Quick viewing(Text Mode)

Financial Crises: the Great Depression and the Great Recession ECON 40364: Monetary Theory & Policy

Financial Crises: The and the Great ECON 40364: Monetary Theory & Policy

Eric Sims

University of Notre Dame

Fall 2017

1 / 43 Readings

I Mishkin Ch. 12 I Bernanke (2002): “On ’s Ninetieth Birthday” I Wheelock (2010): “Lessons Learned?” I Gorton (2010): “Questions and Answers” I Mishkin (2011): “Over the Cliff” I Cecchetti (2009): “ and Responses”

2 / 43 The Financial System and the

I The financial system funnels savings into investment I Because of information asymmetries, financial intermediation is extremely important for funneling to work well

I Although there isn’t an exact definition, we can think of a financial crisis as a situation in which financial intermediation does not work well

I Without effective financial intermediation, investment and collapse, and the economy goes into a recession

3 / 43 Stages of Financial Crises

I The book lays out three stages of a financial crisis that are common: 1. Phase one: credit/asset boom and bust 2. Phase two: banking crisis 3. Stage three: debt deflation

I We will discuss each of these before looking at specifics from the Great Depression and Great Recession

4 / 43 Phase One: Initial Phase

I Financial crises often follow periods of excessive credit growth (banks and other financial institutions making increasingly risky loans) and asset price booms

I Eventually, the party stops I With loans going bad, financial institutions try to de- by cutting back on lending

I With asset prices falling, the collateral of non-financial firms deteriorates, which makes it harder for them to access credit

I As a result, credit declines, investment declines, and economic activity contracts

5 / 43 Phase Two: Banking Crisis

I Deteriorating balance sheets due to loans going bad and asset price declines lead some financial institutions to be insolvent () I But then fear takes over: depositors and other short term funders begin to fear that otherwise healthy banks / financial institutions might also go out of business I Information asymmetry is important here: if you know that 10 percent of banks are bad, most banks are not bad. But your downside risk is sufficiently high that you have an individual incentive to “run” anyway I But financial system can’t deal with runs because of maturity mismatch I To try to deal with runs, banks and financial institutions try to sell off illiquid assets, which can result in fire sale dynamics – everyone trying to do this leads to falling prices, which means selling doesn’t raise much and falling asset prices exacerbate other issues

6 / 43 Debt Deflation

I The large decline in aggregate demand often leads the aggregate to fall I This is potentially bad for several reasons: 1. Expectations of falling prices push real rates up, particularly if the is constrained by the 2. Falling prices increases the real burden of debt

I Higher real interest rates result in less demand, which can result in even more falls in prices (“deflationary spiral”)

I Increasing real burden of debt makes credit markets operate less well

7 / 43 Great Depression

I The Great Depression is generally dated to be from 1929-1933 I The rate in the US rose to 25 percent (in comparison, only 10 percent during Great Recession)

I Worldwide GDP fell by an estimated 15 percent I Associated with the market collapse in October 1929 and ensuing banking panics in the early 1930s

I Close to one-third of commercial banks failed

8 / 43

S&P 500 Index 35.00 30.00 25.00 20.00 15.00 10.00 5.00 0.00

9 / 43 Bank Runs

10 / 43 Credit Market Distress

11 / 43 Decline in Economic Activity

Industrial Production Index

2.1

2.0 ) 0 0

1 1.9 = 2 1 0 2

x 1.8 e d n I (

f o

g 1.7 o L

l a r u t 1.6 a N

1.5

1.4 1924 1925 1926 1927 1928 1929 1930 1931 1932 1933 1934 1935 1936

Source: Board of Governors of the System (US) fred.stlouisfed.org myf.red/g/eMeY

12 / 43 Deflation

Consumer Price Index for All Urban Consumers: All Items

2.90

2.85 ) 0 0 1 =

4 2.80 8 9 1 - 2 8 9

1 2.75

x e d n I (

f 2.70 o

g o L

l a

r 2.65 u t a N 2.60

2.55 1924 1925 1926 1927 1928 1929 1930 1931 1932 1933 1934 1935 1936

Source: U.S. Bureau of Labor Statistics fred.stlouisfed.org myf.red/g/eMeZ

13 / 43 Friedman and Schwartz

I A fairly strong consensus about the severity of the Great Depression comes out of Friedman and Schwartz’s A Monetary History of the

