Knowledge Centre

Knowledge Centre Archive

Dec
10
2008

Commentary: A Brief History of US Economic Crises: 1929 - Present

By SEI Investment Management Unit

Invariably, during times of severe economic crisis, comparisons to other gloomy periods are made in order to give investors, consumers, prognosticators et al. a baseline with which to measure the latest downturn.  It is only natural to speculate as to when a given economic crisis or recession will end, and wonder how severe it will ultimately become. 

Economic crises are not a new phenomenon; they occur with regularity. While they vary in size and scope, they also vary in cause, length, and magnitude.  While no two have been alike, one factor that they share is that they have all ultimately ushered in a new age of economic growth and prosperity of varying length—hopefully with many lessons learned.

The credit and housing crises the US economy has been mired in since 2007, and the resulting market fallout, is arguably the most serious the US has faced in decades. While recent recessions and market pullbacks have usually been compared to either the oil crisis/bear market of 1973-1975, or the stagflation/high unemployment of 1980-1982, the current recession (which the National Bureau of Economic Research recently determined began in December, 2007) has evoked images of perhaps the darkest economic period in US history—The Great Depression.  This Commentary will briefly compare and contrast those 3 crises with the current one.  An appendix will give a brief history of US recessions dating back to 1929. 

The Depression -- Overview

The Great Depression is the ultimate benchmark for US economic crises; it is a benchmark primarily because of its length and the magnitude of its destruction, in terms of wealth, employment, and confidence.  What officially began in 1929 (following the great stock market crash) spanned a total of nine years and two deep recessions (1929-1933 and 1937-1938).

The causes of the Depression have been debated for years.  While there are differing schools of thought, many now agree that what began as a mild recession prior to the stock market crash of 1929 was exacerbated following the crash.  Initially, the US Federal Reserve (Fed) lowered interest rates, customarily seen as the proper course of action during a recession. But when the situation did not improve, the Fed changed course, and began raising rates and constricting the money supply.  There were also no efforts toward fiscal stimulus, and the combination ultimately led to a run on the banks, bank failures, deflation, and the lack of a functioning credit market. 

The situation became so dire that check writing became a thing of the past, and most transactions that were not bartered were executed in cash.  As conditions deteriorated, unemployment soared to nearly 25%, a figure that would have arguably been significantly higher if measured in the same manner it is today. Deflation ran rampant, and prices of nearly everything plummeted.  The icing on the cake - the Smoot-Hawley Tariff Act of 1930 - significantly raised tariffs on US imports, and foreign governments retaliated with high tariffs on exported US goods.  This brought free trade to a halt, and in all likelihood, extended the ultimate length of the Depression.

The Depression vs. Today – Market Comparison and Contrast

There are very few parallels between the current economic crisis and the Great Depression, despite what some talking heads and pundits suggest.  While the modern-day stock markets have fallen dramatically and quickly, they still have a long way to go in order to rival the 91% drop in the Dow Jones Industrial Average (Dow) that occurred over a three-year period through 1932. Nor are there any meaningful similarities between the incredible pre-crash run-up in stock prices from 1921 until 1929 (during which the Dow rose nearly 500%), and the most recent run-up (from 2002 until October 2007) when the Dow rose 94%.  

The Depression vs. Today – Unemployment and Banking Comparison and Contrast

While recent surveys have shown a rapid increase in US unemployment, the current rate of 6.7% is a far cry from the 24.9% seen at the height of the Depression.  And while, according to the FDIC there have been 23 bank failures so far in 2008, there were 659 in 1929, 1350 in 1930, and more than 9800 from 1929 through 1934.  Although
there was a brief run on money market funds following the collapse of Lehman Brothers in September, the US government acted quickly to restore confidence by providing a guarantee program for these funds.

The Depression vs. Today – Government Action Comparison and Contrast

Perhaps the biggest difference between the Great Depression and the current crisis is the active role that the US government and Fed play today, versus a much more hands-off approach taken by the Hoover Administration at the onset of the Great Depression. Countless bailouts, loans, interventions, and rate cuts carried out by the Treasury or Fed demonstrate the vastly more active approach taken by policymakers today.  None of these actions guarantee a swift end to the crisis, nor do they come without potential fallout in the future, but they do demonstrate an effort to avoid monetary and fiscal mistakes made in the past.   

The Depression vs. Today -- Similarity

One potential similarity between the 1930s and now is that both crises were fueled—and perhaps exacerbated—by a lack of confidence among investors and bank depositors. While this problem is difficult to rectify, the communication tools available today greatly exceed those of the 1930s, which should help restore confidence more easily today.

