Lecture 03 The Great Depression and ‘Recovery’ in the 1930s introduction

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Lecture 03

The Great Depression and ‘Recovery’ in the 1930s

This lecture will consider how the origins of the 1929-32 Great Depression, and how it affected the economies of France, Germany and Spain in the 1930s. It will be divided into two parts:
1. Sources of Instability.
2. The Depression Internationally.
2. Case studies of Spain, France and Germany.

1. I suggested in the lecture last week that it was possible that the economic changes resulting from World War I and the 1920s were responsible for the crisis of the 1930s. In a very accessible article, published in the Economic History Review in May 1992, Barry Eichengreen has examined this line of reasoning. He identifies four variants of this hypothesis based on a careful reading of the existing literature:
a. Changes in the composition of production. This argument has suggested that the changes between old and new industries in the 1920s left many countries vulnerable to cyclical instability. In particular, it has been suggested that because of the increased emphasis that many industrialised countries gave to ‘consumer durables’, the American economy in particular was vulnerable to cyclical instability.
b. Operation of the labour market. High unemployment punctuated the 1920s, and it has been suggested that wage inflexibility during and after World War I was the cause of this. Thus even before the onset of depression, there was high unemployment in many European countries.
c. Operation of the international monetary system. Due to the haphazard nature of currency stabilisation, it has been argued that many countries had a tendency for balance of payments shocks which could destabilise economic stability. As we suggested last week, domestic political constraints and international political disputes limited the extent of international co-operation in the 1920s.
d. Pattern of international settlements. Again, last week we suggested that the pattern of lending post-1914, with vast amounts of American money going into Germany, coupled to the ‘unsound lending’ of the 1920s gave the impression that growth and lending could be sustained, unchecked, indefinitely.

2. Let us expand on some of these thoughts:

a. Although the depression and the Wall Street Crash of October 1929 are popularly thought of as almost the same thing, they are in fact different. The American economy began turning down before he market crash – the peak of the business cycle being August 1929.
b. Aldcroft believes that ‘events in the US together with that country’s influence over the world economy, determined to a large extent the timing, the severity and the duration of the depression’. There were two major shocks that America administered to the world:
– Cessation of foreign lending. The involvement the US had with capital exports is well known. Throughout the 1920s, the world’s leading creditor exported large sums of money to foreign nations. The nature of some capital flows has often been queried – why did America send money to already rich countries? As the decade wore on, US loans became increasingly dubious. The 1925-29 years were, according to Mintz, a period of ‘unsound lending’. Yet the crucial question is how far this caused instability.
It did so by forcing many countries to rely on a continuous flow of foreign capital – thereby guaranteeing that any reductions would lead to severe economic difficulties. When American lending did collapse, the impact on Europe was that many countries faced balance of payments problems. Germany, Poland, Finland and Italy suffered a severing of capital inflows.
– Peaking of the boom. The American economy was not under any strain in mid-1929 with high profits, stable wages and excess capacity in industry. By September, inventories had risen, indicating a consumer resistance to production. Why consumer durable sales curbed is not entirely clear – perhaps the best explanation is that the market for consumer goods was becoming saturated. Industrial production began to fall as unemployment rose. The capital goods industries were the worst hit and by 1932, output was a quarter of 1929 levels. A most important ‘real’ factor was the decline of residential and non-residential construction.
A second major source of weakness was to be found in the US agricultural sector. Farm incomes did not rise after 1925 as increasing world supplies caused down-ward pressures on the prices of most agricultural products.
c. The monetary factors (which according to Aldcroft played a relatively minor part in the initial breaking of the boom) have attracted a high degree of interest. Whether the real forces were more pronounced at first and were exacerbated by monetary forces is not clear cut. Yet there was a reduction in the rate of growth of the money supply from 1928, which preceded the cyclical down-turn. Friedman and Schwartz claim that this, coupled to the American Federal Reserve’s failure to raise interest rates, was also a cause of the depression.
d. While economic historians have long since dismissed the Wall Street Crash as an agent in the decline of output and employment, Romer has recently suggested that the rise in stock market volatility ushered in a new era of uncertainty. Households deferred their purchases of expensive items, and according to Fearon, the crash ‘imparted a deep psychological shock and created a suspicion of financial institutions’.
e. The US was not the only cause of attrition. As Moulton and Pasvolsky argued in 1932, the economic equilibrium between Europe and the United States was destroyed in the First World War. Kindlerberger argued that instability could have been overcome only by effective international leadership which involved three things:
– The maintenance of a relatively open market for distress goods;

