How Did The Wall Street Crash Lead Up To The Great Depression

The worst period of the Depression followed the crash of the Wall Street financial markets in 1929. In Britain, unemployment peaked just below three million in 1932. A year before, in August, the Labour government had resigned and been replaced by a Conservative-dominated National Government. Although the British economy stabilised under the National Government and unemployment began a steady decline after 1935, it was only with re-armament in the period immediately before the outbreak of World War Two that the worst of the Depression could be said to be over.
What caused the huge crash?
Boom-bust theory
Keynesian, Monetarist, and Austrian economists agree that the Crash followed a speculative boom that had taken hold in the late 1920s,
which had led millions of Americans to invest heavily in the stock market, even borrowing money to buy more stock. Banks lent heavily to fund this share-buying spree.
The rising share prices encouraged more people to invest, as they hoped the shares would rise further, thus fueling further rises, and creating an economic bubble.
On October 24, 1929 (with the Dow just off its September 3rd peak from at 381.17), the bubble finally burst and panic selling set in. 12,894,650 shares were traded in the space of one day, as people desperately tried to dispose of their shares before they became worthless.
Over the following few days another thirty million shares changed hands and share prices collapsed, ruining many investors.
The banks which had lent heavily to fund share buying found themselves saddled with debt, which caused many banks to fail.
While millions of people lost their savings, businesses lost their credit lines and customers and were forced to close, causing massive unemployment.
The crash dramatically worsened an already fragile economic situation, and was a major contributing factor to the Great Depression. There is a good deal of controversy among economists and historians about the nature of that contribution, though. Some hold that political over-reactions to the crash, such as in the passage of the Smoot-Hawley Tariff Act through the US Congress, caused more harm than the crash itself.
Explanation from supply-side economic
theory
Many commentators view the Smoot-Hawley Tariff Act as a consequence of the Crash, since the act was not signed by President Hoover until June of 1930. However, supply-side economists (and others) argue that stock-market prices anticipate future profits. The Crash reflected investors' rational expectations that tariffs would raise prices for U.S. consumers (both final consumers and manufacturers that used the imported products as inputs) and reduce firms' future profits.
Supply-siders also blame two tariff laws for the earlier, sharp recession of 1920-21.
The Crash of 1929 and the subsequent Great Depression were in part longer and deeper for three reasons:
1. The Smoot-Hawley Tariff Act applied tariffs to more than 3,200 products (many more than the previous tariffs).
2. The tariff rates were very high — averaging 60%.
3. Other countries responded by enacting their own tariffs against U.S. goods in retaliation.
Official investigation of the Crash
In 1931, the Pecora Commission was established to study the causes of the crash. Based in part on the Commission's findings, the United States Congress passed the Glass-Steagall Act in 1933, which mandated a separation between commercial banks, whose activities involved the taking of deposits and making loans, and investment banks whose role was the underwriting, issuing, and distributing stocks, bonds, and other securities.
After the experience of the 1929 crash, stock markets around the world instituted measures to temporarily suspend trading in the event of rapid declines, claiming that they would prevent such panic sales. However, the crash of Monday, October 19, 1987 was even more severe than the Crash of 1929. On Black Monday of 1987, the Dow Jones Industrial Average fell 22.6%.