The 1970s – Vietnam, Watergate, and the Energy Crisis

The early 1970s (primarily 1973-1975) were arguably one of the bleakest periods the US experienced during the second half of the 20th century.  Mired in the Vietnam War, which had already spanned more than 10 years, the nation endured a confluence of several crises, the likes of which we’d not previously experienced.  The Watergate Conspiracy ultimately brought down a US President in 1974 -  an event so unthinkable and devastating that, to some, it conceivably marked the end of our democracy.  Meanwhile, a full-scale energy crisis gripped our nation beginning in 1973, and not only did oil prices rise —oil quadrupled from $3 per barrel to $12—there were also shortages.  Long lines were common at gas stations, gasoline was rationed, and the government made matters worse by putting price controls in place. While oil prices spiked close to $150/barrel during our current crisis, shortages and rationing were never an issue, and oil prices have since pulled back dramatically. 

The 1970s vs. Today – Market Comparison and Contrast

The bear market of 1973-1974 saw the Dow Jones Industrial average lose 45 percent of its value in less than 23 months.  While the magnitude of this drop is similar to what we’ve recently experienced, the recent fall occurred in a much tighter timeframe as the Dow plunged 42% in a six-month period—from May until November 2008. This experience has left modern investors shaken, and is much more severe than what occurred in 1973 and 1974.

The 1970s vs. Today – Inflation Comparison and Contrast

After averaging about 3.3% annually during the previous 10 years, inflation spiked to 6.2% in 1973, 11% in 1974, and 9.1% in 1975. The US had not experienced rising inflation to this extent since the post-war years of 1946-1948, but unemployment during those years was typically under 4%, whereas in 1973-75 it ranged up to 9% (see below).   All these factors presented a quadruple whammy to 1970s America: high unemployment, rising prices, an energy crisis, and turmoil at the highest levels of our government. 

While rising inflation was a concern during 2007 and early 2008, much of it was caused by rising commodity prices, namely fallout from skyrocketing oil prices. Since then, as our economy has weakened, nearly all commodity prices have fallen sharply.  The fear of inflation has, in the near term, given way to fear of deflation — something US consumers have not experienced since the Depression..

The 1970 vs. Today – Unemployment Comparison and Contrast

In November of 1973, the unemployment rate stood at a rather benign 4.8%, very close to the 5.0% recorded in December 2007 (the official beginning of the current recession).  One year later, in November 1974, unemployment had risen to 6.6%, also very close to the 6.7% rate recently announced in November 2008.  The rate continued to rise until May 1975’s 9.0% (two months following the end of that recession) before slowly falling below 8% by January, 1976.  While it is impossible to accurately predict what the height of unemployment will be during the current recession, there are certainly eerie similarities between the ‘73-‘75 recession and the current period—at least in terms of unemployment.

1980-1982 -- Stagflation

By late 1979, unemployment had fallen below 6% once again, but a short recession from January  through July, 1980 saw the jobless rate creep back up toward 8%.  And another enemy had also resurfaced: inflation.   By 1978 it had hit 7.6%.  The next year, it jumped to 11.3%, on the road to a 33-year high of 13.5% in 1980.  But this was not just any garden variety of inflation, it was “stagflation”.  Stagflation occurs when high inflation and economic stagnation occur simultaneously, and it began in the wake of the energy crisis of 1979.

Although not as severe as the 1973 energy crisis, the 1979 version came amid a revolution in Iran and major tensions in the Middle East, including the taking of American hostages in Iran and a war between Iran and Iraq.

As the economy worsened, unemployment breached the 8% mark by late 1981, and hit 10.8% by November of 1982.  In fact, from November 1982 until June 1983, there were 10 consecutive months of 10%-plus unemployment—including 7 months after the recession “officially” ended in November, 1982.

1980-1982 vs. Today -- Banking Comparison and Contrast

The 1980-1982 period was also marked by a banking crisis, although not as severe as the current version.  Following a wave of deregulation, banks were able to lend money more broadly beginning in 1980.  As the economy worsened and defaults mounted, banks began to fail at alarming rates.  Meanwhile, the Savings and Loan industry was also suffering at the hands of the worsening economy, leading to hundreds of failed S&Ls.  One major difference between that period and now is the credit crisis we currently face—which was not much of an issue in the early 1980s.  Credit was available, but interest rates were extremely high.  Today, credit is seemingly not available, but interest rates are extremely low.

