US Dollar Purchasing Power in the Wake of Depressions: Putting Things Into Perspective
There is much to learn about the value of curriences in the wake of a market crash.
Many have drawn parallels between the current global financial crisis and the Great Depression of the 1930s. Analysts have not been shy in claiming that the current global financial crisis is the "worst since the Great Depression". Nobel Prize-winning economist Paul Krugman even recently mentioned on his blog that he's "got that 30s feeling, all the way".
As tempting as it may be to draw parallels between the Great Depression and the Crash of 2008, we have to remember that the world of today is radically different than the world of the 1930s. In comparing the US economy of the 1930s to today, there are substantial differences in everything from what people wear to what people eat to how people get to work. Economists cannot look past these differences in comparison 1929 and 2008. Of course, we still use the US dollar and we still require economic activity to function as a society and nation. Nevertheless, perhaps there are things we can learn about the value of a currency in the wake of stock market crashes and depressions.
By the Sweat of Your Brow You Shall Eat Bread
Though the food we eat today may be different from the tastes of the 1930s, some aspects of our diet have not changed. Take for instance a staple of the human experience: a loaf of bread. Some could regard a loaf of bread as an economic standard (similar to the Big Mac Index). In 1930, you could buy a loaf of bread in the US for nine cents. Today a loaf of bread can cost you roughly $1.98 in the same currency.
That may sound like a substantial difference, but where the average salary per year in the US for 2009 was $40,711.61, the average wages per year in the US for 1930 was $1,970.00. Though price comparisons between 2011 and 1930 may not always be absolute or uniform in difference, they reflect changes in not only the societal perception of value but also the American way of life. While we discuss purchasing power differences between the 1930s and today, it is important that we do not overlook societal and microeconomic developments in American culture such as gender equality, civil rights, and key inventions like the microwave or the washing machine. Even so, from depression to depression we are all united in the one human journey.
During the Great Depression, the Consumer Price Index (CPI) stood at 17.3 in October 1929, reached a bottom of 12.6 in May 1933, stayed around 13 or 14 for the remainder of the 1930s, and did not reach 17.3 again until April 1943. In comparison, the CPI was at 216.573 in October 2008, fell a handful of points through 2009, and regained its footing to 218.178 in May 2010. This appears to suggest that where the US fell into deflation in the 1930s intensifying the crisis, the Crash of 2008 has spared us a deflationary spiral that would have prolonged a recession. Three years after the stock market crash in the 1930s, the CPI fell to 13.3. In comparison, as of August 2011 the CPI stands at 226.545. Compared to the 1930s, we are not in such bad shape (yet).
If we take a look at the inflation rate of the US following the 1930s stock market crash, we can see that the inflation rate fell into a deflationary pit (bottoming near -10%) that stuck around for about four years. In comparison to the Crash of 2008, the US appeared to slip into a slight deflationary gully (bottoming near -2%) for a single year. One might use the analogy of the 1929 economy tripping up and falling into a ten-foot-deep hole and the 2008 economy tripping up and falling into a ditch by the side of the road.
The US Dollar, Gold, and Stock Market Crashes
Now, back in 1929 the US Dollar Index was not yet in existence. Even more, at the onset of the Great Depression the US dollar was backed by gold. This changed in 1933 when the US government suspended the gold standard, restricted use of gold for transactions, and banned most private ownership of gold. Yet even in the midst of the Gold Reserve Act in January 1934 (over four years after 1929 Crash), the CPI pretty much remained unchanged for some time. A few possible reasons for this include slacked demand and an unemployment rate of 21.7% (a substantial climb from a 4.2% unemployment rate in 1928 and 8.7% in 1930). Though the value and meaning of the unemployment rate today may have substantially changed since 1930, the psychological impact and market implications of the numbers remain.
To say the least, though it may be easy to compare the Crash of 1929 with the Crash of 2008, when taking into account various factors like oil, the US dollar as a global reserve currency, globalization, societal changes, and increasing technology, one cannot help but feel that comparing the two crashes is a bit like comparing apples and oranges. On October 28, 1929, the Dow Jones Industrial Average (DJI) dropped 12.82%; the next day the DJI dropped 11.73%. In comparison, the next closest one-day percentage loss from October 2008 was 7.87%. Where the 1929 US economy appeared to fall and not be able to get back up, the US economy today appears to have fallen , is currently struggling to regain its footing, and is trying to get back up on its feet.
The Crash of 2008 spurred investors to take another look at precious metals. A practical standard in comparing the value of the US dollar after the Great Depression and the value of the US dollar after the Crash of 2008 rests in gold. In the 1930s, the price of gold was relatively stable.
If we contrast the 1930s with the Crash of 2008 where gold went through the roof, it is clear that the US dollar on the gold standard was a completely different animal in comparison to the fiat free-floating US dollar currency we have today. Both currencies in 1929 and 2008 were the US dollar, but in an analogous way it is as if one was a Saber-toothed tiger and the other is a Bengal tiger; they are two completely different animals. Where we have experienced inflation since the Crash of 2008, the situation was much different in the 1930s when deflation set in. Unlike the deflation of the early 1930s, the US economy currently appears to be in a "liquidity trap," or a situation where monetary policy is unable to stimulate an economy back to health.
In terms of the stock market, nearly three years after the 1929 Crash, the DJIA dropped 8.4% on August 12, 1932. Where we have experienced great volatility with large intraday swings in the past two months, in 2011 we have not experienced any record-shattering daily percentage drops to the tune of the 1930s. Where many of us may have that '30s feeling, in light of the DJIA, the CPI, and the national unemployment rate, we are simply not living in the '30s. Some individuals may feel as if we are living in a depression, but for many others the current global financial crisis simply does not feel like a depression akin to the 1930s.
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