The 1929 Stock Market Crash

The 1929 Stock Market Crash

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The 1929 Stock Market Crash

"We’d like to thank you, Herbert Hoover/ For really showing us the way/ You dirty rat, you Bureaucrat, you/ Made us what we are today (www.stlyrics.com)." These lyrics from the musical Annie place the blame for the 1929 Stock Market Crash solely on the then former president Herbert Hoover. The truth of the matter is that placing the blame for the Stock Market Crash on Mr. Hoover is very unfair. Herbert Hoover was only one of many causes of the Stock Market Crash. It is easy to try to place the blame for one of the most destructive events in the history of the American economy on one person, but the real causes lie in the rampant speculation, the lack of regulation of the stock market, and the questionable ethics of many of the companies and brokers that were involved in the market. Although the 1929 Stock Market Crash is generally blamed on a few scapegoats, it was actually caused by a multitude of factors, which makes finding a scapegoat impossible.
While there may be some arguments among historians, speculation is obviously one of the major causes of the Crash. Speculation (In the context of the stock market) is the buying of stocks with the purpose of profiting not from the dividends that the stock pays, but by the fluctuations in the price (Axon 31). Speculation is often looked down upon by the market as a profession, as it is seen as a form of gambling with possible serious repercussions. The secret is that speculation is actually very important in making a stock market appear healthy as it increases the amount of trading of more risky stocks, as well as increasing the overall amount of stocks that are traded on the market floor(Galbraith 16).
Speculation does not become a major problem until the speculator no longer has enough capital to keep buying stocks. To get the capital, most speculators will turn to a loan. The only problem is, what will the speculator use as collateral for the loan? Using something like a house or property was far too dangerous, so the speculator would use the stock itself as collateral, in a process known as buying on margin. The process of buying on margin allows the speculator to acquire much more stock than they would normally have the money to buy.

