The Great Depression and Government Response - Research Paper Example

Download file to see previous pages... Despite the fact that the depression had taken its roots in the United States, it rapidly spread to other industrialized countries across the globe and had a devastating effect on output and employment levels. The cultural and social effects of the great depression were also profound, requiring an immediate response from the governments to adopt various expansionary macroeconomic policies. Research proves that in the US, the great depression ranks as the second greatest crisis after the civil war. Regardless of the fact that the causes of the depression still remains controversial, a combination of such factors such as poorly regulated markets, consumer debt and the shortage of high growth industries created a recessionary business environment, leading to low investment confidence, reduced spending and a high level of uncertainty. What is important to understand here is how and why the Great Depression is credited with the evolution and development of macro-economics as a distinct field. It is felt by many scholars that it is the Great Depression that gave birth to macroeconomics as a separate and distinct field(Hamilton, 1992). To some extent it is thought by many that to this day, the Great Depression continues to influence the beliefs and policy recommendations of macroeconomists. It would not be incorrect to say that many of the contemporary systems of regulating banks and the Wall Street have been developed keeping the lesson learnt from the Great Depression in mind. In fact, macroeconomics gained attention after the Great Depression since it helped highlight all the main flaws that occurred in applying theories of microeconomics to the economy. According to the micro economists, the high level of unemployment that followed the Great Depression should have been regulated by Adam Smith’s “invisible hand”. According to this theory, workers should have revised their expectations of their wages downwards to the extent where firms would be willing to hire more people. However, what actually ended up happening was that because of the poverty and unemployment, demand for products dropped and so firms did not require additional workers. Moreover, since the workers were not willing to accept considerably lower wages for the same jobs as before, the wage rates were prevented from lowering to a more appropriate level. CAUSES OF THE GREAT DEPRESSION The causes of the Great Depression are still subject to debate and argument by various economists. One school of thought is that the onslaught was demand-driven, that is, the aggregate demand declined. However, many economists believe that the tight monetary policy of the US government, which was aimed at limiting the stock market speculations, played a major role in the occurrence of the depression. The 1920s did not witness any exceptional boom. The prices remained constant except the stock prices which rose fourfold from exceptionally low in 1921 to extremely high in 1929. In the last two years of the decade the Federal Reserve had to resort to increasing interest rates in the hopes of slowing down this boom. The higher rates depressed the spending on interest-sensitive areas like automobile and construction. Towards the end of 1929, the stock prices had reached unprecedented heights (Kindleberger, ...Download file to see next pagesRead More