The market traded up for the last couple of days of October. It then fell back again, revisiting the lows of Black Tuesday on November 13. By the last weeks of November, the Dow had settled at around 240—a 40 percent retreat over the eight weeks since late September. The bubble that had begun in early 1928 had lasted little more than a year and a half. By all indications, the effect of the October crash had merely been to squeeze out all the froth and return the stock market closer to its fair value.
IN THE Weeks that followed the Great Crash, the dazed financial press struggled to make sense of what had happened. Despite the magnitude of the losses—$50 billion wiped off the value of stocks, equivalent to about 50 percent of GNP—and the ferocity of the decline, many papers were surprisingly sanguine, calling it the “prosperity panic.” The New York Evening World even argued that the panic had only occurred because “underlying conditions [had] been so good,” that speculators had “an excuse for going clean crazy,” creating a bubble and thus setting the stage for it to burst.
The New York Sun made the case that the crash would have a minimal impact on the economy, that Main Street could be decoupled from Wall Street. “No Iowa Farmer will tear up his mail order blank because Sears Roebuck stock slumped. No Manhattan housewife took the kettle off the stove because Consolidated Gas went down to 100. Nobody put his car up for the winter because General Motors sold 40 points below the year’s high.”
Indeed, BusinessWeek, which had been one of the most vocal critics of the speculation on the way up, went one step further, insisting that the economy would be in even better shape now that the distracting bubble had burst. “For six years, American business has been diverting a substantial part of its attention, its energies and its resources on the speculative game. . . . Now that irrelevant, alien, and hazardous adventure is over. Business has come home again, back to its job, providentially unscathed, sound in wind and limb, financially stronger than ever before.”
The consensus, however, was that the crash would cause a transitory and mild business recession, particularly in luxury goods. B. C. Forbes, founder of Forbes magazine, thought that “just as the stock market profits stimulated the buying of all kinds of comforts and luxuries, so will the stock market losses inevitably have an opposite effect.”
The immediate impact on the United States in fact proved to be much greater that anyone expected. Industrial production fell 5 percent in October and another 5 percent in November. Unemployment, which during the summer of 1929 had hovered at around 1.5 million, 3 percent of the workforce, shot up to close to 3 million by the spring of 1930. The country had become so emotionally invested in the vagaries of Wall Street that the psychological impact of the collapse turned out to be profound, particularly in consumer demand for expensive goods: the automobiles, radios, refrigerators, and other new products that had been at the heart of the boom. Car registrations across the country plummeted by 25 percent and radio sales in New York were said to have fallen by half.
The editor of the Economist, Francis Hirst, who had fallen ill on a trip to the United States and was convalescing in Atlantic City at year’s end, captured the mood. “Rich people who have not sold their stocks feel much poorer. . . . The first result therefore, has been a heavy decline in luxury buying of all sorts and also a large amount of selling of such things as motor cars and fur coats, which can now be bought secondhand at surprisingly low prices. The favored health resorts have suffered enormously . . . a very great number of servants, including butlers and chauffeurs, have been dismissed.”
Immediately after the crash, Hoover, who liked nothing better than emergencies, threw himself into action. He was one of the hardest-working presidents in the history of the office, at his desk by 8:30 a.m and still there into the early hours of the next morning. Within a month, his administration had pushed through an expansion in public works construction and submitted a proposal to Congress to cut the income tax rate by a flat 1.0 percent. The federal government, however, was then tiny—total expenditures amounted to $2.5 billion, only 2.5 percent of GDP—and the effect of the fiscal measures was to inject barely a few hundred million dollars, less than 0.5 of 1.0 percent of GDP into the economy.
Hoover had, therefore, to content himself with playing the part of chief economic cheerleader. Unfortunately, it was a role for which he was poorly suited. Shy, insecure, and stiff, he was ill at ease with people and surrounded himself with yes-men. He was also “constitutionally gloomy,” according to William Allen White, “a congenital pessimist who always saw the doleful side of any situation.” Unable to inspire confidence or optimism, he resorted, according to the Nation magazine, to “trying to conjure up the genie of prosperity by invocations” that things were about to get better.