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Unfortunately for speculators, these loans come with an interest rate that is generally above eight percent (Galbraith 24). Therefore, speculators need to make a large amount of money from their speculation in order to pay off the interest and still have money left over to account for a profit (Galbraith 25).
Another downside of margin trading is that the stocks, which are being used as collateral for the loan, have a tendency to increase and decrease in price. If the stock goes so far down in price, then it is no longer sufficient collateral for the loan. If this happens, then a margin call goes out (Axon 65). A margin call means that the speculator that took out the loan must contribute more of his own capital as collateral for the loan (Axon 65). If the speculator does not have any capital that he can contribute, then the broker can sell the speculator’s stock (Axon 65).
If the amount of margin trading is high in the stock market, and the prices of stocks experience a sudden drop, then many margin calls go out. Because speculation is high, it is likely that many speculators won’t be able to cover the margin, therefore; the broker sells the stock. Because so many stocks are being sold, the prices go down even further, as there are many stocks being flooded on the market. Thus a domino effect is triggered which can wipe out all of the speculators for a time period.
Another staple of the speculation in the late twenties was the investment trust. An investment trust is not actually a new company, it was just a way for people to own stock in a multitude of old companies (Galbraith 52). An investment trust is a company that invests their capital in other companies, as opposed to investing the capital in physical assets such as a factory or employees (Galbraith 52-53). When a speculator invests in one of these investment trusts, he is acquiring small amounts of many different stocks. The problem with these investment trusts is that their price increases and decreases based on how popular the company is (Galbraith 51).In the twenties, many of the investment trusts were heavily invested in each other, which meant that if one trust failed, they all failed. For example, of the five million shares of stock that Shenandoah (an investment trust) released, two million were taken by Goldman, Sachs (another investment trust) (Galbraith 67). Another problem with the investment trust was that they rarely paid dividends, and the owners of the stock had no control over any of the companies that they were invested in (Galbraith 66). While investment trusts seemed like a good idea to speculators at the time, they proved to be the ones hardest hit by the crash, as can be seen in how Goldman, Sachs went from 104 to 1 ¾ in a couple of months (Galbraith 70).
While speculation was a major factor in the decline of the stock market, it cannot be blamed as the only cause for the crash of the market. When they were brought forth to speak with the Senate, brokerage firms estimate that there were only about 600,000 accounts open for margin trading, as opposed to 950,000 which were used for cash trading (Galbraith 83).
Another cause of the Stock Market crash was the lack of regulation of the stock market by the government. Back in the early twentieth century, the government took a very laissez faire approach to the regulation of the stock market. Practices such as insider trading were commonplace in the stock market, and deemed by many, including famous economist Milton Friedman as an important part of the stock market (Axon 26).
The blame for this lack of regulation is usually pointed at either the Federal Reserve, Calvin Coolidge, and/or Herbert Hoover. It would be very unfair to blame Coolidge for not regulating the market because the times were very good. If the president were to throw a wrench into the market that is turning regular Americans into rich men, his popularity would immediately fall. During the twenties, when government was much smaller that it is today, many people also believed that the government did not have the authority to regulate the stock market.
Herbert Hoover, if he were alive today, would try to make the same case for himself. He would say that he didn’t have the power, and that he would have become very unpopular if he did anything. Hoover can be forgiven for not regulating the market before the initial crash, but after that, one must look at him with a more critical eye. After October of 1929, the public was crying out for his help yet he stuck to his strict laissez faire beliefs (Axon 79). Hoover took up the role of cheerleader, always predicting a bright future for the economy until the public stopped listening to him (Axon 79). Hoover also enjoyed calling large meetings where the only purpose was to make it look like organized support was coming to the market, when in fact the meeting was just for show (Galbraith 141).
The Federal Reserve also proved that it was a very young and naïve organization, which should have been expected from an organization that had only recently passed its tenth birthday, and was involved in a field in which the experts claimed to know much more that they actually did. The Federal Reserve can be faulted in their decision to lower the rediscount rate of the New York Federal Reserve bank from 4 to 3.5 percent (Galbraith 15). The change in rate was brought about from a meeting between officials in the Federal Reserve and high-level European executives in 1927 (Galbraith 15). The Americans, who were eager for Europe to pay off some of its loans to the United States, embraced their cry for an “easy money” policy (Galbraith 14). What the Federal Reserve did not expect was how much the change in rate increased the amount of speculation. The Federal Reserve clearly cannot be solely blamed for rampant speculation that later occurred, as this was not the first time that credit was wildly available, and in the past, wild speculation did not follow the availability of credit (Galbraith 16).
One might ask, “What is the problem with a stock market that is unregulated?” Until October of 1929, few people could answer that question. What the people living in the late twenties and early thirties learned only too late was that securities fraud, such as bear raids and insider trading made the market very unhealthy, as the fluctuations in the prices in stocks were based not on the performance of the companies, but on rumors spread by high level executives with the desire to take advantage of the public.
When a market is based on rumors, even the littlest thing can incite a panic that drags the whole market down with it. For example, on September 5, 1929, Roger Babson, a man of little repute in the stock market, claimed that, “Sooner of later a crash is coming, and it may be terrific (Galbraith 89).” Today, wild predictions are made about the stock market with a great frequency, and mostly, the stock market is not affected by these predictions, because our market is based on the performance of the companies to which the stocks are attached, as opposed to rumors. But in 1929, such a prediction caused quite a stir, as 5,565,280 shares of stock were traded on the floor of the NYSE on September 5, as opposed to the 4,438,910 shares that were traded only two days earlier. Babson’s prediction ended the great bull market, and signaled the start of the downturn that ended with the crash of the market (Galbraith 88-89).
Another example of a little thing inciting a panic is the stock ticker. The ticker, which conveyed stock prices to the public, would lag behind when there was a lot of trading. Normally, when the ticker lagged behind it was not a problem for those involved in the stock market, as they could feel assured that nothing drastic was happening to their stock (Axon 15). In late October of 1929, amid rumors of drastic falls in the stock market, Americans started to panic when they could not get an accurate quote for their stock (Galbraith 104). After a couple minutes of panic, amid rumors that various stocks were plummeting, people decided to sell all that they could. This selling created even more of a panic, which led to even more selling (Galbraith 104). Coupled with the stop loss orders and unreliable stocks and investment trusts, this selling led to the all time low prices that are synonymous with the 1929 Stock Market Crash (Axon 30).
Although the 1929 Stock Market Crash has been blamed on a few scapegoats, it is actually the result of many different causes. While the government is often blamed for causing the crash, the government should actually be blamed more for what it didn’t do than what it did do. It is obvious that the Crash signaled the end of the boom of the twenties, and the beginning of the Great Depression thirties. It also ended the years of an uncontrolled stock market, and signaled a new era with the hopes of never making the same mistakes again. So Far, the same uncritical experience that Americans had with the stock market in the 1920’s has not since been seen.
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