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In today’s world, most people recognize The Great Depression as a time when the stock market collapsed (among other incidences) and in which led to not only America’s greatest recession, but an international debacle. Starting in late 1929 in October, output drastically declined, unemployment reached a new high, and lives were changed forever. However, these times were not only seen with immense sadness, they were also seen as a time for innovation and change. The Great Depression not only produced a change in people’s lives, but a change in the way economics was understood. This can be seen in two ways: the way people viewed Laissez Faire, and how government intervention changed due to the Great Depression (Wright, 2005).

Laissez Faire

Before the Great Depression, it was always thought that the government should take as little action as possible with regards to the economy. Even past economists such as Adam Smith felt that economies would benefit from Laissez Faire; and yet, not many economists believed in a true Laissez Faire without any government intervention whatsoever (Landreth, 2002).
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Not everyone, as stated earlier, believed in Laissez Faire; or rather, a true Laissez Faire. Despite stating to be a strong advocate for Laissez Faire, even Adam Smith stated that the government was needed in some areas. For example, “although he (Adam Smith) was generally against the regulation of international trade, he made exceptions for tariffs that protected infant industries. Trade regulation was also necessary when national defense might be weakened by a policy of perfectly free international trade.” Clearly, a true Laissez Faire would do more harm than good to an economy. It took an event as catastrophic as the Great Depression to make economists think otherwise about this as well (Landreth, 2002).

David Ricardo

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At the time of the Great Depression, economists followed principles from David Ricardo. Ricardo “focused on the long run and on the forces that determine and produce growth in an economy’s potential output. He emphasized the ability of flexible wages and prices to keep the economy at or near its natural level of employment.” Ricardo, however, recognized that there would be events where overall output and employment would drop below the natural level; or in this instance that something the likes of a great recession would take place. What Ricardo further explained, was that in time the economy would essentially fix itself. Ricardo, for example, would have described the Great Depression as a short-run period in the grand scheme of things (Rittenberg, 2009).

John Maynard Keynes

During the depression, John Maynard Keynes had started developing new macroeconomic ideas. While Ricardo’s argument on the economy fixing itself in the long run did have some truth to it, Keynes argued that the extent to which the Great Depression would cause damage to the economy if left alone to fix itself would do more damage than good (Rittenberg, 2009).john_keynes.jpg
One of the major differences with regards to macroeconomic analysis that Keynes had in comparison to Ricardo, was the importance of government intervention. There were in fact many instances in which the Federal Reserve could have intervened and perhaps even have prevented this from happening. According to Rittenberg, “the Fed could have prevented many of the failures by engaging in open-market operations to inject new reserves into the system and by lending reserves to troubled banks through the discount window.” With the failure of the banks sweeping the United States, approximately 31% of the country’s money supply plummeted between 1929 and 1933; something that could have been at least mitigated with the intervention of the Fed (Rittenberg, 2009).

Getting out of the Recession

When people look at the Great Depression, they sometimes say that it was the war that got North America out of the recession. While that may be true, it is partly due to the fact that the bailout.jpggovernment didn’t actually intervene in the economy until the arrival of World War 2. Keynes stated that “New Deal policies did seek to stimulate employment through a variety of federal programs. But, with state and local governments continuing to cut purchases and raise taxes, the net effect of government at all levels on the economy did not increase aggregate demand during the Roosevelt administration until the onset of world war.” With taxes rising, consumer demand fell. So in essence the Fed was making the wrong decisions during the depression, and the right ones during the war (Rittenberg, 2009).

A Change in Economic Theory

The Great Depression was an event that both destroyed lives, but in turn also managed to make future lives better. With the advent of this great recession, many economists realized that government intervention to some degree was needed in order to increase aggregate demand. Even though that intervention didn’t actually take place until World War 2, the impact of what it did was noted and changed how a part of the economy was run. David Ricardo’s long-run theory was valid, there’s no mistaking that. However his method would virtually have been impractical during the Great Depression since not only would it have lasted longer, but the damage done would have been more severe. John Maynard Keynes brought forth ideas that would advance the economy in a more superior way as opposed to Ricardo’s; and thus, most economists today can be described as Keynesians.

In today’s world, most people recognize The Great Depression as a time when the stock market collapsed (among other incidences) and in which led to not only America’s greatest recession, but an international debacle. Starting late 1929 in October, output drastically declined, unemployment reached a new high, and lives were changed forever. However, these times were not only seen with immense sadness, they were also seen as a time for innovation and change. The Great Depression not only produced a change in people’s lives, but a change in the way economics was understood. This can be seen in two ways: the way people viewed Laissez Faire, and how government intervention changed due to the Great Depression (Wright, 2005).

Works Cited


Harry, Landreth (2002). History of Economic Thought. Boston, Toronto: Houghton Mifflin Company.

Libby Rittenberg (March 2009). Principles of Macroeconomics. Retrieved from http://www.flatworldknowledge.com/node/30077#web-30077

William M Wright (2005). The Great Depression that Changed Economic Theory. Retrieved from http://windowtowallstreet.com/1929marketcrash.aspx