Great Depression vs Current Recession

The Great Depression and the Current Recession David Gillies, Melissa Phillips, Chad Ruter, and Pat Warren University of Sioux Falls Consumer Price Index The consumer pricing index (CPI) is a measure of the price level of consumer goods and services. The U. S. Bureau of Labor Statistics began calculating and issuing the monthly calculation in 1919. The CPI is calculated by observing price changes among a wide range of products and weighing these price changes by the share of income consumers spend to purchase them.

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The CPI focuses on approximating a cost of living index and can be used to evaluate our currency and prices. CPI is defined as “a measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services” (Federal Reserve Bank, 2010). The consumer pricing index can be used for three things “(1) as a Cost of Living Index (COLI); i. e. , as a measure of the relative cost of achieving the standard of living when facing two different sets of prices for the same group of commodities; (2) as a consumption deflator; i. . , the price change component for a decomposition of a value ratio into price and quantity components and (3) as a measure of general inflation” (Federal Reserve Bank, 2010). The CPI is used to understand whether the economy is experiencing a period of inflation or deflation, as well as the severity of the upturn or downturn. “Economists generally agree that deflation is a widespread fall in prices, as measured by the consumer price index” (Gross, 2010). To be considered deflation the consumer price index would need to decline for at least one year.

For consumers, a fall in prices may sound like a benefit, but in fact, the ripple effect of deflation can include increased unemployment rates, instability in the stock market, decreased home values, and a general decline in the economy. Businesses tend to minimize their investments during a period of deflation to prevent severe losses. As businesses invest less, they may also reduce their payroll by laying off personnel, reducing incentive based compensation programs, or cutting salaries. This has an impact on consumer ability to pay off fixed rate loans such as mortgages, which in turn impacts the financial services industry.

In contrast, consumers may find some benefits from a period of deflation as the cost of goods they purchase drop. “In episodes of sustained deflation, as prices fall, the buying power of cash increases” (Christensen, 2009). The consumer pricing index can be used to compare our current recession to the Great Depression of the 1930s. During the great depression prices fell on average of fifteen percent. “This deflation was driven by a decline in output, demand, and credit – too little money and wages chasing too many goods and workers” (Gross, 2010).

The United States is once again experiencing a period of deflation based on data collected over the past three years. In 2008 the US had four straight months of a declining consumer price index in the months of August to December. The consumer price index had at least one month of downturn in both 2009 and 2010. In the last few months it has stayed right around zero but did have a slight decline in June. Deflation is usually seen when unemployment numbers are high and business output slows, Christensen (2009). The current economy is experiencing high rates of unemployment with a current national rate of 9. 5%.

The level of deflation the US has experienced over the past few years has taken its toll, but it is not as severe as what was experienced during the Great Depression. Experts usually agree that slight inflation is a good thing that fuels the economy. Gross (2010) states “Experience shows that a rate of inflation around 2 or 3 percent helps the economy perform at full potential with maximum sustainable employment”. In fact even the Federal Reserve wants the rate of inflation to be positive. “One Federal mandate is to provide price stability, which means a consistent, reliable annual inflation rate” Gross (2010).

So with this in mind evaluating our current recession compared to the great depression is very easy. The US may have lower inflation than desired, but the country is not in a major state of deflation. If the positive inflation numbers continue, it may be seen as a sign that the US may be emerging from the current recession. Gross Domestic Product Gross domestic product (GDP) is defined as “the market value of all final goods and services produced in an economy in a given year” Federal Reserve Bank (2010). The gross domestic product is a good measure for growth in the economy. So far this recession, the nation’s gross domestic product, the broadest measure of economic activity, has dropped about 1. 7%” Isidore (2009). It is forecasted that the total drop in Gross domestic product will be around 3. 4% by the end of our current recession as stated by Isidore (2009). During the great depression there was a large reduction in the gross domestic product. Isidore (2009) says that between 1929 and 1933 the United States gross domestic product fell 26. 5%. This is a huge decline compared to the current recession our economy is in.

The risk of a sharp decline in GDP is a lot less likely now due to some of changes that have been made since the great depression. “Unemployment insurance, social security payments and larger government at the federal, state, and local levels keep money flowing into the economy even as consumer and business pull back on their own spending” Isidore (2009). Another tool that the government has used recently are the large stimulus packages. Hembre said “the $787 billion stimulus package passed by Congress in February will also spur more economic activity down the road” Isidore (2009).