On December 14, 1929, barely six weeks after the crash, he declared that the volume of shopping indicated that country was “back to normal.” On March 7, 1930, he predicted that the worst effects would be over “during the next sixty days.” Sixty days later he announced, “We have passed the worst.”
To some degree he was caught in a dilemma that all political leaders face when they pronounce upon the economic situation. What they have to say about the economy affects its outcome—an analogue to Heisenberg’s principle. As a consequence, they have little choice but to restrict themselves to making fatuously positive statements which should never be taken seriously as forecasts.
The task of trying to talk the economy up was complicated by the fact that it did not go down in a straight line. At several points along the way it seemed to stabilize. After falling in the last few months of 1929, it found a footing in the early months of 1930. The stock market even rallied back above 290, a rebound of 20 percent. And the Harvard Economic Society, which was one of the few outfits to have predicted the recession, now argued that the worst had passed. Clutching at whatever straws he could find, Hoover seized upon these brief interludes of good news, not realizing they were head fakes. In June 1930, when a delegation from the National Catholic Welfare Council came to see him to request an expansion in public works programs, he announced, “Gentlemen, you have come sixty days too late. The depression is over.” That very month the economy began another down leg.
Eventually, when the facts refused to obey Hoover’s forecasts, he started to make them up. He frequently claimed in press conferences that employment was on the rise when clearly it was not. The Census Bureau and the Labor Department, which were responsible for data on unemployment, found themselves under constant pressure to fudge their numbers. One expert quit in disgust over attempts by the administration to fix the figures. Finally, even the chief of the Bureau of Labor Statistics was forced into retirement when he publicly disagreed with the administration’s official statements on unemployment.
In contrast to Hoover, Treasury Secretary Mellon refused even to make a show of joining the cheerleading. His view was that speculators who had lost money “deserved it” and should pay for their reckless behavior; the U.S. economy was fundamentally sound and would rebound of its own accord. In the meantime, he argued that the best policy was to “liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate. . . . It will purge the rottenness out of the system . . . . People will work harder, live a more moral life. Values will be adjusted, and enterprising people will pick up the wrecks from less competent people.”
One group who seemed to have taken Mellon’s advice on liquidation to heart was the Russians. In 1930, desperately in need of foreign exchange, the Soviet government secretly decided to put its most treasured art works up for sale to its capitalist enemies. For Mellon, it was a once-in-a-lifetime opportunity to purchase a unique collection of art at throw-away prices, and he did not let it pass. Following a series of clandestine negotiations through art dealers in Berlin, London, and New York, Mellon arranged to purchase a total of twenty pieces. Each was a cloak-and-dagger operation. The money was wired to a dealer in Berlin, who placed it in a blocked account and paid out 10 percent to the
Russians. Meanwhile, the pictures were surreptitiously removed from the Hermitage, in Saint Petersburg, the surrounding paintings repositioned to disguise the disappearance. They were then handed over at a secret rendezvous and shipped to Berlin for transport to the United States. In this way, during 1930 and into the early months of 1931, the secretary of the treasury spent almost $7 million of his money buying up half of the Hermitage’s greatest paintings. Among the paintings he bought were the Madonna of the House of Alba by Raphael, the Venus with the Mirror by Titian, the Adoration of the Magi by Botticelli, and The Turk by Rembrandt as well as several works by Van Eyck, Van Dyck, and Frans Hals.
It was probably the greatest single art purchase of the century. Leaving mundane matters of economic policy to his deputy, Ogden Mills, Mellon became consumed by the whole transaction. On one occasion in September 1930, he was so engrossed in a discussion with one of his art dealers that he kept a group of bankers waiting for two hours.
