The US Business Cycle

THE US BUSINESS CYCLE: Dates

Old Regime: 1854-1919 (16 cycles) : Upswing = 27 months, Downswing = 22 months
Interwar: 1919-1945 (6 cycles) : Upswing = 35 months, Downswing = 18 months
New Regime : 1945-2001 (10 cycles) : Upswing = 57 months, Downswing = 10 months

All Regimes: 1854-1991 (32 cycles) : Upswing = 38 months, Downswing = 17 months

Jacksonian Bubble (approx. 1834-37) President Andrew Jackson revoked the charter of the Second Bank of the United States (the American central bank) in 1833 and allowed private banks to issue their own currency. The subsequent over-supply of credit led to a lowering of interest rates and fuelled an investment boom, directed mainly at canal-building, railroad-building and farm construction in the Midwest. European financial institutions jump into the fray. Rising price of farmland begins taking the character of a speculative bubble.

The Panic of 1837 (1837-38) Doubting the soundness of the Midwestern real estate bubble and the US government's sudden new requirement ("The Specie Circular" of 1836) that purchases of federal land be paid for in gold or silver and not bank money, the real estate bubble is burst and land prices began to fall.  Simultaneously, as specie is sucked to the West, there is a liquidity crisis among banks in the East, partly as a result of the rise in Bank of England interest rates in 1836. In May, 1837, New York banks begin demanding payment in specie as well (or rather, suspend the convertibility of paper notes to gold specie on demand), followed soon by other banks throughout the US.  The international payments system (based on American cotton bills of exchange) is severely disrupted as there is a "flight to quality" towards British-drawn bills and American bills are refused in London.  A financial crisis takes shape. banks who had lent to land speculators go under, as do those Eastern banks unable to withstand the liquidity crunch; a capital flight ensues as Europeans pull out of the US. As credit dries up, interest rates shoot up and investment spending declines, creating a starp recession.  A brief recovery in 1838-39 will not hold, and the US economy will be thrown into a deep depression for the next five years. (see Great Contraction).   The brunt of the public anger is directed against Martin van Buren, Jackson's former vice-president, who had just entered office as president in March, 1837.

The Great Contraction (1838-1843) After a brief recovery from the Panic of 1837, investment spending fell again - and stayed stuck there for a while. This is one of the severest depressions on record.

Frontier Boom (1848-1857) Westward expansion beyond the Mississippi begins in 1843, and is eventually followed by the acquisition of the west in after the Mexican-American War in 1848 and the California Gold Rush of 1849. This prompts a great wave of railroad-building, town & farm construction and other investment projects in the west. The 1848 "Springtime of the Peoples" in Europe prompted a capital flight away from Europe and towards the US, helping keep US interest rates low, thus fuelling the investment boom. Although punctuated by a brief recession in 1854, the boom heated up again and new investment on the western frontier began to take on an ever-more speculative character.

Panic of 1857 (1857-61) The collapse of the Ohio Life Insurance and Trust Company brings down a few leading New York financial institutions -- which then spreads into a widespread bank panic and capital flight back to Europe. Interest rates rise and credit dries up, bringing investment spending to a screeching halt. A sharp recession hits. The economy recovers a bit in 1859, but no longer as gung-ho as before.

Civil War (1861-65) After being in the doldrums for a while, the American GDP starts picking up as the Union and Confederate governments boost military spending for the Civil War and the protectionist Morrill Tariff of 1861. The subsequent transition to peace prompts a mild recession, as the military is demobilized.

Railroad Boom (1867-1874) Massive railroad construction -- and attendant investment into neighboring farms and towns -- picks up again. US industrialization begins as railway-related industries -- such as steel -- are set up. The first trans-continental rail link is finished in 1869. But that same year, an attempt by Gould & Fisk to corner the gold market creates a liquidity crisis, raising interest rates and prompting a mild recession in 1869-70. But investment spending picks up again quickly afterwards. Speculation on railway company shares generates a stock market bubble on Wall Street.