Some people do not agree with the stimulus package but it is argued that money needs to be spent to avoid having the gross domestic product drop more when consumers spend less and business produce less. People are keeping a positive outlook that this recession to not turn into a depression. “ In the paper for the National Bureau of Economic Research last month, Harvard University professors Robert Barro and Jose Ursue put a chance of a minor depression (which they defined as GDP decline of at least 10%) at about 20% and a 3% change of a major depression (defined as a GDP drop of at least 25%)” Isidore (2009).

Although they say it is a small risk of a major depression, “we still need to take action and stop it”. Real Estate Values Some similarities in the behavior of real estate values during the current recession compared to the great depression exist. In both economic crises, values have dropped. By the end of 2009, average home prices fell by approximately 13% from the peak in 2007, according to U. S. Census Bureau data. Federal Housing Finance Agency (FHFA) statistics show slightly lower price drops from 2007 to 2009 (6. 8% for all-transactions index, and 10. % for the purchase-only index) (FHFA, 2009). The most commonly accepted way to track property values is the Case-Shiller Home Price index (U. S. News and World Report, 2009). Created by Karl Case and Robert Shiller, the index tracks data on repeat sales of single-family homes. The index goes back to 1890, allowing a study of inflation-adjusted property values over time. The data shows that since 1890, prices have essentially kept pace with inflation, despite some very large rises and falls. In comparison, home prices declined 30% during the 1930’s.

With prices already approaching 20% drops in some markets (Schiller, 2009), it is possible that prices could drop to the same depression-era levels if the recession continues or worsens. Currently, there are approximately 10 million homeowners whose debt is higher than their home value. This has broad implications on how Americans feel about their wealth and spending habits. According to the National Association of Realtors, some people believe that house prices will bottom-out soon, and then begin a recovery. Historically, housing markets don’t have “V-shaped” recoveries (U.

S. Census data, 2010), and even if house prices stabilize, many homeowners will continue to lose money even after adjusting for inflation. Another similarity between the current recession and the great depression, is the increase in home mortgage foreclosures. For the current recession,, the government enacted a program aimed at preventing foreclosures, but it has been largely ineffective. Of the 1. 1 million homeowners participating last year, only 170,000 had completed the loan modification process by February 2010 (Wall Street Journal, 2010).

Delinquency rates are rising, and this is likely to further weaken the housing market. Most delinquencies end up in forfeiture, so the supply of housing is expected to increase, further causing property prices to drop. After staying at 3% or below from 1994 to 2007, seasonally adjusted delinquency rate rose in 2008, reaching 6. 58% by the end of the year, and 10. 14% by the end of 2009. Loans are considered delinquent when they are past due for thirty past days or more. Foreclosures filings exceeded 308,500 in February 2010, up 6% from the previous year.

February saw the lowest foreclosure increase since January 2006, but still marked the 50th consecutive month of annual foreclosure activity increases (RealtyTrac, 2010). The leveling-off of the foreclosure trend is not necessarily evidence that fewer homeowners are in distress, but could be the result of foreclosure prevention programs, legislation and other processing delays that are in effect, slowing monthly foreclosure activity. These types of programs could be enough of a recovery measure to prevent the real state market from reaching the depression-era decreases in the author’s opinion. Another factor that is similar in both the current recession and the great depression, is the decrease in new construction. In this recession, construction of residential properties has fallen by over 1 million units annually. In 2004 and 2005, the number of housing units authorized for construction based on building permits exceeded 2 million. Since then, permits were down to 572,000 units in 2009, below the average of 1. 5 million units built annually from 1990 to 2007.

A mere 554,000 dwellings were started in 2009, down from an average of 2 million dwellings in 2004 and 2005. Completions likewise dropped to 794,000 units in 2009 from an average of 1. 9 million from 2004 to 2006. Weak construction activity will likely drag the economy further. Each new home built creates 3 jobs for a year and $90,000 in local and federal taxes (National Association of Homebuilders, 2009). Unemployment Unemployment is down from the current recessions high of 10. 6% in January 2010 to a rate of 9. % in July 2010 (U. S. Bureau of Labor Statistics, 2010). It should also be noted that 10. 6% unemployment is the highest seen in the U. S. since the great depression, and there have only been three years since 1940 that have surpassed the 9% mark, 1941, 1982, and 1983(U. S. Bureau of Labor Statistics, 2010). There is no clear definition of what level of unemployment constitutes a depression and not a recession, but from 1931 to 1939, unemployment was at 15. 9% or higher, reaching its highest level in 1933 at 24. 9%.

So although unemployment is currently higher than it has ever been in recent history, with a few exceptions, it still has not reached the levels attained during the great depression. The method for measuring unemployment is different now than it was during the great depression, and the job market has changed as well. In the author’s opinion, there appears to be more people engaged in part-time employment that wasn’t available during the great depression and part-time employed people don’t count as unemployed even though a large percentage of them are not earning enough to keep them above the poverty line.

