what caused the Great Depression?
In: Economics
October 24, 1929, aka “[Black Thursday](https://www.britannica.com/event/Black-Thursday),” the first day of the [stock market crash of 1929](https://www.britannica.com/event/stock-market-crash-of-1929), a catastrophic decline in the US [stock market](https://www.britannica.com/money/stock-exchange-finance) that ended up crashing the global markets.
Many of the stocks being traded had been purchased on margin—that is, with a cash payment representing only a small fraction of the stocks’ actual value, the rest of the purchase price being covered by a loan from the stockbroker or investment company, with the stocks themselves serving as collateral. In addition, the increased demand for American manufactured goods in the years immediately following World War I eventually led to overproduction in various sectors, causing many businesses to lose money and their stock prices to fall.
As Black Thursday unfolded, several major banks and investment companies bought up great blocks of stock in a briefly successful effort to stem the panic of investors. At the end of the day, the market closed only a few percentage points down, and on Friday it recovered very slightly. Wall Street’s calculated show of confidence ultimately failed, however, as nervous investors resumed selling stocks the following Monday and Tuesday (later known as [Black Monday](https://www.britannica.com/topic/Black-Monday-1987) and Black Tuesday), when prices declined by a further 12.8 percent and 12 percent, respectively. As stocks declined in value, brokers and investment companies for stocks sold on margin required more money from buyers to compensate for the loss of collateral, and buyers themselves raced to sell stocks to minimize their losses. Black Tuesday is generally considered the last day of the stock market crash of 1929.
There’s a lot of things that happened, some in combination, others in tandem, but there’s two major pillars. Firstly, in the post WWI expansion, the stock market had massive growth, stocks were on an upward trajectory, which caused increase demand, which further grew stocks. Stock market investing started to be seen as a “get rich quick” method, and lots of people started investing. Of course, not everyone investing had the money to do so, in fact most didn’t. Leading to an increase in margin investing.
Margin investing is basically borrowing money to purchase a stock with the intent of selling the stock quickly and cashing in on rising prices (IE buy a stock for $5, sell it for $7, pocket $2). The thing about margin investing is it’s subject to the “margin call”. The point where you must repay the money you borrowed, whether your stock goes up, or down.
But the stock market started to cool, because it was artificially inflated, panicking tons of investors who had borrowed on margin. To use the example above, if your $5 is now worth $4, you’re still going to owe that margin call $5 (and some interest). So you sell *now* before it gets to $3, to minimize your losses. Well, stocks are just supply and demand, if demand drops, prices drop, which causes more problems, which pushes prices even further down and well. Then you get Black Tuesday.
On Tuesday, October 29, 1929, the stock market lost roughly 12% of its value *in a single day.* Without context this not seem like much but to lose 12% in a single day of trading is an astronomical loss.
So that was problem 1. Here’s problem 2. It’s easy to think of banks as just the vault of money that holds your accounts. They are not. Banks don’t actually have much cash on hand. After all, banks make their money on loans, sitting on money is money they could be loaning. Banks pay you some small interest on your savings account mostly in consideration for you letting them use your money to loan out to people. Banks count on (you could say they *bank on it*) most people not wanting all their money all at once. If everyone tried to withdraw all their money at once, the bank would very rapidly run out of cash reserves on hand to actually give that money to them. In fact, banks typically don’t keep more than 10% or so of the total balance of all accounts in actual cash on hand (the exact amount is dictated by federal laws that came out *precisely because of the great depression*).
When people try to withdraw more money from a bank than the bank has on hand it’s called a run on the bank. And this is exactly what happened when people started seeing their life savings wiped out in the stock market crash.
And to a certain extent it doesn’t matter how much a piece of paper says you have in the bank, if you can’t actually *get your money* *out of it* you have effectively 0 dollars.
The stock market crashed, and in the following runs on the banks, the banks themselves ran out of cash to satisfy their accounts.
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