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With help of the economic data and previous researches, it has been highlighted that the tight monetary policy led to the crash and subsequent economic failure in 1932.
Moreover, the economy suffered deflation, that is, negative rate of inflation, which implies that the borrowers had to payback more valuable USD than the ones they had borrowed (Mishkin, 2007).
The deflation occurred because the money multiplier decreased to such an extent that the MS increased despite the decrease in monetary base; this was the repercussion of the Fed’s short-sighted monetary policy.
The objective of this brief is to investigate the elements which played a pivotal role in the crash and its impact on the American economy.
However, this discussion cannot be comprehensive without highlighting the lessons which today’s economists and investors could learn from the 1929 crash.
4 ———————————————– 4 Figure 2: Unemployment rate in the US: 1929 to 1940.
6 —————————————— 6 DJIA= Dow Jones Industrial Average MS= Money Supply NYSE= New York Stock Exchange ROI= Return on Investment America’s economy suffered a massive stock market crash in 1929 when the “roaring twenties” bubble burst, resulting in eradicating billion from the NYSE in a matter of 3 days(Lange, 2007).
The rationale behind this strategy is the effect of financial leverage; it increases ROI by manifolds (Mc Laney, 2003); for instance, a 1% increase in market return could result in 10% increase in ROI.
However, the leverage effect can be opposite as well which was completely ignored due to over-optimism of the investors.
However, the short-sightedness, or sheer foolishness of investors, reversed the situation.
The boom in the stock market provided an opportunity for margin purchasing; which simply means borrowing to purchase.