With the federal government unable and unwilling to act—or in Mellon’s case, perhaps otherwise occupied—the task of managing the declining economy fell almost entirely on the Fed. Between November 1929 and June 1930 the Fed eased monetary policy dramatically. It injected close to $500 million in cash into the banking system and cut rates from 6.0 percent to 2.5 percent—mostly the work of Harrison in New York. The Board in Washington only grudgingly registered the full force of what had happened. Not only did Harrison have to deal with its constant delaying tactics, but he also faced outright resistance from the majority of his fellow governors of the regional reserve banks—seven out of the twelve of them, from Boston, Philadelphia, Chicago, Kansas City, Minneapolis, Dallas, and San Francisco, opposed his attempts at a vigorous easing.
Most governors feared that “artificial” attempts to stimulate the economy by injecting liquidity into the banking system would not jump-start business activity, but just touch off another bout of speculation. Too much cheap credit had created the original bubble in the first place. Now that it had been pricked and stock prices were falling to more reasonable levels, why short-circuit the process, they asked, by making credit too cheap once again. As one argued, further easing would only result in a replay of the “1927 experiment, now quite generally . . . admitted to have been disastrous.” The recession was a direct consequence of the past overspeculation, during which money had been thrown down absurd and uneconomic avenues. The only way to return to a healthy economy was to allow it to suffer for a while, a form of penance for the excesses of the last few years.
Because the notion of an active monetary policy to combat the business cycle was so novel and the knowledge of how the economy worked so primitive, debates among the various factions within the Fed became highly confused and at times even incomprehensible. In September 1930, Governor Norris, an otherwise highly competent and respected banker, found himself arguing at a Fed meeting that by easing interest rates, they had their policy backward. “We have been putting out credit, in a period of depression, when it was not wanted and could not be used, and will have to withdraw credit when it is wanted and can be used.” He failed to recognize that the logic of his premise would have led him to the oddly perverse recommendation that the Fed should contract credit in a depression so that it might supply lots of it during a boom.
Without a common vocabulary for expressing ideas, Fed officials resorted to analogies. One of the governors likened any attempt by the Fed to revive the economy to a band desperately trying to keep the music going at a “marathon dance.” On another occasion, he compared it to a physician’s trying to bring a dead patient “back to life through the use of artificial respiration or injections of adrenalin.”
In the early summer, the Fed stopped easing. It proved to be a mistake. For just as it went on hold, the economy embarked on a second down leg, industrial production falling by almost 10 percent between June and October. There is some debate about Harrison’s reasons. Some argue that he thought he had done enough. Having staved off catastrophe by pumping a large amount of money into the system and cutting rates to an unprecedented low level, he believed that he had been as aggressive as he could. Others argue that he was operating with what might be called a faulty speedometer for gauging monetary policy. The usual indicators that he relied upon suggested that conditions were very easy—short-term rates were truly low and banks flush with excess cash. The problem was that some of these measures were now giving off the wrong signals. For example, when banks overflowed with surplus cash, this was generally an index, in a more stable and settled economic environment, the Fed had pushed more than enough reserves into the system to restart it. In 1930, however, in the wake of the crash, banks had begun carrying larger cash balances as a precaution against further disasters, and excess bank reserves were more a symptom of how gun-shy banks had become and less how easy the Fed had been.
IN SEPTEMBER 1930, Roy Young resigned as chairman of the Federal Reserve Board to become the head of the Boston Fed, a position that not only paid two and a half times as much—$30,000 as compared to $12,000—but also carried some executive authority. Finding replacements on the Board had never been easy; in the middle of a growing depression, it was doubly hard. Luckily Hoover had exactly the right candidate and promptly phoned his old friend, the noted banker and government financier Eugene Meyer, to offer him the job, saying, “I won’t take no for an answer,” and hung up without even waiting for a reply. He did not have to. He knew his man.