– The provision of counter-cyclical long-term lending;

– Discounting in crises.
In short, this was a period of ‘abdication of responsibility’.
f. As the Hawley-Smoot tariff was introduced in June 1930, and US protection increased considerably, international retaliation was swift. Fearon claims that it is difficult to calculate the effects of increased tariffs during the depression. Import and export demand were affected independently from tariffs, argues Fearon, due to the widespread decline in incomes and economic activity. Yet Meltzer is more convincing, claiming that the Hawley-Smoot tariff was responsible for keeping United States prices relatively high, thereby reducing the demand for US exports and simultaneously curbing imports.

1. The depression was first seen as little more than an ordinary downward phase of the business cycle. There were signs in 1930s America that the decline was levelling as a revival in international lending got underway. Yet this was an illusion, for the economic conditions actually worsened.
2. Conditions became dire throughout 1930-31. Deflationary policies were seized upon with glee by governments, attempting to balance budgets and external accounts. The big creditor countries were themselves experiencing difficulties, so short and long term funds did not find themselves transferred from creditor to debtor nations. Thus the European financial crises of 1931 can be pinpointed as the failure on the part of creditor countries to provide accommodating finance to overcome the effects of the depression.
3. The prominent monetarists (Schwartz and Friedman) believed that after 1930, the Federal Reserve could have halted the severity of the crisis. The FED failed to increase the quantity of money sufficiently to offset deflationary forces, argued Friedman. The money stock declined by one third between August 1929 and August 1933. Whilst some of the decline was inevitable by late-1930, open market operations did not provide sufficient banking reserves after this date. Temin concludes that the monetary school cannot offer a reason for the deepening depression after 1931, yet he concedes that there is evidence of monetary restriction after this date.
4. The precedent of the 1931 financial crises were aggravated by creditors suffering monetary problems. The US was afflicted with a wave of bank failures after the stock market crash, so that by 1931, international commitments were cut even further. France received monetary jitters, weakening confidence and leading to demands for liquidity.
The bubble burst in May, with the crash of the Austrian Credit Anstalt which accounted for over two-thirds of the total deposits of the Austrian banking system. Panic followed swiftly on the heels of this collapse and London saw £200 million leave the country due to a loss of confidence in Britain’s ability to maintain solvency. The New York and Paris finance houses came to rescue too late, and Britain took the step of coming off the gold standard on 21 September 1931.
5. The effect of Britain leaving the gold standard can be examined two-fold.
a. The response of other countries. While Britain was the first major nation to leave the gold standard, the response of other countries was to follow a similar course of action. Those especially linked to British trade such as the Scandinavian countries, Japan and the Dominions (except South Africa) left and devalued. The competitive disadvantage faced by the US, France, Belgium, Switzerland and the Netherlands made extra effort essential within these countries in order to reduce costs. Thus tariffs, quotas and exchange controls were used extensively by these countries. The impact of a deflationary package in Germany during 1931 did stabilise the Reichsmark, but at the same time, national income was reduced by 60%, most international loans were in default and over a third of the labour force was unemployed.
b. The advantages and disadvantages of abandoning gold. Obviously those countries which departed from the GS and depreciated their currencies saw a boost for their exports. Any external indebtedness in some countries reduced insofar as their debt was held in terms of currencies which had depreciated. Yet those countries which went onto depreciate their own currencies below the level of the currencies in which their debts were due, found the external burden of their debt greater than before!

6. Primary producers. Almost all primary producers found it impossible to restrict output. Farms could not close down easily, and as attempts were made to raise domestic prices, overseas competitors were encouraged to produce more at lower prices. The results of this were that wheat importing nations of Europe actually increased wheat output between 1928 and 1934! Big importers like the USSR became large exporters.

