Chapter 10 Flashcards
(21 cards)
Before WW1:
- Pre 1914, Britain is the leading financial leader, where they recycle their gold surpluses as long-term investments; other countries don’t have to make painful. Given the UK doesn’t change their behaviour, the system was sustainable
The precursrsors: Britain
Pre-1914, Britain is the global financial leader
Britain recycles its gold surpluses, as long-term investment in foreign countries
This helps other countries avoid making economic sacrifices
The system is stable (in the sense that it does not collapse) as long as Britain does not change its behaviour
The precursrsors:
America
- America is the financial leader
- America had not designed the global financial system, and did not have the same commitment
- Harding wins the 1920 US Presidential election under the slogan “America First”.
1920s America
- America is booming -> low inflation, high unemployment
- Biggest exporter and second biggest importer
- Low interest rates -> low returns -> US investors look abroad for better returns -> Becomes biggest overseas lender but short-term lending
The precursrsors: Reparations
US had lent money to Britain and France to fight World War One and upon conclusion of war, US wanted their loans back
The Treaty of Versailles said Germany had to pay for the cost of the war
Britain and France want reparations
But Germany can’t pay/won’t pay due to war destruction
The Precursors: 1920s: International Finance
Solution to reparations and lack of ability to pay was overcome by lending Germany money at high interest rates via the Dawes Plan
New loans from US to Germany -> Spent on reparations to Britain and France -> Britain and France make debt repayments -> Germany is unable to pay loans
US loans were also spent on higher German wages, but no productivity gains were realised
That is a dangerous situation as it allows US to pull back loans and damage the global economy cycle
The Precursors: 1920s Problems In Europe
- German Hyperinflation
- UK inflation from 1918-20 (from monetary overhang caused by decreased consumption during the war > savings and lack of initial supply) followed by deflation from 1920-1922 as supply outstrips demand -> return to gold standard in 1925 at pre-war rate when the economy is no longer strong enough to support it -> causes a recession
- France returns to gold standard on ⅕ pre-war rate giving it big trade advantage compared to Britain
The Precursors: Vulnerable System:
- France and US are the most competitive countries, and they hoard all their gold -> leading to other countries inducing recessions to stay on Gold Standard
- Only continued US lending keeps the world economy going
- Low US interest rates imply rising stock prices due to the inverse relationship
The start: Increasing stock prices
The start: Reaction of FED
FED attempts to fix this by lowering interest rates down to 0 (which they believed to be the limit)
Deflation meant real interest rates remained very high (the purchasing power of money is increasing; there remains a cost of borrowing even when interest rates are 0%)
The start: Banmking failure
The start: The US during recession
The spread: 1930 smoot Hawley tariff
Aimed to protect the US worker against low wage competition from Cuba, Canada and Britain
Retaliation by trading partners who also erect tariff barriers as a response -> global trade contraction accelerates
Raise cost of imports (inflation and real wages) and demand shrink further
The spread: Before and after
Before:
- US lends money aboard -> US buys foreign produced goods -> Other countries has money – to pay interest on loans, to repay capital on loans, and buy American goods
- Equilibrium
After:
- US does not lend money abroad -> US buys far fewer foreign goods -> Other countries lack money – to pay interest on loans, to repay capital on loans, and buy American goods
- No Equilibrium
The effect: Gold standard system falls apart
- Forces all countries running deficits (ie those not named France and the US) to massively deflate their economies
- Effects on Germany:
- GDP loss 25%
- 60% loss in stock market
- Unemployment reaches 1/3 in 1932 from 10% in 1929
- Germany runs out of gold and comes off the standard first, causing a big ripple effect from investors pulling out money due to a lack of confidence = UK withdraws a month later, US in 1933
The effects: Political/ Social unrest
- Germany becomes a dictatorship
- Jarrow Crusade, 1936 (shipbuilding area, relatively well off with skilled manual labour in constructing individual ships)
- unemployment reaching 70% -> wants a steel mill so they can work -> 200 men march 300 miles down to London
Differences within countries:
UK:
- Smaller than the previous recession of the 1920s, and smaller than the post WW2 slump
- Southeast does relatively well (mostly service industry centred around London)
- Unemployment starts at 4% in 1929, reaches 10% in 1932 and reaches 5% in 1936
- Wales is mostly based on coal mining which was especially hard hit, and struggles to recover
- Unemployment starts at 20% in 1929, reaches 37% in 1932 and reaches 28% in 1936
US:
- Much greater dip in the US, with greater regional variance than in England
- Lowest unemployment rate still over 20%, highest reaching 50% in 1932
- US is worse off compared to the UK
- Nations on a similar growth path with the UK:
- A short and sharp decline followed by recovery and even growth (mostly manufacturing/service nations)
- Germany and Japan’s GDP in 1939 is 1.5x the initial level in 1925
- Nations on a similar growth path with the US:
- Spectacular decline (most of all Chile) followed by delayed recovery (mostly agricultural exporters) -> Harmed by tariffs
- Duty on wheat as % of price: Germany (200%), Italy (140%), Spain (70%)
- Spectacular decline (most of all Chile) followed by delayed recovery (mostly agricultural exporters) -> Harmed by tariffs
- Chile GDP is 50% lower in 1932 compared to 1925
Big picture, what happened?
Prices fell because th economy was producing more than what was demanded
Unemployment skyrocketed in industries which were involved heavily in international trade
Trade volume decreased because US lending decreased because of short term loans , countries which owed money suddenly had to pay it back
Agricultural nations hit worse as they had extra stock which wasn’t sold. More reliant on internantional trade
What happened to germany?
Rise of the Nazid
What happened to the US?
Bank failure = business failure = unemployment
Took them longer to abandon the gold standard which meant it took them longer to recover
What happened to the UK?
Not as many bank failure
What caused the great depression?
US responsible for 60% of international lending = 1/3 absorbed by Germany, as they needed to pay reperations
US invested abroad to get a return. FED raised interest rates = reduced incentive to save abroad = deflationary pressure in nations who relied on foreign loans = real interest rates were higher
Central banks raised interest, as they were competing
Greater incnetive to save as more to gain