I The main thrust of the argument is summarized in Bernanke (2002)

I In essence, excessively tight allowed an ordinary recession to become a full-fledged financial crisis and depression

I Bank failures shot through the roof, and the declined precipitously

I This worsened financial conditions and led to the observed deflation

I Fed either did not understand its role as (which is why it was founded) or misinterpreted market signals (particularly the stigma associated with discount lending)

14 / 43 Bank Failures

15 / 43 Wheelock Non-Accommodative Monetary Policy Figure 5 Federal Reserve Credit and the Monetary Aggregates

$ Millions $ Millions 18,000 60,000 Federal Reserve Credit 16,000 Monetary Base Money Stock (right axis) 50,000 14,000

12,000 40,000

10,000 30,000 8,000

6,000 20,000

4,000 Panic 10,000 Gold 2,000 Crash Panic

0 0

1/1/19297/1/1929 1/1/19307/1/1930 1/1/19317/1/1931 1/1/19327/1/1932 1/1/19337/1/1933 1/1/19347/1/1934 1/1/19357/1/1935 SOURCE: Federal Reserve credit (see Figure 4); St. Louis adjusted monetary base (FRED; http://research.stlouisfed.org/aggreg/1/1/19367/1/1936 1/1/19377/1/1937 16 / 43 newbase.html); money stock (Friedman and Schwartz, 1963; Appendix A, Table A-1). 1/1/19387/1/1938

Reserve credit surged briefly following the stock Why did the Fed permit its credit to contract market crash and during the banking panics of after each financial of 1929-33? Meltzer October-December 1930, September-December (2003) argues that Fed officials misinterpreted 1931 (which followed the ’s deci- the signals from interest rates and sion to leave the ), and January- discount window borrowing. Consistent with March 1933. On each occasion, the increase in guidelines developed during the 1920s, during Federal Reserve credit (and its impact on the monetary base) was quickly reversed. Moreover, the Depression, Fed officials inferred that low as Figure 5 shows, when Federal Reserve credit levels of interest rates and borrowing meant that finally began to grow in 1932, it only temporarily monetary conditions were exceptionally easy, and halted the decline in the broader money stock. that there was no benefit—and possibly some This pattern is in marked contrast with the behav- risk—from adding more liquidity. Federal Reserve ior of Federal Reserve credit and the monetary Bank of New Governor Benjamin Strong aggregates in 2008-09. Although the Fed did not explained the use of the level of discount window increase the monetary base significantly until borrowing as a guide to policy as follows: September 2008, the broader monetary aggregates continued to grow and the price level continued 21 Although not apparent in the year-over-year growth rate shown in to rise, albeit slowly, throughout the financial Figure 3, M2 growth slowed markedly between mid-March 2008 crisis.21 In addition, the monetary base rose and mid-September 2008, which Hetzel (2009) contends is evidence of a tightening of monetary policy, along with the lack of any sharply in the final four months of 2008 and reduction in the FOMC’s target between April 30 remained large throughout 2009 (see Figure 2). and October 8, 2008.

FEDERAL RESERVE BANK OF ST. LOUIS REVIEW MARCH/APRIL 2010 99 Bernanke’s Famous Quote

th I In 2002, on the occasion of Milton Friedman’s 90 birthday, , then a Fed governor, said: “Regarding the Great Depression. You’re right, we did it. We’re very sorry. But thanks to you, we won’t do it again.”

I This quote proved to be quite prescient with the financial crisis and ensuing Great Recession with Bernanke as chair of the Fed

17 / 43 The and Great Recession

I These terms are often used synonymously I The Great Recession is officially dated from December 2007 to June 2009. Most of the decline in output occurred in the fall of 2008 and winter/spring of 2009

I The financial crisis precedes that somewhat, typically dated to having begun in late summer of 2007

I The financial crisis has its origins in problems in the US housing market, particularly so-called “subprime” mortgages

I Conventional causal chain of events:

Housing Market Collapse → Financial Crisis → Recession

I We have some idea of how a financial crisis can lead to a recession. But how can a housing market collapse lead to a financial crisis?