Few people were more enthusiastic or better prepared to take on the task of running the Federal Reserve than Meyer, a complete contrast to the second-rate figures who had so far inhabited the Board. A successful financier, he had accumulated a large fortune by the age of thirty-five, had run not one but two government-backed financial institutions, and unlike most bankers, believed very strongly in activist government policy and a more expansionary Fed policy to reverse the slide in the economy and halt deflation.
Meyer had been born in California, the son of Marc Meyer, a self-made man who had become a partner in the investment house of Lazard Frères. After graduating from Yale in 1895, he, too, went to work at Lazards, but quit in 1901, embarking on his own as a Wall Street speculator. He cleaned up during the 1907 panic, and by 1916 had amassed a fortune of $40 to $50 million.
He came to Washington in 1917 as a dollar-a-year man working for Woodrow Wilson, and had stayed on, becoming director of the War Finance Corporation and then head of the Federal Farm Loan Board. A larger-than-life figure, he commuted between a grand house on Crescent Place off Sixteenth Street, full of Cézannes and Monets and Ming vases; a seven-hundred-acre estate in Mount Kisco in New York; a six-hundred-acre cattle farm in Jackson Hole, Wyoming; and a plantation in Virginia. His wife, Agnes, a difficult egocentric woman who put him through a rocky and unhappy marriage, ran the most fashionable salon in Washington, where poets, painters, and musicians might mingle with politicians and bankers.45
Meyer’s was not an uncontroversial nomination—Huey Long, the populist governor of Louisiana, declared he was nothing but “an ordinary tin-pot bucket shop operator up in Wall Street . . . not even a legitimate banker.” His confirmation hearings proved to be difficult. Senator Brookhart of Iowa came out against him, calling him a “Judas Iscariot . . . one who has worked the Shylock game for the interests of big business”—for all his wealth, he had had to struggle with anti-Semitism throughout his career.
If there was anyone who seemed capable of reversing the paralysis of the Fed, it was Meyer. Yet, even he was soon overwhelmed. He found a Board racked by petty intrigues and feuds. Adolph Miller was at war with Charles James. Some of the old guard, such as Hamlin, resented Meyer and thought that he was too closely identified with the president.
The system of decision making and authority within the Fed, complex as it had been, had become even more byzantine. During Strong’s time, decisions about how much to inject into the banking system through open market purchases of government securities had been taken by
the five-member Open Market Investment Committee (OMIC), comprising the governors of the Federal Reserve Banks of Boston, New York, Philadelphia, Chicago, and Cleveland. Strong, therefore, had to persuade only two others to get a majority vote his way.
In January 1930, policy decisions for open market operations were shifted to a new twelve-man Open Market Policy Conference (OPMC), consisting of all the governors of the reserve banks. Each of these, of course, had to refer to his own nine-member board of directors. The old five-member committee (OMIC), renamed the Executive Committee of the OPMC, retained responsibility for execution. Now three separate groups were jockeying for power—one body, the OPMC, could initiate policy but could not execute; another, the Board, had to approve policy decisions but could not initiate them; and a third, the Executive Committee of the OPMC, implemented decisions within certain discretionary limits. At each stage policy could be vetoed or stymied. As a consequence, even though the two most prominent members of the Fed, Harrison and Meyer, both believed that it should be more aggressive, they were defeated by the system.
THE GREAT CRASH was greeted in Europe with a combination of schadenfreude and relief. According to the New York Times, Black Thursday’s “panicky selling left London’s City in a comfortable position saying, ‘I told you so.’” Contacted by the New York Evening Post that same day, Maynard Keynes commented that “we in Great Britain can’t help heaving a big sigh of relief at what seems like the removal of an incubus which has been lying heavily on the business life of the whole world outside America.” The Wall Street collapse was, according to one French authority, like the bursting of an “abscess.” The hope was that all the European capital that had been sucked into Wall Street would return home, alleviating the pressure on European gold reserves, and allowing such countries as Britain and Germany to ease credit and restart their economies.
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