The global economic crisis

All of the disasters that observers may struggle to refer to or follow its course is the global economic crisis. One of the most troubling questions on the subject is the severity of the recession, which causes it to last longer and spread economic shock from one nation or area to the next, and then to the global level. Furthermore, it is important to emphasize the role or structure of economic policies in reducing and minimizing the effects of depression. The Great Depression of the 1930s was caused by the 1929 global market collapse. Consequently, the world experienced the most intense economic crisis. In the wake of 2007 when the financial crisis hit the global economy, economists reflected on the 1930 case predicting a possible depression. Intrinsically, the quest then was to establish the relationship between the two crises. However, the two cases from could be highly unrelated due to the evolution of the geopolitics, technology and the role of the state.

The outlined facts have necessitated the need for this paper which seeks to examined or compare the two global economic crises. Therefore, the paper analyses major factors that contributed to the 1930 depression in the economy as well as the policies or measure that were taken to reduce its magnitudes in the global perspective. Additionally, the paper seeks to identify the major contributors to the 2008 financial and economic crisis as well as a deep analysis of the remedies regarding policies that shaped the economy to mitigate the crisis. The above analysis will then draw a comparison ground for the two crises as well as creating an insight on the remedies for future references.

The 1929-1933 Great Depression

The capitalist spirit was seemed to be the major controller of the economy in the US prior to the 1929 economic catastrophe. In other words, the economy was characterised by the inequality in terms of the wealth which economists suggest that its burst formulated parts of the crisis course (McKenna 2013, p.1). The depression was caused fall in the GDP from $104.4 billion to $56.6 billion in 1933 (McKenna 2013, p.1). On the social aspect, the depression characterised the society with 25 percent of the unemployment of the civilian population in the United States. The great depression believed to transfer globally via capital flows, trade flows and commodity prices (Almunia et al. 2010, p.222). Therefore most of the global economies were affected with respect to their circumstances and policies. For instance, Japan made aggressive utilisation of both fiscal and monetary policies while others like France remained passive (Almunia et al. 2010, p.222).

The 1929-1933 crises are believed to be catalysed by the interlinked economic factors. Firstly, the financial institutions played a major role particularly in the fall out of the commercial banks. One of the defaults in this sector is the increasing bankruptcies as the debt to national income ratios increased from 9 percent to about 20 percent (McKenna 2013, p.1). Another insight into the cause of this crisis is the ineffective policy which failed to lower the discount rate which essentially meant a possible failure to avail credit and expand the currency (McKenna 2013, p.1). Monetarists argue that the global crisis was as a result of international factors such as the war debt, the return of gold standard in Britain, overvaluation of the pound and the undervaluation of franc (McKenna 2013, p.1). These international factors were provoked by a fall in commodities and rise in the stack in the US.

Another ideology on the causation of the crisis points to the actions of the federal government. For instance, the Federal Reserve had made the interest rates artificially low in the 1920s but raised them in 1929 to halt the resulted boom (Folsom 2010, p.1). This initiative facilitated the chocking off of investments (Folsom 2010, p.1). According to Folsom (2010), president Hoover played a crucial role in the collapse of the economy, in that, the signing into law of the Smoot-Hawley Tariff which damaged American exports throughout the 1930s. Additionally, the signing of large tax increase into law contributed in halting entrepreneurship in 1932 (Folsom 2010, p.1).

Remedies

Amid of the financial crisis, in a monetarist view, the Federal Reserve seems to be insignificant in helping the matters (McKenna 2013, p.1). The remedy by then was to use policy that only aimed at increasing the credit base in accordance with the requirements of trade. This meant that the Federal Reserve failed to increase the supply of money as the businesses were afraid to borrow (McKenna 2013, p.1). During this era, most countries were unable to effectively expand monetary policies since most of the countries remained on the gold standards (Almunia et al. 2010, p.233). However, it has been projected that monetary development was crucial in rejuvenating the United States economy as compared to the fiscal policy (Almunia et al. 2010, p.234).

The 2008 Financial Crisis

The 2008 economic crisis can be traced back to 2006 where the housing prices started to decrease. This crisis could be related to the saving and Loan Crisis of 1987, but the later was due to fraud while the former has pricing problem as a primary cause (Amadeo 2017, p.1). The crisis saw the government pump considerable finances to the economy to help the banking system from collapsing (Amadeo 2017, p.1). The collapse in the US housing market launched a major crisis as the building, and real estate sectors experienced low demands. The resulting was a bankruptcy of mortgage lending companies that intensified the crisis (Bartmann 2017, p.7).

In the last decades, economic issues have become a global affair, and the 2008 crisis presented a case where the financial catastrophe was transferred to other parts of the world. Due to the interrelation between economic factors in the US and the rest of the world, Europe experienced the crisis where several subsidiaries and banking companies had to close. Another sector affected by the crisis was the Germany banks which had heavily invested in the American real estate securities (Bartmann 2017, p.8). The effects were transferred as far as China and Japan since they were the leading suppliers and were highly dependent on the US market (Bartmann 2017, p.8).

