A World Depression?

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In the summer of 1929 a few prophets foresaw the coming stock market crash. Only one gifted with second sight could have foreseen the sequel-a world depression historians would single out by calling Great. In the United States at any rate, most of the business community continued to believe in permanent prosperity, until the bottom fell out. In contrast to this optimism on the brink of the abyss, the mood of business in the United States, Western Europe and Japan today is deeply pessimistic. The doomsayers among us see the current world economic slowdown not as an ordinary recession of the familiar postwar variety but as the onset of something closer to what happened in the early 1930s.

Can support for such fears be found in an analysis of the causes of depression and the present state of the world economy? Or are they mainly a psychological phenomenon-a manifestation, perhaps, of anxiety about the state of the world and of a certain loss of nerve?

To answer these questions it is well to combine historical and analytical approaches-focusing, in the former, on the causes of the Great Depression in order to shed light on whether any comparable contraction of economic activity is probable today; and, in the latter, examining the background and causes of the present recession in order to see how serious it is likely to be.

The Great Depression was caused by a prolonged contraction of the money supply in the principal industrial countries, which brought about a massive deflation of incomes and prices, not only in these countries but in the world at large. In the three-year period 1930-32, the combined money supply of the four largest countries-Britain, Germany, France and the United States-contracted by some 18 percent, and in the United States alone it fell by more than 26 percent. Since it would probably have required about a 10 percent increase in the money supply of these four countries in this period to maintain full employment, it is hardly surprising that the world fell into a deep depression.

This extraordinary monetary contraction was due partly to gross mismanagement on the part of the U.S. and French monetary authorities. In the main, however, it is attributable to the fallibility of the monetary institutions of the day-in particular, the shortcomings of the U.S. Federal Reserve System and an international monetary system, the gold-exchange standard, that was highly efficient in transmitting monetary disturbances.