18 / 43 Housing Prices

S&P/Case-Shiller U.S. National Home Price Index©

190

180

170 0 0

1 160 = 0 0 0 2 150 n a J

x e

d 140 n I

130

120

110 Jan 2002 Jan 2003 Jan 2004 Jan 2005 Jan 2006 Jan 2007 Jan 2008 Jan 2009 Jan 2010 Jan 2011 Jan 2012

Source: S&P Dow Jones Indices LLC fred.stlouisfed.org myf.red/g/eMGK

19 / 43 Subprime Balance Sheet

I Why do declines in house prices matter? I Can trigger defaults by pushing homeowners underwater I Suppose someone gets a no-down payment home loan: Assets Liabilities + Equity Home $100,000 Mortgage $100,000 Equity $0

I If the value of the home goes up, homeowner can refinance – take out a loan to pay off the existing mortgage, and then has positive equity

I But if value of home declines, homeowner is underwater and has negative equity

I No incentive to keep paying the mortgage at that point and mortgage can go into default

20 / 43 Mortgage Delinquency

Delinquency Rate on Single-Family Residential Mortgages, Booked in Domestic Offices, All Commercial Banks

12.5

10.0

7.5 t n e c r e P 5.0

2.5

0.0 2002-01-01 2003-01-01 2004-01-01 2005-01-01 2006-01-01 2007-01-01 2008-01-01 2010-01-01 2011-01-01 2012-01-01 2013-01-01 2014-01-01 2015-01-01 2016-01-01 2017-01-01

Source: Board of Governors of the Federal Reserve System (US) fred.stlouisfed.org myf.red/g/eN5h

21 / 43 Defaults

I Mortgages going into default means that owner of mortgage (e.g. a bank) takes a loss

I Financial system at large was broadly exposed to the housing market via mortgage backed securities (MBS)

I In the traditional banking system, the loss from a mortgage going into default would be felt by the bank that issued the loan

I Not so in the modern banking system, where the loss was distributed to holders of MBSs

22 / 43 Traditional Banking

I In traditional banking, the bank funds itself with deposits (short term liabilities) and invests in longer term, illiquid loans to households and businesses I Banks “borrow” (get liabilities) at a lower than they lend (make loans), thereby earning a profit

loans Traditional Banks deposits Households Households Firms Firms

23 / 43 From Traditional Banking to Modern Banking

I A variety of factors have led traditional banking (funding in the form of deposits, and then holding on to loans) to cease to be profitable

I Furthermore, there are now very large institutional investors (e.g. pension funds, life insurance companies) that have a desire for demand deposit like liabilities that are safe, liquid, and offer some return

I This has given rise to securitization, which has been going on for decades but became well-known in the last decade

I In securitization, a financial entity buys loans from issuers (e.g. traditional banks) and bundles a bunch of loans into one fixed income product

I These securitized loans then serve as collateral for short term demand deposit-like liabilities that institutional investors desire

24 / 43 Shadow Banking

Securitized loans serve as collateral for repo

$ loans Traditional repo Households Shadow Institutional Banks Firms loans Banks Investors

25 / 43 Shadow Banking Continued

I In modern banking, traditional banks (increasingly) rely upon the for funding I Shadow banks buy loans which earn interest (e.g. monthly mortgage payments). These purchases fund the traditional banks I Shadow banks fund themselves from “deposits” from large institutional investors – repurchase agreements (repos) I Repo: you buy an asset for a given price on a given date, with an agreement to sell the asset back to the owner on a future specified date at an agreed upon price I When you sell it back for more than you buy, this difference is effectively interest I Think about a repo like a deposit, and the actual asset (frequently, securitized loans) serves as collateral and hence makes the deposit safe. If the issuer refuses or is unable to buy back, you get to keep the asset I Repos typically very short term (e.g. overnight), so quite liquid 26 / 43 Haircuts

I Haircut: the (percentage) difference in the amount of the repo and the value of collateral

I For example: I “deposit” $90 million in exchange for $100 million in collateral. Haircut is 10 percent

I Idea: haircut protects “depositor” in the event that repo issuer doesn’t make good on the promise and the “depositor” is stuck with the collateral, which might lose value

I Prior to crisis, haircuts were (essentially) zero I Haircuts rose markedly during crisis

27 / 43 13  beabigproblemforMcDonald’s,BurgerKing,Wendy’sandsoon.Theywouldgobankrupt.That’s whathappened.

