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Causes of the Great Depression


Several decades later, the aftermath of what is regarded as the worst economic slump in US history is still being felt across global economies. Following the 1920s economic turmoil commonly referred to as the Great Depression, economists are still investigating the underlying factors that motivated the onset of such an enormous economic blow. Consequently, blame has been shifted left, right, and center as economists differ on the actual cause behind this economic depression. However, it is imperative to mention that, no single reason is attributable to the depression; rather various factors as discussed below are speculated to have caused the Great Depression.

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Stock markets crash

According to Knoop (p. 147), the Great Depression caught economic analysts unaware since the period preceding the 1929 stock markets crash indicated positive economic stability. However, some economists cite this booming period as the trigger that ignited subsequent factors leading to the Great Depression. The latter author underscores that, although the October 29, 1929 (Black Tuesday) stock markets crash is cited as the onset of the Great Depression, it would be erroneous to imply that it lead to the downturn. However, he explains that the stock markets crashed because of exuberance and false expectations among investors, as well as subsequent measures by Federal Reserve to increase interest rates (Knoop, p. 152). The preceding years leading to the 1929 stock markets crash appeared promising. For this reason, investors bought more shares hoping to cash in on profits in the following years. Some went ahead to borrow money to invest in stocks, and the more prices went up the more shares they acquired (Knoop, p. 153). However, the rising prices were like a time bomb waiting to erupt since they were not driven by economic fundamentals, but pure optimism and speculative mood (Knoop, p. 162). By October 1929 when share prices were grossly overvalued, companies started experiencing hard times and investors in a rush to cash in on their profits started disposing of their shares causing prices to fall (Knoop, p. 152). Following panic selling, the market was unable to hold and it crushed completely on Black Tuesday as shown in the figure below.

U.S. Macroeconomic Indicators: The Great Contraction
Figure 1. U.S. Macroeconomic Indicators: The Great Contraction

Federal Reserve miscalculation

As epitomized above, the stock markets crash was just a trigger to the Great Depression, but other factors such as Federal Reserve policy contributed greatly to the downturn. In the early 1920s, the Federal Reserve board set interest rates extremely low (Knoop 153). Most economic analysts regard this as the worst decision ever. By setting the interest rates low, it makes sense for people to borrow and invest in assets (Knoop 155). For instance, assuming the interest rate is 2% and inflation is 10% then borrowing would appear to be the most sensible economic decision. However, low-interest rates lead to inflation because as money flow increased within the economy so did the price of goods (Knoop 158). Most importantly, just when the economy was purely dependent on low-interest rates and inflow of money from federal reserves, Fed increased interest rates, and subsequently, the market was in turmoil; hence the Great Depression was inevitable (Knoop 154).

Federal Insiders greediness

Contrastingly, the move by Federal Reserve to lower interest rates can be viewed from another angle whereby their action can be attributed to greed than an economic miscalculation. Federal insiders could have set low-interest rates to send wrong signals of an economic boom to investors (Knoop 160). Concurrently, as farmers and small businesses owners borrowed heavily to expand their investment base, insiders were also doing the same. However, they were quick to offload their assets just before inflation (Knoop 163). The fact that the Federal Reserve gave no warning about the possibility of raising interest rates is enough evidence that insiders are to blame for causing the depression (Knoop 165). The period during the Great Depression was the best time to accumulate assets at huge discounts.


In a nutshell, the Great Depression is the most unpopular economic event in US history. What began as sheer speculation of US stock prices finally erupted to be the worst economic downturn, whose devastating effects were felt across world economies. However, several decades down the line, economists have been unable to establish the actual cause.

Works Cited

Knoop, Todd, A. Recessions and Depressions: Understanding Business Cycles. Santa Barbara, Calif: ABC-CLIO, 2010. Print

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