The Roaring Twenties were a period of economic prosperity and cultural change in the 1920s. They ended abruptly with the stock market crash of 1929. The following depression, known as the Great Depression, was the worst economic crisis in recent history.
The economic boom of the Roaring Twenties was accompanied by many cultural, political and technological changes. This includes changes in central bank and government policy.
World War I raged between 1914 and 1918. Most countries in Europe that were involved in the war accumulated large war debts. France and the Britain borrowed from the Untied States to finance the war.
By the end of World War I, most European countries that fought during World War I faced a dire economic situation.
Germany, which started the war, was hit hardest because it had to bear the sole responsibility for the war. Under the Versailles Treaty, Germany had to reluctantly pay war reparations. This contributed to the German hyperinflation which peaked in 1923.
Despite having won World War I, France, Britain and other allied nations were facing their own problems. Almost all countries that fought Germany during World War I had temporarily abandoned the gold standard.
Most war nations tried to return to the gold standard, but this was harder than expected. Returning to a gold standard at the pre-war exchange rate was challenging because the money supply grew beyond the war nation’s gold backing.
Returning to the gold standard meant repricing gold and devaluing the country’s currency. Alternatively, a country could try to keep its pre-war gold peg but this required deflation.
The United States, despite its involved in World War I, didn’t go off the gold standard. The Untied States was also in a better financial position than its allies in Europe.
For the most part of the war, the United States was a creditor for the allies. Once it did enter the war, the United States financed its war efforts through domestic war bonds, known as Liberty Bonds.
As Britain tried to return to the gold standard at the pre-war parity, gold began draining from Britain to the United States. To deal with the gold drain, Britain decided to inflate her money supply and turn to the United States for help.
If the United States began inflating the US dollar, this would help Britain slow down its gold drain. During and after World War I, Great Britain was still the predominant global power.
The Pound sterling was the world’s preferred reserve currency. Given these circumstances, it wasn’t far reached for the United States to support Great Britain and help defend her economic power. Some believe that the United States actively helped Great Britain return to the gold standard by devaluing the US dollar against the Pound sterling.
The Federal Reserve was still a relatively young institution during the 1920s. It was founded in 1913 and began early experiments in monetary policy, such as purchasing and selling government securities, during the Roaring Twenties.
At the time, the effects that purchasing and selling government securities had on interest rates became apparent to the Federal Reserve.
Today, the Federal Reserve uses open-market purchases and sales to set the federal funds rate. During the 1920s, there was no target for the interest rates banks charged each other for overnight loans.
Despite this, the Fed’s involvement in early forms of monetary policy began during World War I and continued throughout the Roaring Twenties.
Despite the expansion of the money supply in the Untied States, price levels remained relatively stable during the Roaring Twenties. During some periods, there even was deflation.
In general, the Roaring Twenties weren’t entirely a period of economic prosperity in the United States.
The Untied States encountered four recessions during the Roaring Twenties. The first one occurred from 1920-1921 and was accompanied by deflation. During the first year of president Harding’s presidency in 2021, prices declined by 11.05%.
The next recession occurred between 1923 and 1924, followed by a recession between 1926 and 1927. The final recession, which started in August 1929, turned into the Great Depression. It changed economic theory, monetary policy and the world as a whole .
During the Roaring Twenties, the idea of price stability took hold in economics. Classic laissez-faire economists viewed prices as the result of supply and demand. Intervening in the economy or conducting monetary and fiscal policy was counterproductive and hindered the efficiency of free markets.
Other economists, central bank officials and politicians saw price stability as something desirable. Rather than letting wages drop during a recession or depression, they believed this could further slow down spending and aggravate the economic crisis.
High wages were seen as a leading cause of prosperity. Today, price stability is one of the dual mandates of the Federal Reserve. It aims for mild 2% year-over-year inflation to achieve this.
During the 1920s, the idea of price stability became popular. But just like the Fed didn’t set a target federal funds rate, it didn’t have an inflation target at the time.
The idea of price stability led many economists to believe that there was no inflation during the 1920s. On average, prices remained stabled and even suffered from bursts of deflation such as in 1921.
The credit expansion and increase of the money supply in the Untied States during the Roaring Twenties didn’t lead to a prolonged and consistent increase in the general price level.
The post-war economic boom, despite being interrupted by four recessions in the 1920s, was accompanied by an increase in productivity and technological advancement.
Mass production became prominent during the Roaring Twenties. Before World War I, cars were a luxury. This changed in the 1920s when Ford began mass producing cars using assembly lines.
Radio ushered in a new era of mass broadcasting. Crowds filled up movie theaters as Hollywood films became a popular and affordable form of entertainment.
Several other major advancements were made in the areas of aviation, television and medicine. Mass production of cars required new infrastructure, including the construction of roads and new bridges.
Electrical production quadrupled during the Roaring Twenties. Telephone lines were built, new power plants were constructed and indoor plumbing became possible due to modern sewer systems.
At the same time, urbanization increased. This led to a boom in white collar jobs as well as other things we take for granted today, such as gas stations and hotels. The increased standard of living, technological advances and urbanization led to a boom in pop culture.
Women enjoyed more freedom, giving rise to the iconic flapper, a symbol for young women that were more sexually-liberated and less “lady-like” than prior generations.
At the time of the stock market crash of 1929, only around 2.5% of American’s owned stocks. Despite this, there was a narrative that average, hard-working American’s could get rich on the stock market.
In general, the economic boom during the 1920s led many to believe that the prosperity would last forever. While there had been several recessions during the Roaring Twenties, these were comparably mild and short-lived.
The expansion of loans for stock market purchases, known as buying stocks “on margin”, led to many Americans investing in stocks using credit.
This boom in margin loans, and the idea that the stock market could continue going up forever, led to speculation on the stock market. Many Americans bought stocks on a hunch or based on tips, without understanding the fundamentals of the companies they were investing in.
The stock market boom was the final phase of prosperity experienced during the Roaring Twenties. Although the stock market only crashed in October 1929, the economy had already entered a recession in August 1929.
Over the next couple of months and years, one of the worst economic crises crippled the United States and the world as a whole. It got known as the Great Depression.
The economic boom of the Roaring Twenties finally came to an end.
Most mainstream economists today, as well as Keynesian economists at the time, believe that the deflation and a reduction in aggregate demand caused the Great Depression.
The Roaring Twenties were a period of relative price stability. Deflation, while prevalent at times, was kept in check without causing a downward spiral in consumer spending and investing.
During the Great Depression, deflation was much worse than in the 1920-1921 recession. The most widely accepted theory is that this contraction of the money supply and price levels led to less aggregate demand.
Without central bank and government intervention in the form of heavy fiscal and monetary stimulus, the economy couldn’t get out of the depression.
Proponents of the Austrian school of economics, such as Friedrich A. Hayek and Murray Rothbard criticized these interventions and claimed that they delayed the recovery of the depression rather than aiding it.
According to them, the Great Depression was caused by the inflationary policies during the 1920s. Although price levels remained stable during the Roaring Twenties, they believe that monetary inflation in the United States led to low interest rates.
This caused an artificial boom in capital goods, which contracted in 1929. The proper remedy, according to them, would have been to let prices and wages fall to their free-market level. To them, the depression wasn’t something to be cured, but rather the cure for the artificial boom experienced during the Roaring Twenties.