During the great depression, as many as 200,000 workers per year were being replaced by automation (Watkins, 1993) adding to the unemployment problem. While the author couldn’t find any hard data for the number affected by improvements in technology during the current recession, it seems logical that companies would be doing everything possible to reduce costs. If technology isn’t available, company strategies have included moving operations overseas where minimum wage laws either don’t exist or are only a fraction of what they are in the U. S.

While unemployment numbers this high have only been seen twice since the great depression, and taking into account the unreported unemployed that exist now, that did not during the great depression, from an unemployment standpoint, the current economic crisis is a recession, not a depression purely from an unemployment standpoint. Except for one month out of the two and a half year recessionary period, unemployment has stayed in the single digits. Another factor that may hold the current economic crisis at a recession instead of a depression, is the percentage of dual-earner families.

The author believes that the number of dual-earner families today will help decrease the number of households that are left completely without an income. The author could not find statistics on duel-earner families from the 1930s, which isn’t surprising considering the idea didn’t take hold in America until the 1940s due to World War II. Even with the war, by 1966, only 35% of families in the U. S. were dual-earner families. That number increased to 66% by 1993 (Winkler, 1998). Banking

Throughout history there existed periods of economic uncertainty caused by a number of entities, with varying degrees of severity. One such entity at the forefront of virtually every economic crisis is the banking industry. Regardless of interest rate, unemployment rate or foreign markets, economics woes are often placed at the banking industry’s doorstep. There are numerous similarities and differences in both the Great Depression and the current recession. During both time periods, a lack of consumer confidence in the banking industry has weighed heavily on both eras.

Although not without merit, a lack of consumer confidence was fueled in the 1930’s as the banking system collapsed; despite immense government investments, today’s banking system is still badly damaged (Schoen, 2009). Just prior to the 1930’s when the housing market began to slip and unemployment was already growing rapidly, millions of people spent their life savings on get rich quick schemes and banks loaned enormous amounts of credit with as little as 20% in actual cash to obtain this credit.

Similarly in today’s environment, as the housing market tanked in late 2007, banks were loaning consumer’s huge home loans with very little financial backing. As a result, huge amounts of debt were created by questionable banking practices (Schoen, 2009). Despite these questionable practices, the impact on banks themselves was vastly different between both time frames. There were only 57 bank failures from Dec. 2007 through May 2009, compared to more than 9,800 from 1929 through 1934 (SEI Investment Management Unit, 2009).

That’s not to say that our current recession won’t see additional bank failures, but to date the numbers between eras are greatly different. Another difference surrounds the composition of the various banks themselves. For example, from 1929 to 1933 was when universal banks were split into commercials banks and investment banks. However, the current global turmoil has transformed many investment banks into large commercial banks (Merinews, 2010). In hindsight, a shift in the need or priorities of the time will shape the outcome of a bank.

An important change was made after the turmoil of the 1930’s that changes the way banks operate today. In the 1930’s, the FDIC was created and there was no deposit insurance and no requirement that a bank keep a percentage of reserves. Today, any bank that offers customers FDIC insurance must keep a percentage of assets available, and the FDIC putting in the balance required to return the insured limit should a run occur (Why the Recession of 2008 is more like the Great Recession than the Great Depression, 2010). Stock Markets

Often times there are strong periods of economic gain that precede market crashes like that of the Great Depression and our current recession. The Roaring Twenties were a golden age in technology as innovations were expanding rapidly in various industries like radio, automobiles, telephone and aviation. The same economic burst was felt in early 2000 up until 2007, led by the housing market which was at its strongest point in decades, and low interest rates and easy credit adding to the market strength. Before the 1929 stock market crash, there was a period of incredible stock prices from 1921 until 1929 were the DOW rose 500%.

In the present day before the 2008 crash, from 2002 until October of 2007 the DOW rose 94% (SEI Investment Management Unit, 2009). Many economists believe that strong economic gains can only last for so long before a backlash is felt and the stock market fluctuations were severe during both time periods. The DJIA (Dow Jones Industrial Average) from Oct. 7, 2007 – March 9, 2009 dropped 53. 8% compared to Sept. 3, 1929 – July 1932 drop of 89. 2% (Goldman, David, 2010). It is believed that during the 1930s stocks were greatly over-inflated as compared to the beginning of 2008 where stocks were undervalued.

