Crash into You

It’s been amazing to read the number of headlines that liken our current problems with the Crash of 1929 and the subsequent Great Depression. It is quite telling of the level of fear and anxiety that plagues the market as we enter the fourth quarter. But how apt a comparison is our situation today to the Crash/Great Depression? I had to revisit the history books to find out.

The first interesting note was that crash of 1929 in and of itself did not create the Great Depression. In fact, as the new decade started, the US economy had not yet retrenched in a major way. But at the end of 1930, a series of bank panics started to spook other banks, as well as consumers. Hundreds of banks eventually closed and by 1932, consumption and investment collapsed, stocks had fallen more than 80% from the top and economic activity cratered by a staggering 30%.

This brings us to the present, where stocks have fallen by over 20% from the October 2007 top, people are starting to worry about bank failures and all of the sudden, the current credit and housing crises are compared to the Crash and the Great Depression. Let’s start by understanding how things are different today.

First of all, one commentator recently noted that the best reason that we should not believe that “the big one” is coming is because we are actually talking about it. Depressions do not often occur when the mainstream media and ordinary people are openly voicing concern about them, as is the case today. Rather these seismic events usually occur when the opposite it true--when no one is worried about them.

Additionally, today we do have the benefit of history upon which to draw. Many economists, including our very own Federal Reserve Chairman Ben Bernanke, have examined the Great Depression and its roots causes. Remember that the Fed was not established until 1913 and after the crash of 1929 the central bank was not as strong as it is today--years passed before the government could flood the economy with cash.

In the 1980’s, Bernanke wrote extensively about the Great Depression and believed that one of the root causes was the fact that as banks closed, loan officers vanished and left nobody to vouch for the borrowers credit quality. Bernanke and many others have studied the causes and solutions to that period and as a result, when the Fed finally woke up and realized what was going on, it acted by implementing creative and unusual liquidity measures.

One big difference between then and now is the existence of the Federal Deposit Insurance Corporation (FDIC). The program was established in 1933 to guarantee the safety of checking and savings deposits. Today, with that insurance in place, the average investor is assured that his or her deposits up to certain amounts are safe. In fact, there is now consensus forming around increasing FDIC insurance from 100K to $250K.

Finally, our economy and the global economy is so different from the world of 1929-1934. The country is far richer today, which means that far fewer people are living on the edge of despair. This does not mean that we do not have poor people, but that the numbers have been reduced. In fact, most households may not have the same net worth that they had two years ago, but the vast majority are in decent shape.

None of the aforementioned historical reference means that all is honky-dory in the US economy. We have serious problems that need addressing and perhaps that is the best lesson of the awful Great Depression—doing nothing would be repeating the past and potentially dooming us for some pretty nasty times ahead. The doing something is not about “bailing out Wall Street,” rather it is about trying to avert a long-term and damaging consequences.