The adverse situation created trade problems for countries such as Australia, who during 1930-31 had to export three times as much as in 1924-25 to meet her debt service charge and twice as much to buy the same quantity of imports. Such obscure twists in the terms of trade once favourable to primary economies, led to severe financial strains for many nations.
1. Although Spain was later spared the worst effects of the 1929-32 depression, her economic progress was held back following the outbreak of the Civil War in 1936.
2. The 1929-33 slump seems to have left Spain relatively intact. Whilst slump raged within other economies, it was argued that the slump brought significant benefits to Spain. For example, the fall in the price of raw cotton was beneficial to textile producers. Falling costs of production meant cheaper finished goods which in turn stimulated consumer demand in the domestic market.
3. We should note:
a. Unemployment not so high in the slump compared to other countries.

b. Industrial production sluggish anyhow.

c. Foreign trade did contract.

4. So down to the mid-1930s, Spain was lucky to escape the harshness of the depression. Yet due to the extreme state of backwardness, she failed to recover in the mid-1930s.

5. In July 1936, there was a military rebellion by army units throughout Spain and it marked the opening of a brutal Civil War.
On the one side there was Nationalist Spain with plenty of agricultural products, and these were the ‘rebels’. The legal, Republic Zone was made up of working class industrialists, the urban bourgeoisie and the rural labour force who had done well under the agrarian-reforms.

6. The biggest problem of the war was monetary. How did both military camps finance their battles?

The Republic was in a better financial position to address this issue for two reasons:
a. Provinces which had remained loyal to the Republic contributed 70% of budgetary revenue.
b. Bulk of Spain’s gold reserves were located in the Bank of Spain, where the Republic had control.

7. Nationalist Spain attempted to generate income through levying tobacco sales, visiting the cinema, theatre and bull fights, consumption in bars, etc. Nationalist factions also received monetary aid from fascist Italy and Nazi Germany.

8. The performance of the industrial strategy was far from satisfactory over this war-time period. There was confusion on the factory-floor as workers were faced with different ideological choices. Consequently, productivity was effected.

9. The cost of the Spanish Civil War is worth noting:

a. Persons killed in battle (200,000 – 1/10 of all combatants).

b. Persons murdered (130,000).

c. Deaths from air raids. malnutrition and post-war reprisals (135,000)

= 1/2 million

d. In 192 of Spain’s cities and towns, 3/5 of all buildings were destroyed.
10. Spain was still, in 1939, suffering from the legacy of is difficult economic past. Indeed, through much of the 1940s, it struggled to improve upon its performance of the 1930s, and it was not until the 1950s, that improvements began to take place.

11. Despite all the economic woes which befell Spain, she did not fare as badly in the 1929-32 world slump. This is scant compensation for an economy which was a cause of such bloody conflict from 1936.

1. The 1929-32 depression in France:
a. As an exporting economy, France was seriously affected by the falling off in demand world-wide by the end of 1929. For example, many countries who had been ordering luxuries from France no longer had the money to pay for such goods.
b. The other problem for France was that from 1931, reparation payments were suspended. As France had been receiving quite a bit of money from Germany, this meant that she would see a fall in her income coming from abroad.
c. We said earlier that the franc had been a relatively undervalued currency from 1926, and this gave French exporters an advantage. However, when the British devalued the pound in 1931, followed by many other European currencies and the US dollar, this left the franc relatively over-valued. French goods were no longer so price competitive abroad – and exports orders dropped off.
d. As for the decline in exports:
– Receipts from tourism fell by 90 per cent between 1930 and 1933.

– Textile exports declined by 80 per cent between 1929 and 1932.

– Motor vehicles exports declined by 65 per cent.

– Iron and steel exports fell by 50 per cent.

e. As you can imagine, the decline in overseas sales for France was severe. Many French companies went bankrupt, investment in the economy fell, there was an air of economic malaise and stagnation in France.
f. However, unlike Britain or Germany, French unemployment in this period rose from very low levels in 1929 to 260,000 by 1932 (which was low by international standards). The reasons for this were simple:

– Agricultural sector was able to absorb unemployed workers.

– The labour shortages in France during the 1920s.
g. France also escaped the financial crises that affected most of Europe in 1931. This was mainly because of the Bank of France’s huge stock of gold reserves.