1980-1982 -- Government Action Comparison and Contrast

The Fed played a huge role in the early 1980s economic crisis as Fed Chairman Paul Volcker raised interest rates substantially in order to put the brakes on rampant inflation. Volcker raised the Fed Funds rate to as high as 20% in 1980, a move which ultimately helped to tame inflation, but was also probably a major contributor to the recession that followed. Today’s Federal Reserve has also been very active, arguably even more active than Volcker’s Fed.  One of the major differences, however, is that current Fed Chairman Bernanke has been lowering interest rates—all the way down to 1%--in order to encourage lending.   

1980-1982 vs. Today -- Market Comparison and Contrast

Peak to trough, the Dow fell 24% during the 81-82 recession, and recovered substantially from mid-1982 on.  This represented a much more benign stock market environment than what we’ve experienced so far in 2008, with a six-month Dow drop of 42% through November.

Conclusion

The “this time it’s different” sentiment that has permeated opinions on the current economic crisis may indeed be valid.  However, the same statement could have applied to many other such periods that we have faced.  Each, as evidenced by the circumstances surrounding the Great Depression, the 1973-1975 bear market, and the 1980-1982 stagflation era, has brought with it a unique set of challenges that have combined to create very difficult economic circumstances.  No two of these have been alike.

Despite a rather gloomy near-term outlook, 2008 does not seem to be the start of the next Great Depression. The similarities between the two periods are far outweighed by the differences.  The same appears to be true about 2008 as compared to 1980-1982 and 1973-1975.  If you combined the fear and uncertainty of the Depression with the unemployment and equity market situation of ‘73-‘75 and the banking crises of the early 1980s, you might come closer to describing the current recession, rather than to compare it outright to any of the other 3 periods.  But even that is a stretch.  The recession of 2007-2008 is unique; but though no one can predict when, just like all others before—it will end

Appendix

Stocks and Recession: A Historical Perspective

The textbook definition of a recession is two consecutive quarters of negative growth in the gross domestic product (GDP). Often a recession is declared well past the point at which it started—the current recession is no different.  The National Bureau of Economic Research the organization that makes the final call, determined in late November that the US economy entered a recession in December of 2007.

This appendix will briefly examine some past recessions in order to put the current one into context.

The History

 Since 1929, there have been 13 recessions, not including the current period. These times of negative economic growth have lasted an average of about 13 months (including the two that occurred from August 1929 through March 1933, and May 1937 through June 1938 during the period we refer to as the Great Depression). Excluding those periods, the average length of the 11 recessions we’ve experienced since 1945 has been about 10 months.

The longest recessions we’ve experienced since 1945 were both 16 months in duration—from November 1973 through March 1975, and July 1981 through November 1982. The earlier occurrence was a particularly bleak period with an all-out energy crisis, lines at the gas pumps, war in Vietnam, and the Watergate scandal (which resulted in the resignation of a US President). During that time, the Dow Jones Industrial Average fell 45% from January 1973 (9 months prior to the “official” recession start) to December 1974 (3 months prior to the recession’s end).

Our most recent previous recession lasted just 8 months—from March 2001 through November 2001. Then, the DJIA peaked in January 2000 (14 months prior to the beginning of the recession) and bottomed in September 2001 (two months prior to the end of the recession). The DJIA was down 30% during that time. 

Chart 1

 Recession Starts  Recession Ends  Recession Length
(Months)
 DJIA Change  Recession Ends after Stocks Bottom
(Months)
 August 1929  March 1933  43  -89%  7
 May 1937  June 1938  13  -49%  3
 February 1945  October 1945  8  18%  N/A
 November 1948  October 1949  11  -16%  4
 July 1953  May 1954  10  -13%  8
 August 1957  April 1958  8  -19%  6
 April 1960  February 1961  10  -17%  4
 December 1969  November 1970  11  -36%  6
 November 1973  March 1975  16  -46%  3
 January 1980  July 1980  6  -16%  3
 July 1981  November 1982  16  -24%  3
 July 1990  March 1991  8  -21%  5
 March 2001  November 2001  8  -30%  2
 Average    13  -28%  4
 Average since 1945    10  -20%  4

Source: Barron’s, Bespoke Investment Group, Bloomberg, Stock Trader’s Almanac

Only once has the Dow Jones Industrial Average actually risen during any of the recessions dating back to 1929. That happened in the 1945 recession during which World War II officially ended. Otherwise, recessions have weighed heavily on the stock market, and the DJIA has declined an average of about 28% over those periods.

At the time this article was written, the DJIA had fallen as much as 47%, after reaching an all-time high of 14,164 in October, 2007. Given that drop, the current recession immediately draws comparisons to the 1973-1975 period when the DJIA fell 46%.

Perhaps most interesting regarding recession history has been the market’s propensity to begin rebounding by an average of about 4 months prior to recession end.

 

 

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