The impact of the crisis was mostly felt due to its impact on the global GDP. In fact, the average global GDP in 2009 was 5.8 percent lower as compared to the GDP in 2007 (Dullien et al. 2010, p.2). The most severely affected countries were those of Central and Eastern Europe (CEE) as well as those of Commonwealth of Independent States (CIS) (Dullien et al. 2010, p.2).

Countermeasures

The 2008 crisis staged an opportunity for policymakers to form countermeasures that would help in curbing the problem in the banking system. Therefore, several proposal or recommendations were made in that respect. One of the initiatives that the government and the central banks introduced is the provision of stimulus and the easing of monetary policy (Ellis 2009, p.33). Such policy should have focused on the long-term for the recovery since restoring banking system allows for the rescue in credit supply and economic activities (Ellis 2009, p.34).

In a global perspective, there was a need to use stimulus policy action in rejuvenating the economy. The G20 countries adopted this policy that reached 2 percent in 2009 of their average GDP (Brahmbhatt and Silva 2009, p.6). The policy is projected to be effective in avoiding a possible financial collapse in future. However, there have been debates on the viability of this policy in preventing the global financial crisis (Brahmbhatt and Silva 2009, p.6).

Similarities between the Two Cases

The United States economy was the central point for both the great depression and the 2008 financial crisis. In other words, the United States economy is seen as a major influence in the transmission of both economic catastrophes to the rest of the world (Helbling 2009, p.1). Therefore, the weight of the US economy was significant in impacting the global financial system and economic uncertainty.

Both crises were impacted by the financial and the balance sheet adjustment. In that case, therefore, the liquidity and funding problem played a crucial role in financial segment transmission in both the great depression and the financial crisis (Helbling 2009, p.1). For instance, the 1929 case emerged from the erosion of the deposit base of the banks in the United States since there was lack of the deposit insurance (Helbling 2009, p.1). In fact, one-third of the banks in the US collapsed between 1930 and 1933. The scene proceeds to the European countries after the failure of the Australian Bank Credit in the year 1931 (Helbling 2009, p.1). In the case of 2008 financial crisis, banks have been prevented from running retail depositors by the reassurance from deposit insurance. This led to increased funding problems due to financial intermediaries particularly those that issued US mortgage-related securities (Helbling 2009, p.1). The problem with this initiative is that this mortgage’s value was hit by the increasing mortgage defaults. The intense cross-border linkage between the United States and the rest of the world influenced the spill-overs of the crisis (Helbling 2009, p.1).

The two financial crises resulted from defects in the financial sector design. In that case, therefore, both crises the fragile banking system played an important role in causing, escalating and prolonging the financial uproar (Eigner and Umlauft 2014, p.4). The structure of the US banking system was based on what was known as unit-banking in 1929 which prohibited the banks from operating branch networks. Consequently, this led to severe impediment in diversifying loan portfolios that made banks susceptible to location-specific shocks (Eigner and Umlauft 2014, p.4). Scholars such as White (1984) and Wheelock (1995) suggest that the unit banking system was the provided grounds for the US banking system to be vulnerable to depression that later precipitated to banking failures (Eigner and Umlauft, 2014, p.4). Similarly, the banking community in the wake of 2008 financial crisis was structured to have increased interbank borrowing cost since no bank wanted to be given worthless mortgages as collateral (Amadeo 2017, p.1).

In both cases, the government tried to unhook itself by introducing some mechanisms to the economy. For instance president Roosevelt instead of controlling the deficit left behind by Hoover, he decided to increase federal spending as a way of fostering economic expansion and possibly pull out the country out of the economic crisis (Folsom 2010, p.1). Additionally, Roosevelt expanded Reconstruction Finance Corporation which would provide money to bail out banks and corporations (Folsom 2010, p.1). Roosevelt also increased public works spending as well as targeting large subsidies to different special interests. Similarly, President Obama followed the same initiative by targeting spending to special interest groups. In the same aspect president Obama signed into law $787 billion stimulus package that targeted various cities and voting groups in the United States (Folsom 2010, p.1). President Obama also supported the job bill which targeted at sending money to key congressional districts. Additionally, he introduced universal health coverage and the cap-and-trade bills which projected an increase in the federal debt. It has been asserted that this move increase in national debt in Obama first term was more than double of that in the Roosevelts’ two terms (Folsom 2010, p.1).

The economic stimulus and initiatives imposed on the two cases failed to materialise in accordance with the expectation of the federal government. For instance, at the end of the Roosevelts second term the unemployment rate was expected to be very low in comparison to the increased spending, however, in 1939 the rate was almost 21 percent (Folsom 2010, p.1). This puzzled the government as it was expecting a massive decrease in the rate of unemployment. Similarly, the Obama administration found the existing 8 percent unemployment rate, however despite the increased budget on stimulus a year later the unemployment rate was over 10 percent (Folsom 2010, p.1). However, economists argue that the increased spending failed to slash unemployment as it was saving jobs that would otherwise have been lost (Folsom 2010, p.1).

