1930s stock market compared today

One view of what caused the Great Depression in the s is that the Federal Reserve failed to prevent a collapse in the money supply. Financial author Edward Chancellor recently called attention to a paper written by Claudio Borio , head economist at the Bank of International Settlements, that provides a fuller picture of the causes of the Great Depression.

The paper also draws parallels between global economic conditions that led to the rise of protectionism in the s and our situation now. Elasticity refers to the buildup of capital imbalances such as money flows into emerging markets because of low rates in developed markets. As Chancellor tells it, the gold exchange standard established in the s allowed U. This arrangement encouraged growth in foreign lending. Investors in the U. However, lending standards began to loosen, and American investors brought their dollars home after the Fed hiked rates in Money flowed into U.

This reversal of capital flows, combined with a drop in commodity prices, destabilized the emerging markets by , sending their commodity producers into bankruptcy. In , several South American countries devalued their currencies and defaulted on their debt. The crisis spread to Austria, Germany, and eventually to Britain, a heavy lender to Central Europe.

Britain eventually devalued its currency, but in the U. A banking panic ensued, as the U. The result of these debt problems was the institution of capital controls. Capital no longer flowed freely among countries. International trade slowed due to tariffs, and foreign debts were not repaid.

Now, as in the s, the global economy is stretched. A low interest-rate regime in the developed world has encouraged lending to emerging markets. Moreover, last year, as Chancellor reports, emerging markets experienced their first capital outflows in nearly three decades, and that movement of capital appears to be continuing in Ratings agencies have downgraded South Africa and Brazil sovereign debt, while commodity prices continue to plunge.

Protectionism is in the air with the European Union and the U.

Also, anti-immigration sentiment is rising. So much elasticity or the buildup of imbalances can be painful during the process of restoring balance. John Coumarianos runs the website, Institutional Imperative, and focuses on value investing and behavioral finance.

He formerly was a financial writer at mutual-fund company Capital Group and a mutual-fund and equity analyst at investment researcher Morningstar Inc.

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