The 1920's was a decade marked by high growth, thus the name, the "roaring 20's". This growth was spurred by the advent of a new technology, unlike the world had ever seen before. It was called the automobile. It is common that when one industry does extremely well, it creates a multiplicative impact, leading to growth in the entire economy.
This rapid growth led to an economic concept called "overcapacity". What happens is that managers of firms make predictions for next year, based on sales for this year. They then begin to purchase or build infrastructure to meet that expected demand. Unfortunately, when demand does not meet expectations, yet money has already been expended for "capacity", the only way to survive financially is to slash expenses. The largest expense for any firm is always labor. Thus, begins the layoffs and the sharp decline of the business cycle.
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In that decade, another factor was that banks were very crucial to the financial markets performing the role of lender (commercial bank) and stock/bond intermediary (investment bank). This led to some financially incestuous relationships as these banks invested in the same firms they had the power to lend to. Uncomfortable with the banking industry, the public all ran to get their money from banks at the same time, making the depression greater. (bank runs)
Another 1920's fact was that large firms called "trusts" were created by barons like JP Morgan and they specialized in buying up small firms and putting the little guy out of business. There existed a lot of public resentment toward these trusts.
In 1933, America had enough of this four year long Great Depression and began to take action. They created the Glass Steagal Act which put in place measures to ensure that future depressions not take place. A brief list of its components includes:
o Separation of commercial banks and investment banks
o No stock investing for commercial banks
o Creation of the FDIC
o Allowing the Federal Reserve to Monitor Interest Rates and the Economy
o Anti-trust Department to monitor all acquisitions
o No interstate banking
You know what it is interesting. The 1990's was a decade marked by high growth. This growth was spurred by the advent of a new technology, unlike the world had ever seen before. It was called the internet. At that time, anything that had dot.com associated with it appeared to be an instant gold-mine. It is common that when one industry does extremely well, it creates a multiplicative impact, leading to growth in the entire economy.
This rapid growth led to an economic concept called "overcapacity". What happens is that managers of firms make predictions for next year, based on sales for this year. They then begin to purchase or build infrastructure to meet that expected demand. Unfortunately, when demand does not meet expectations, yet money has already been expended for "capacity", the only way to survive financially is to slash expenses. The largest expense for any firm is always labor. Thus, begins the sharp decline of the business cycle. Feeling déjà vu yet?
Add to this obvious comparative analysis what happened at the end of this decade. A piece of legislation was passed called The Financial Services Modernization Act of 1999. We could focus on the fact that this act allowed commercial banks to invest in stocks. We could instead focus on the fact that investment banks and commercial banks were now allowed to be one firm again. (JPMorganChase) But instead, let's focus on the fact that in the parentheses of the title of this act is "the repeal of the Glass Steagal Act.
So, it seems that the decade prior had some interesting similarities to the roaring 20's. it also does not help the situation that some of the very mechanisms put in place to keep the economy from collapsing for that long a time again, have actually been rescinded. We as a society like to blame business cycle declines on our least favorite government leader. But it appears that there were some economic infrastructure problems that doomed history to once again, repeat itself.
By Dr. Craig Bythewood
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