In rational terms, both crises were more of global affair regardless of being originated in the United States. The impact to other countries, however, relied highly on the difference in the monetary and fiscal policies (Almunia et al. 2010, p.222). The great depression was transferred through economic factors such as the capital flows. Similarly, the 2008 crisis impacted the rest of the globe due to interlink between the US and the rest of the world in terms of exports, equity prices and manufacturing production. Also, the response to both crises by different countries relied on different monetary and fiscal policies (Almunia et al. 2010, p.222).

Another important point to note on both episodes is that they were characterised by unemployment. In the case of the great depression, the unemployment rate was approximately 25 percent while in the 2008 crisis the unemployment is estimated to be 9.8 percent (Dokken, 2010).

Differences between the Great Depression and the Financial Crisis

The origin of the two cases seems similar, but difference occurs in the currencies reserves. For instance, the Great Depression experienced difficulties in the rejuvenation of the economy since policies were limited by currency backed by the precious metal (Edwards 2011, p.1). In that case, therefore, the Federal Reserve lowered reserve requirements at banks in its quest to expand the money supply. The impact of this initiative saw the country experience deflation slow growth and increased unemployment (Edwards 2011, p.1). On the other hand the 2008 financial crisis recovery policy due to the fiat currencies system. In this case, the Fed would be able to create money by increasing banks’ deposits at the Federal Reserve that can then be lending to the members of the public (Edwards 2011, p.1).

Another different noted in the course of 2008 financial crisis and the 1929 Great depression is the share in the GDP terms of the developing countries. For instance, in 2008 the developing countries had an approximate of 24 percent share in the world GDP. On the other hand, it has been estimated that the same share during the great depression era was about 13 percent (Brahmbhatt and Silva 2009, p.1). The rationale of this view is the fact that the economic cycles in the developing countries are firmly related to those of the developed countries. The developing countries in the 2008 financial crisis experienced a decrease in growth due to declining exports to the developed countries (Brahmbhatt and Silva 2009, p.1). The World Bank, however, disregards the effect of the 2008 crisis in halting the growth of the developing countries. For instance, in the year 2009, the GDP of the developed countries shrink by 4.2% whereas that of the developing countries experienced a positive growth of about 1.2 percent (Brahmbhatt and Silva 2009, p.2).

The distinction between the two cases can be viewed in terms of volatility in various parts of the economy. Firstly, it is important to note that in 1929 the United States services as about 55 percent of the total employment (Brahmbhatt and Silva 2009, p.3). On the other hand in the year 2007, the United States services were about 82 percent of the total employment of which 66 percent was in the private sector and the 16 percent in the government employment (Brahmbhatt and Silva 2009, p.3). The rationale of this analysis is based on the fact that services are considered less volatile than the goods. This means that the aggregate employment volatility in 2008 financial crisis was lower than that of the Great Depression.

The structure of the world trade is another factor that can assist in distinguishing the great depression and the financial crisis. For instance, a study by the World Bank suggests that the 2008 trade decline experienced greater responsiveness as compared to the great depression due to the elasticity of trade with respect to the GDP (Brahmbhatt and Silva 2009, p.5). According to this research, the elasticity in the recent world trade makes the possibility of sharper responsiveness during the crisis than in the great depression era. The recent trade elasticity can be traced from the view of current fragmentation in the production processes which results in high level of cross-border flows of intermediate inputs that are utilised in the production sectors (Brahmbhatt and Silva 2009, p.5). It is important to note that the significance of such processes in the global economy and world trade has improved in the recent times (Brahmbhatt and Silva 2009, p.5).

The policy responses that followed both cases are another aspect that can be used to distinguish the 2008 and the great depression crisis. Firstly, it is important to note that the difference between the great depression and the financial crisis is the role gold standard as a deflationary potency (Brahmbhatt and Silva 2009, p.5). In the recent cases, the dysfunctional of monetary policy is less than in the Great Depression era due to the flexibility of exchange rates between major world economies (Brahmbhatt and Silva 2009, p.5). This structure has presented a greater anatomy in the policy-making mechanism. The 2008 crisis, therefore, saw the policy orienting in the expansion of the central bank balance sheet (Brahmbhatt and Silva 2009, p.6).

Conclusion

The great depression and the financial crisis cases have presented similarities that in the way each impacted both the United States and the global economy. Policies have been seen as the key players in curbing and controlling the economic crisis though to an undefined extent. Another insight raised in both cases is the importance of the federal government in controlling and balancing the economy to have a countermeasure to the economic crisis. It is also irrational to overstate the two crises as the United States affair due to the originality. This is because the impact of both crises transferred to other parts of the world and thus making it a world affair. In that case, therefore, the crisis in one economy should not be underrated since the impact could be transmitted through trade interaction and the flow of capital across the borders. It is important to note that some policies should be thoroughly analysed to guarantee the viability as intended by the policymakers. It has been noted from both cases that some policies promoted by both the Obama’s administration and that of Roosevelt failed to materialise in accordance with the requirements.

References

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