The Long Depression (1874-79) In 1873, Jay Cooke & Co., a prominent railroad financier, declared bankruptcy. This, together with the shenanigans around Credit Mobilier (which was involved in the financing of Union Pacific) and the exposure of the Boss Tweed ring in New York, shook public confidence in the over-priced stock market. A panic ensued, the stock market crashed -- with the railway shares falling most sharply. As railroad companies, their contractors and related industries collapsed, another wave of bank failures ensued. The National Banking System (est. 1863), which created a pyramid of deposit reserves, perversely made things worse. Interest rates rose sharply and investment declined abruptly, driving the American economy into the longest depression on record (63 months). It is during this long depression, incidentally, that railway companies were forced to adopt cut-throat competitive practices, such as rate discrimination, to keep themselves afloat. They also put the squeeze on their workers, prompting violent labor-management confrontations.

The Farmers' Boom (1879-1882) Ironically, what pulled the US out of the long depression was not industrial barons and railroad tycoons, but American farmers. Widespread European crop failures created a huge demand for American crops. It was the rise in American crop exports and farm incomes that finally got the US GDP going again. But things got back on the old track – and, by the early 80s, the upswing took on the character of yet another railroad boom. This was also the time when the corporate form of organization (then limited largely to railway companies) began being widely adopted in other sectors.

The Industrial Correction (1882-1884) The peculiarities of the farmers' boom could not last. Expansion of farm output eventually led to a collapse in agricultural prices, farms failed, net exports began to decline. The economy began to glide downwards as businesses began to fail. Towards the end of the downswing, the failure of a big name firm, Grant & Ward, prompted a bank panic, driving interest rates up sharply and prompting a sudden, steep (if brief) decline. It is sometimes called the "correction" since it was widely regarded as "clearing the air" and returning the US to its more typical railroad-led cycle.

Industrial Boom (1885-90). The high interest rates at the end of the correction attracted massive amounts of foreign capital and investment, with railways again leading the way. This was the push into what remained of the frontier – the Dakotas, Nebraska, Kansas, Colorado and the Pacific Northwest were quickly penetrated & settled in this period. The massive purchase of American assets by Europeans kept a net inflow of gold into the US. But foreign holdings of American assets soon took on speculative proportions. South America and Asia also benefited from the European frenzy.

British Contagion (1890-91) The revolution in Argentina (July, 1890) prompted a crisis in London banks which had underwritten Argentinian securities. They began divesting themselves of all their foreign holdings, prompting a massive outflow of gold from the US. In November, the great British bank, Barings Brothers, failed, prompting even more capital flight.

Silver Purchase & Gold Crisis (1891-93) The British crisis rocked American finance, but the economy was on sufficiently strong grounds to weather the blows. The recovery was led by iron and steel production and expanding exports. It was initially an anemic recovery, complicated by the Sherman Silver Purchase Act of 1890 (whereby the US Treasury was required to purchase silver with Treasury notes redeemable in gold). Silver purchases pushed more money into circulation, but it also required more gold reserves to back the circulation. Alas, the British contagion had sucked much of the gold out of the US (some 95% of US custom receipts in 1890 were in gold; by 1893, only about 5% were in gold, the rest in silver or greenbacks). The US's gold position became increasingly tightened as banks tried to keep their reserve positions up by redeeming their greenbacks and treasury notes. The breaking point was reached in May, 1893, when rumors that the Treasury had suspended gold redemption prompted a market collapse. Bank runs, bank failures and a general rush towards cash sent interest rates through the roof and nearly brought the economy to a grinding halt. The high interest rates called some gold back in, but things were not stabilized until 1894, when Congress was forced to call an emergency session and repeal the silver purchase clause. The recovery was temporarily set back in 1896 as the country held its breath to see the outcome of Bryan's silver campaign.

Gilded Age (1894-1903) The American economy grew a lot in the 1890s. Commercial agriculture and the factory system were sufficiently developed and on good solid upward track. But defects in the monetary and banking system still plagued the economy and had intermittent destabilizing effects. Dependence on foreign capital was lessened as securities were now being gobbled up by American holders. US investment houses diversified their portfolios as an increasing range of corporations were combined and corporatized. But that itself took on a speculative turn, which burst in the Panic in 1903, with attendant bank runs & failures. The economy weathered the subsequent recession quite well.

