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Galbraith’s little treatise (it’s quite thin for a book and I’m
actually inclined to call it a tract) on the stock market crash in
1929 is an entertaining and educational read. Galbraith retells the
events with a journalist’s touch – not surprisingly since he edited
Fortune magazine after World War II – and from a New Dealer’s,
Keynesian and Democrat’s point of view, because he was all three.

Galbraith’s retelling of events and interpretation is quite orthodox,
citing optimism after the post-World War I boom, long periods of
corporate profits and rising income as the fundamental cause of the
boom. Galbraith also tells of firms seeking funding in the relatively
new aviation and radio industries (not unlike the dot com boom), and
the creation of highly-leveraged investment trusts (think Temasek
Holdings listed on the Singapore Exchange or Berkshire Hathaway) that
had vastly inflated prices, that capitalized on the demand for
securities.

Laissez-faire government policy, politicians and influential
financiers and corporate executives are criticized for cheering on the
stock market when the appropriate responses should have been to
discourage speculation. Galbraith also faults the Federal Reserve for
being too unimaginative and selfish, citing a statement in 1928 that
stated that Fed would not step in so long as its funds were not used
for speculative purposes, directly or indirectly.

Why unimaginative? Galbraith acknowledges that the two most effective
tools of controlling the market, namely, open-market operations and
raising rates, were not useful in restraining speculation, because the
Fed held a relatively small amount of securities and raising rates
would hurt ’serious’ investors and not deter speculators. Galbraith
further notes that moral suasion is a blunt tool with uncertain
effects.

But all these, Galbraith argues, did not mean that the Fed should have
just sat around and issued statements to distance itself from the
market. The central bankers could have done something about the
increasing volume of margin trades, which were the preferred vehicle
for speculators. There was also little regulation to prevent insider
trading or rigging of share prices by influential individuals.

However, incompetence/laissez-faire attitudes was not the cause for
the crash itself. Galbraith devotes pages to describing an irrational
exuberance that infected punters, banks, brokerages, reporters,
academics, including Irving Fisher, the professor who came up with the
“P x Y = M x V” equation. He also describes how a brief downturn in
industrial figures, plus two negative statements in early September
1929 spooked investors, and how frightened individuals decided to dump
their stock when the ticker lagged behind sales by two hours, and how,
after months of cheering on the bull run, senior executives and
bankers couldn’t do anything to steady the market.

Having addressed the growth and the burst of the speculative bubble,
he moves on to discuss the aftermath of the crash, eg its effects on
suicide rates an investigations launched to find out the cause, and
the Hoover administration’s handling of the crisis, as well as the
Roosevelt administration’s policies to regulate and control the
market. He is especially critical of the last two, suggesting (but
never stating – it’s not his style of writing) that while important
people were convicted, they were found guilty of demeanors unrelated
to the crash, and so their convictions, whether rightly deserved or
not, did not address their involvement in the crash. Hoover’s meetings
with business and union leaders are savaged in a bitterly sarcastic
episode that credits the president for successfully not doing
anything.

Galbraith also devotes a section to examining the Great Depression
which shortly followed after the Great Crash, though it is clear from
the structure of the book that Galbraith does not believe that the
crash caused the depression. Still, he is unequivocal that the crash
worsened the depression because of the following 5 factors:

[Summarised from Galbraith]

1. Inequality of income. The richest 5% of the population held 33% of
the GDP. The economy was dependent on high levels of investment or
consumption, which in turn depended on this minority. As they were
affected in fall 1929, their subsequent investment and consumption
patterns hit the economy when it was most vulnerable.

2. Bad corporate structure. Too much leverage and too many holdings.
Companies were dependent on dividends from subsidiaries to pay
interest on their bonds. When dividends were interrupted, so were debt
repayments, leading to eventual bankruptcy, and fall in investment.

3. Bad banking structure. Bank failures led to runs on other healthy
banks, which in turn failed. As incomes and poverty failed,
depositors started to draw on their assets held in banks.

[The next two are not related to the crash, but are cited by Galbraith
as reasons, together with the first three, why the recession never
really recovered. As you can see from points 1 and 5, Galbraith has a
strong Keynesian bias.]

4. Balance of payments. The US was a creditor after WWI. High tariffs
discouraged imports from Europe. Other countries borrowed or paid in
gold. However these debtor nations were not always reliable and the
surplus could not continue for long. Hoover and Congress did not wish
to increase imports, thus ensuring that foreign countries defaulted
and reduced demand for American exports. This affected farmers and the
economy, although it was not as bad as is commonly thought.

5. Poor understanding of economics. Hoover’s tax cuts had negligible
effect, and his request that corporations maintain wages and
investments depended on the goodwill of businessmen. Both Republicans
and Democrats did not believe in deficit spending. Fear of inflation
also prevented any expansionary measure, whether to go off the gold
standard or to opt for deficit spending. Devaluation to solve problem
4 was not an option. Even Roosevelt dared not touch it in his
campaign.

[End of summary]

As the book was written to coincide with the 25th anniversary of the
crash, Galbraith then caps off the book by stating, with examples, of
how the loopholes and excesses of the 1920s have since been rectified
by the government, how the market is a lot more wary, but cautions
against being confident that America can emerge unscathed from another
crash.