If you were around in the 1920s, then the words “great depression” should send chills down your spine or at least make you tremble. The great depression was the biggest and longest economic recession in modern world history. It started with the United States stock market crash of 1929, and it continued till 1946 after the unfortunate World War II. During the great depression, which caused lots of economic havoc, several banks failed. But what made these banks fail at a time when they were needed the most?
During the great depression, deflation skyrocketed, thus increasing the real burden of debt. This left several companies and households with little income to repay what they owe. As a result, bankruptcies and defaults went up, causing thousands of banks to fail.
The great depression, which was almost like the greater recession of the 2000s, shook the United States economy like a great earthquake. The stock market plummeted by nearly 50%, and corporate profits followed suit by over 90%. The economic downturn caused by the unfortunate great depression threw several companies and individuals into absolute bankruptcy. The result? Many banks shut. In fact, in each year from 1930 to 1933, over 1,000 U.S. banks closed. If you are surprised by this stat, you may want to know what happened. Why did the banks shut? You’ll have to continue reading to find out.
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Why Did Banks Fail During the Great Depression?
The great depression of the late 1920s and ’30s is the most prolonged and most severe economic downturn in modern history. It lasted for almost 10 years (from late 1929 until about 1939) and affected nearly every country worldwide. This period was marked by steep declines in industrial production and prices (deflation), mass unemployment, banking panics, and rapid increases in the rate of poverty and homelessness.
In the U.S., where the effects of the depression were generally severe, between 1929 and 1933, industrial production reduced by nearly 47 percent, gross domestic product (GDP) decreased by 30 percent, and unemployment got to more than 20 percent. By comparison, during the great recession of 2007-09, the second-largest economic downturn in United States history, GDP went down by 4.3 percent, and unemployment got to less than 10 percent.
There is no consensus among economists, including historians, concerning the exact cause of the Great Depression. What about the reasons for the bank failure that preceded the great depression? Unlike the great depression, the reason for bank failure was well documented, and it may shock you.
Banking Panics and Monetary Contraction:
Between 1930 and 1932, the U.S. experienced four-length bank panics, during which several bank customers, fearful of their bank’s solvency, simultaneously tried to withdraw their deposit in cash.
Ironically, the frequent effect of a banking panic is to bring about the crisis that panicked customers desire to safeguard themselves against: even financially healthy banks can be destroyed by a large panic. By 1933 one-fifth of the banks in operation in 1930 had failed, resulting in the new Franklin D. Roosevelt administration declaring a four-day “bank holiday” (later increased by three days), during which all of the country’s banks stayed closed until they could prove their solvency to government inspectors.
The natural consequence of widespread bank failure was reducing consumer spending and business investment because there were fewer banks to lend money.
There was also less money to lend, partly because individuals we’re hoarding it in the form of cash. But, based on some scholars, that issue was blown out of proportion by the Federal Reserve, which increased interest rates (further reducing lending) and deliberately lessening the money supply in the belief that doing so was essential to maintain the gold standard, by which the U.S. and several other countries had tied the value of other currencies to a fixed amount of gold.
The reduced money supply reduced prices, which eventually discouraged lending and investments (as individuals feared that future wages and profits would not be enough to cover loan payments).
The Hoover’s Administration to the Rescue:
As noted earlier, in the fall of 1930, the first four waves of banking panic started, as several investors lost confidence in the solvency of their banks and requested deposits in cash. This forced banks to liquidate loans to supplement their inadequate cash reserves on hand.
Bank runs swept the U.S. again in the spring and fall of 1931 and the fall of the following year. The result? By early 1933 thousands of banks had shut their doors.
While the issue was raging, President Herbert Hoover’s administration tried supporting failing banks, including other institutions with government loans; the concept was that the banks, in turn, would loan to businesses, which would be able to rehire their employees. But, the damage had been done, and several people began asking the same question you may be eager to ask: Why did banks fail?
During the great depression, banks’ failure was attributed to several factors. However, one of the significant factors for their failure falls down on the rapid withdrawal.
You see, after the horrible Black Thursday, several people rushed to the banks to withdraw their savings, thus leading to massive bank failures as the banks were overwhelmed by requests. Individuals had borrowed money to buy shares, and they were subsequently unable to pay it back.
Panic was an essential factor in the Great Depression that Franklin Delano Roosevelt famously said, ” The only thing we have to fear is…fear itself” in his inauguration address.
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Did Any Bank Survive During the Great Depression?
During the great depression that ravaged the U.S. economy, several financial losses were recorded. In addition, there was huge panic after the U.S. stock fell, followed by the famous bank runs. During the fall of 1930, the first four waves of banking panic began. In a nutshell, the panic resulted in customers trying to withdraw their money from banks. As a result, banks closed but not all.
Regardless of the panic spread across several customers and institutions during the Great Depression, not all banks failed. According to Frederick Lipman, Wells Fargo president, as of then, around 14,000 banks survived.
Of course, as you would have expected, Wells Fargo didn’t fail during the great depression that sank several banks. In fact, it announced to its shareholder that it witnessed a $2 million growth in deposits.