Global Boom (1904-1907) The recovery after the Panic of 1903 was quite remarkable in that, for perhaps the first time, both Europe & the US cycles moved in tandem. Both were booming, neither acted as a drag on the other's upward movement. US industrial production rocketed and, towards the end of it, the features of full employment began to be visible in the form of a spurt of wage-price inflation.

Panic of 1907: The end of the Global Boom began in London in 1906, when British banks overlent on loans to places like Egypt and Japan, found themselves short on reserves and began to call in their foreign assets. London action prompted liquidity crunches abroad and falling stock markets, giving momentum to the financial squeeze. This reached a climax in New York in November, 1907 when the Knickerbocker Trust Co. announced failure, prompting a widespread bank panic. With liquidity short (NY banks were some $50 million below required levels), withdrawals were rationed and a wave of hoarding ensued. The economy ground to an abrupt halt. But the real economy was on good stead and, however sharp the downturn, it was one of the shortest US recessions on record. Realizing the problem rested with the antiquated banking system, the Senate set up the Aldrich Monetary Commission in 1908, which would eventually lead to the creation of the Federal Reserve System.

Alas, American and European cycles were out of sync again thereafter. Europe had not recovered and European houses continued liquidating their American investments. The US economy was growing, but the financial system failed to accommodate it, instead growing it was increasingly tighter. The economy's recovery was made even more uncertain by the filing of a slew of new anti-trust cases which rattled investor confidence. At length, the steady European capital flight finally brought about a general financial crunch and a minor recession in 1910.

Agricultural Boom: The short American upswing in 1912 was export-driven, brought about by a bumper harvest in the US coinciding with poor harvests in Europe. But the Balkan Crisis in Europe kept money markets tight and by early 1913, the US economy felt the backdraft and went back into modest recession. This is one of the shortest upswings on record.

World War I Boom: The sudden break-out of war in Europe in 1914 caught financial markets unaware. The financial markets went not into a panic, but into paralysis. Fearing a wave of worldwide liquidation, the London Stock Exchange was closed in late July and the New York Stock Exchange followed suit. That action probably prevented what would likely have been a wild financial panic. NYSE only reopened fully in April, 1915. The financial paralysis and general pessimism surrounding the war kept the US economy largely in the doldrums until then, which coincided with Britain regaining control of shipping lanes and resumption of American exports to Europe.

As the war proceeded, the US's Balance of Payments position rocketed. Up until then, its B of P was roughly $0.5 bn in export surpluses paying matched by debt and other service payments abroad. But in the course of the war, US became a gold magnet, inducing a massive net gold inflow, $25 million in 1915, $530 million in 1916, etc. Unable to sustain such a drain, Europeans reacted by unloading American securities (some $2 bn worth in 1915-16) and arranging for American loans (some $8bn worth by 1918). The war had turned the US from a net debtor to a net creditor to the world. The gold inflow also caused a massive increase in domestic US money supply and, as expected, a splurge of inflation in 1918-19.

Victory Loan Boom (1919-1920) WWI boom was followed by a subsequent mild recession in the transition to peace. But at the bottom of the trough in Spring of 1919, the Treasury issued a huge Victory Loan bond issue (the US government had been running deficits through the war and continued running them after). The bonds were absorbed by the banking system, providing the basis for a huge wave of credit expansion. The Fed, expected to the assist with the Treasury issue, could not take steps to tighten money. A sharp and very inflationary boom ensued. This was helped along by booming agricultural exports (as European agriculture was still not in operation), one of American farming's richest periods (and attendant land speculation associated with that). Pent up demand for construction (released from wartime restrictions) also made its presence felt in land prices.

The Victory Loan boom was one of the shortest on record, and the crunch began with the release of the embargo on gold shipments in June. Gold reserves began to fly out of the country and soon overlent American banks started running out of reserves.

Deflation of 1920  The recession following the Victory Loan boom was brought about by joint contractionary action by the Treasury and the Fed – the Treasury by retiring public debt (as government switched back into surplus), and its Victory Loan duties done, the Fed finally felt brave enough to push up the rediscount rate (from 4% in 1917 to 7% by 1920). This recession is remarkable for being perhaps the first one prompted by somewhat deliberate government action, rather than a money contraction via panics & bank failures. It was the Fed's first real test.

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