To prevent similar occurrences in the future limitations were placed on investors in that today, investors can only borrow up to 50% of their asset value for margin trading, compared to 90% in the Great Depression (Goldman, David, 2010). Any number of similarities and differences can be drawn from the stock market crashes of the Great Depression and the current economic recession and the resulting impacts. The end of the past decade has yet to tell its tail but even in the 1929 crash, the stock market did not fail.

If investors would have just remained patient and kept their funds within the market with dividend paying stocks, they would have lost less than 5% by the end of the decade. Political Environment The Great Depression began in the late 1920s which Herbert Hoover was President. Hoover made some attempts to correct the economic crisis, but all of them failed to reverse the economy. Hoover attempted to get Americans to purchase and consume American-made products by passing the Smoot-Hawley Tariff Act which increased tariffs on many imported items in an attempt to make the cost of those items less desirable.

Other nations back-lashed by increasing their tariffs on American goods coming into their countries which reduced the amount of American-made goods that were consumed abroad. Passage of the Smoot-Hawley Tariff Act had a devastating effect on American farmers and caused the depression to worsen (America. gov, 2010). In the late 1920s, World War I was coming to an end. WWI left the US with a large amount of debt and a large number of soldiers who needed a job when they returned home. In 1932, the US elected Franklin Delano Roosevelt as President. FDR made bold moves through his ‘New Deal’ to stimulate the economy.

The purpose of the New Deal was to increase government spending to stimulate demand and generate employment opportunities. FDR felt strongly that the federal government had to spend money to stop further demise of the US economy, and it seemed to work. The various policies that were instituted during the great depression caused federal expenditures to triple and many critics felt the company was leaning toward a socialist state. Very few similarities can be found when comparing the current US political environment to the US political environment of the 1930s.

The current recession began at the end of the war in Iraq just as the great depression began at the end of a war. George W. Bush was the President when the recession began but President Obama took power in 2008, in similar timeline to when FDR took over for Hoover. Both FDR and Obama took office with a main focus on the economy. Many experts compare President Obama’s leadership approach to that of FDR, however most of them agree in the end that it is not possible to compare apples and oranges. The US economy is far different today than it was during the great depression, so the political response to the problem must be different.

In addition, during the reign of FDR the media had far less impact than it does today. Consumer Behaviors There are some similarities between consumer behaviors surrounding the great depression and during the current recession. During World War I, just prior to the great depression, consumers were purchasing more large ticket items such as automobiles and homes. Similarly, consumers were spending large amounts of money prior to the current recession. Experts indicate that while there are some similarities in consumer behavior, it is magnified in the current recession.

Consumers have been spending far beyond their means throughout the past two decades. This over-consumption is far more than what was occurring prior to the great depression (Goldman, 2010). Conclusion In conclusion, while the panic and reality of the current recession may cause many to believe that it is comparable to the great depression, the research clearly demonstrates that the great depression was much more severe than the current recession. The American government has learned many valuable lessons since the great depression that will prevent us from sliding down the steep slope of the great depression.

The ‘Buy American’ policies that were put in place during the 1930s will not be repeated. While the research and statistics prove that we have not reached the depths of the great depression, that does not make the current recession any less painful for consumers. As the current recession continues to drag out, consumers will continue to feel the pain of fewer jobs and less income. References Christensen, J. (2009). Inflation expectations and the risk of deflation. FRBSF Economic Letter. 34(1). Gross, D. (2010). Deflation nation. Newsweek, 156(2) 26. The Federal Reserve Bank of St. Louis. (2010).

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Boston, Massachusetts: Little, Brown and Company. Winkler, A. (1998, April). Earnings of husbands and wives in dual-earner families. Monthly Labor Review Online, 121(4). Retrieved from http://www. bls. gov/opub/mlr/1998/04/art4exc. htm Commentary: a brief history of U. S. economic crises: 1929 – present. (2009, January 10). Retrieved from http://www. seic. com/enCA/about/1131. htm Great depression 1929 vs. current crisis. (2008, November 27) Retrieved from http://www. merinews. com/article/great-depression-1929-vs-current-crisis/15084 6. shtml Schoen, W. J. (2009, January 22). Recession or depression? Too early to tell.

Retrieved from http://www. msnbc. msn. com/id/28698830 Why the recession of 2008 is more like the great recession than the great depression. (2008, December 3). Retrieved from http://simpledebtfreefinance. com/why-the-recession-of-2008-is-more-like-the-great-recession-than-the-great-depression/ Goldman, D. (2010, August 25). Great depression vs. great recession. Retrieved from http://money. cnn. com/news/storysupplement/economy/recession_depression/ World war I, 1920s prosperity, the great depression. (2008, June 5). Retrieved from http://www. america. gov/st/educ-english/2008/June/20080610224125eaifas0. 4326097. html


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