During Great Depression


Relation between Stock Prices and Phillips Curves

Dow Jones Stock average percentage change from year ago,

for same period of May 1929 to May 1933.

Strong negative correlation between Phillips Curve &

broad stock price measure.

Shows how decline in inflation rate correlated with decline in assetvalues.

This is idea in Irving Fisher’s theory of debt-deflation.

Asset price deflation can lead to aggregate price level deflation.


Great Depression Percentage Change In Stock Prices

Figure: Dow Jones Industrial Average Percentage Change in Great Depression


Excluding Money, Banking: Keynes & Depression Evidence

No Money in Keynesian Cross

which Keynes set out as theory of Real Priceof average cost plus profit; profit is investment minus savings.

No Private Bank Money is IS-LM analysis:

fixed money supply needed for upward sloping LM;private bank money would make Money Supplyslope upwards.

Nominal Price is common AS-AD, with "Real" Oil shocks.

Killian (2012): Money, Inflation Granger causes 70’s Oil shocks

New-Keynesian DSGE keeps inflation as change in

price of goods as average cost plus monop profit.No money, no sustained inflation source.

Banking Theory & Policy Missing from Standard Macro

but can be integrated in Ramsey AS-AD (Gillman, 2011).


Documents

A Monetary Policy Primer: US™s Great Depressionassets.cengage.com/pdf/pdf_2015_monetary-policy-primer-great... · ... Deposit Insurance Enacted ... Succeeding US Banking Acts of