History of money: How did the Roaring Twenties in America fade out?

If you are a jazz lover or a fan of French fashion and have read The Great Gatsby by F Scott Fitzgerald or The Sun Also Rises by Ernest Hemingway, you probably know about the Roaring Twenties or the Jazz Age. If you don’t, here’s a brief overview of the 1920s and how those years affected the global financial system and led to the Great Depression, the worst economic crisis in modern history.

The Roaring Twenties were a time of economic growth and widespread prosperity in North America, Europe and a few other developed countries such as Australia. People were getting back on their feet after the First World War and spending the money they had saved through the hard times.

At first, the end of wartime production led to a short but deep recession in 1919 and 1920. This was called the “post-World War I recession”. However, the economies of the US and Canada quickly rebounded as soldiers returned to work and factories that had made weapons switched to making consumer goods.

The Roaring Twenties witnessed a construction boom and a rapid rise in consumer goods, like cars and electronic products. The United States was able to make a smooth transition from a wartime economy to a peacetime economy. Their economy grew, and they were able to help Europe grow as well by giving them loans. Some areas, like farming and coal mining, stayed the same. Since the late 1800s, the US has been the richest country in the world in terms of per capita income and GDP. Its economy was based on mass production, and its society embraced consumerism. In contrast, it was harder for European economies to get back on their feet after the war, and they didn’t start to do well again until about 1924.

During the First World War, industrial and agricultural production in the Western countries outside of Europe grew. When peace returned to Europe and production started up again, there was chronic overcapacity, which had been driving down the prices of basic goods for a long time before 1929, the year the Great Depression began. This made it even harder for countries with big foreign war debts, like Germany, which had to pay reparations, to earn the hard currency they needed to pay the interest on their debts to their foreign creditors. In most of the countries at war, the war had also made unions stronger, making it harder for employers to cut wages when prices fell. As wages went up and profit margins got smaller, companies had to lay off workers or risk going out of business.

Still, the United States, which was the epicentre of the financial crisis, was in many ways in good economic condition when the Great Depression hit. During the time between the two World Wars, companies such as DuPont (nylon), Procter & Gamble (soap powder), Revlon (cosmetics), Radio Corporation of America (RCA – radio) and IBM (computers) developed several new technologies that made workers more productive. America was using science, technology and new ideas in business in ways that no one had ever done before

Yet, it may have been these strengths that caused the first shift that set off a classic stock market bubble. As more and more American households wanted to buy cars and other durable consumer goods that they could pay for in instalments, it seemed like there was no limit to what they could buy. Between 1925 and 1929, the stock price of RCA, the tech stock of the 1920s, went up by a staggering 939 per cent.

This euphoria triggered a rush of new IPOs. In 1929, stocks worth $6 billion were sold, with $1 billion of that in September alone. There were a lot of new financial institutions called “investment trusts” that were established to take advantage of the stock market boom. Goldman Sachs announced its own expansion plan in the form of the Goldman Sachs Trading Corporation. If the Goldman Sachs Trading Corporation hadn’t been a separate company, its failure during the Great Depression could have brought down Goldman Sachs as a whole.

After the presidency of Herbert Hoover was inaugurated in January 1929, the stock market boomed for the first six months. During the great ‘Hoover bull market’, stock prices went through the roof, and everyone from bankers and industrialists to cab drivers and cooks rushed to brokers to invest their cash or savings in securities that they could then sell for a profit. Billions of dollars were taken from banks and put on Wall Street in the form of loans to brokers so they could keep their margin accounts going. It was as if the Mississippi and the South Sea bubbles had risen again. People sold their Liberty Bonds and put their homes up as collateral so they could put their money in the stock market. About 300 million shares of stock were bought on credit in the middle of the summer of 1929. This caused the Dow Jones Industrial Average (DJIA) to reach its peak level of 381 points in September. No one paid attention to the warning signs that this financial system was built on shaky ground.

Prices started to go down in September and early October, but speculation kept going. In many cases, this was because people had borrowed money to buy shares, which could only be done profitably as long as stock prices kept going up.

On 18 October, the market went into a free fall, and people rushed to both buy and sell stocks in a frenzy. On 24 October, the first day of real panic, a record 12.9 million shares were traded as investors tried to make up for their losses. This day is known as “Black Thursday”. Still, the DJIA lost only six points by the end of the day. This was because several big banks and investment firms bought up large blocks of stock to stop the panic. Their efforts, however, did not help the market in the end.

On 28 October (Black Monday), when the market closed with a loss of 12.8 per cent, the panic started up again. More than 16 million shares changed hands on 29 October (Black Tuesday). The DJIA dropped another 12 per cent and ended the day at 198, which was a drop of 183 points in less than two months. The prices of prime securities fell like the shares of fake gold mines.

From 3 September to 29 October, General Electric’s stock went from 396 to 210. The stock price of American Telephone and Telegraph (AT&T) fell 100 points. From their summer highs, DuPont fell from 217 to 80, US Steel from 261 to 166, Delaware and Hudson from 224 to 141 and RCA common stock from 505 to 26.

At first, political and financial leaders tried to reassure the public by saying that the problem was just a hiccup in the market. President Hoover and Treasury Secretary Andrew W Mellon led the way by saying that business was “fundamentally sound” and that a great return to prosperity was “just around the corner”. Even though the DJIA almost reached 300 again in 1930, it fell quickly in May of that year. It would take another twenty years for the DJIA to break through the 200-point mark again.

The stock market was doomed for a variety of reasons. First, this was a period of rampant speculation. People who bought stocks on margin not only lost the value of their investment, but they also owed money to the companies that had given them the loans to buy the stocks. Second was the Federal Reserve’s tightening of credit. In August 1929, the discount rate went from 5 per cent to 6 per cent. Third was the rise of holding companies and investment trusts, which often led to debt, the number of large loans that couldn’t be recovered and a recession in the economy that started earlier in the summer.

Excerpted with permission from Crypto the Disruptor: The Rise of Money from Barter to Bitcoin, Mukesh Jindal, Penguin India.