2. What did the Government do to try and alleviate the depression in France?

a. The 11 different French Governments that were formed between 1932 and 1935 all insisted that the value of the franc should be maintained.
b. Tariffs were levied on most imports – agriculture was the highest protected sector.
c. The protection given to the farm lobby (which obviously had a strong support in the government) was extended to small businesses. Most of the large supermarket chains which had been growing since the late-1920s, were restricted by the Government. The Government thought that if it limited the number of new entrants to the trade and industry sector, it would give those existing shops and businesses a better chance of survival.

3. In these times of economic strife, some business leaders and government officials became worried about the prospect of social, as well as economic, stability. A number of fascist groups emerged in France, whilst the industrial working class in France turned to the parties of the left: socialists and communists.

4. In 1934, the Popular Front of left wing parties were formed. It was a coalition, whose aim was to win power in the General Election of 1936.
The more important parties which made up this coalition were the Socialists, led by Leon Blum, Communists and Radical Socialists.
Their aim was to reverse the price falls in the economy, improve incomes and let consumption bring recovery through greater sales of goods in the shops.
In May 1936, Blum became Prime Minister, and Daladier (the Radical leader) as his deputy.

5. The victory of the Popular Front promised much for the agriculturists. The Popular Front needed to befriend the peasantry to harness mass support for some of their policies favouring industrial workers.

By establishing a Wheat Board which guaranteed minimum prices for wheat production, farmers were protected from the general deflation which was prevalent in France.

6. Just when the Popular Front was about to take office in June 1936, Blum was faced with massive and widespread strikes and factory occupations by the working class, as they demanded higher wages. These strikes had little connection to the trade unions.

The Government agreed to talks, culminating in the Matignon Agreement of 1936, which brought average wage rises of 12.5 per cent. Paid holidays were also introduced, and the new Government set up a Ministry for Recreation to attempt to improve the quality of life.

7. How successful was the Blum experiment at encouraging recovery through increased expenditure?

It is generally regarded as a failure. Whilst the wage increases of the Matignon Agreement improved living standards, the extra costs of wages added to inflationary pressures. Inflationary pressures were also being stoked up by growing public expenditure on welfare, public employment and defence. Rising money incomes were also being offset by he increased price of food, following the success of the price fixing Wheat Board.
Devaluation of the franc was also resisted because of the association with inflation. Some rich families began to take gold in suitcases out of the country, pending changes with the exchange rate.
Blum was also attacked by the right-wing because he was a Jew. Anti-Semitism grew in France, and in June 1937, he was replaced as prime minister. In 1938, he formed a second cabinet, but resigned when his financial proposals were rejected by parliament.

8. Paul Reynaud, who became PM from October 1938, restored confidence in the franc a la Poincaré, and recovery returned to France. He increased taxation, abandoned public works programmes and ordered rearmament on a large scale. But the rearmament did not stop France being invaded in May 1940.

1. The Nazis felt that their economic policies from early 1933 to 1939 were a success. They said that unemployment had been high in 1932, yet by 1938 it was down to 1%. Between 1932-38 industrial production doubled. Earnings went up by 10%.
2. Economic policy was a means to an end. The primary national socialist aim was autarky. This ran contrary to the economic views on specialisation.
3. The economic scene:
a. Unemployment – eradicated. Nazi emphasised their successes in reducing unemployment. They began by encouraging manufacturing to use more labour than machines. Marriage bonuses were given on condition that the wife did not resume her job after marriage. pressure was put on businesses to employ more workers. Pay was kept low, but jobs expanded.
b. Manufacturing – from 1933 road building was important. Hitler hoped for the multiplier effects. Car manufacture was increased. Commercial vehicles were built. Hitler began to re-arm in 1936.
c. Labour shortages. By 1936, there was a labour shortage. Nazis increased work hours in industries most effected. It was not a consumer society but a producer society. As public investment increased, revenue did not rise as fast as expenditure. There was a budget deficit.
From 1935, each employee had a labour book. Without this, there was no job. Employer kept the wage book and therefore workers could not leave their jobs.
Low priority industries – for consumption – low wages.

High priority industries – for production – high wages.

d. Agriculture – more demands for farm produce with imports cut. Farms were issued with quotas. Farmers had fixed price for food.
e. Internationally – Germany never devalued. Tariff barriers kept balance of payments in surplus. Exchange controls were introduced. The government tried to persuade business to produce substitutes. Imports on bi-lateral basis of barter.
Hitler had everyone who disagreed, shot. From 1936, Hitler is in control.

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