The evidence is in the figure below, which shows the increase in haircuts for securitized bonds (and otherstructuredbonds)startinginAugust2007.

Thefigureisapictureofthebankingpanic.Wedon’tknowhowmuchwaswithdrawnbecausewedon’t know the actual size of the repo market.But, to get a sense of the magnitudes, suppose the repo marketwas$12trillionandthatrepohaircutsrosefromzerotoanaverageof20percent.Thenthe bankingsystemwouldneedtocomeupwith$2trillion,animpossibletask.

AverageRepoHaircutonStructuredDebt 50.0%

45.0%

40.0%

35.0%

30.0%

25.0%

Percentage 20.0%

15.0%

10.0%

5.0%

0.0%



Source:GortonandMetrick(2009a).

Q.Wheredidthelossescomefrom?

A.Facedwiththetaskofraisingmoneytomeetthewithdrawals,firmshadtosellassets.Theywereno 28 / 43 investors willing to make sufficiently large new investments, on the order of $2 trillion.In order to minimizelossesfirmschosetosellbondsthattheythoughtwouldnotdropinpriceagreatdeal,bonds thatwerenotsecuritizedbonds,andbondsthatwerehighlyrated.Forexample,theysoldAaaͲrated corporatebonds. Shadow Bank Balance Sheet

I Suppose a shadow bank (e.g. Bear Sterns) has the following balance sheet before the crisis with no haircut

Assets Liabilities + Equity Mortgage Securities $120 million Repos $100 million Other assets $40 million Borrowings $40 million Equity $20 million

I Equity finances $20 million of the mortgage securities, repos the other $100 million

I Shadow bank makes money by paying less for its liabilities (say 3 percent for repo) than it earns on its assets (say 6 percent on mortgage securities)

29 / 43 A Haircut is Like a Withdrawal

I Suppose that the haircut goes from 0 to 40 percent I This means large institutional investor will only “deposit” $60 million in exchange for $100 million in securities

I This is just like a withdrawal of $40 million

Assets Liabilities + Equity Mortgage Securities $120 million Repos $60 million Other assets $0 Borrowings $40 million Equity $20 million

I To maintain equity, shadow bank must self off its other assets to be able to hold the $120 million in mortgage securities

30 / 43 From Subprime to General Financial Distress

I The subprime mortgage market was not large enough to cause a widespread crisis on its own – roughly $1.2 trillion out of $20 trillion in outstanding credit at the time

I Subprime mortgages started deteriorating well before the height of the financial panic in Fall 2008

I The issue is one of asymmetric information – the distribution of risks was not well known or understand, and the financial system was increasingly interconnected

I Gorton likens this to an e-coli scare – there’s not much e-coli, but since you don’t know where it is, you don’t buy any beef

I Likewise, institutional investors didn’t know what was good collateral or bad, started demanding very high haircuts

31 / 43 Fire Sales

I Faced with large “withdrawals,” shadow banks have to sell assets to raise funds to finance the collateral underlying the repos

I Lots of institutions trying to sell at the same time with few buyers: big decline in price, which makes the entire enterprise of selling to raise funds less effective

I Naturally, try to sell the “best” assets to fetch the highest price

I But when everyone is doing this, you get perverse outcomes (next slide)

32 / 43 14 

Thesekindsofforcedsalesarecalled“firesales”–salesthatmustbemadetoraisemoney,evenifthe salecausestopricetofallbecausesomuchisofferedforsale,andthesellerhasnochoicebuttotake thelowprice.Thelowpricereflectstodistressed,forced,sale,nottheunderlyingfundamentals.There isevidenceofthis.Hereisoneexample.Normally,AaaͲratedcorporatebondswouldtradeathigher prices(lowerspreads)than,say,AaͲratedbonds.Inotherwords,thesebondswouldfetchthemost moneywhensold.However,whenallfirmsreasonthisway,itdoesn’tturnoutsonicely.

ThefigurebelowshowsthespreadbetweenAaͲratedcorporatebondsandAaaͲratedcorporatebonds, both with five year maturities.This spread should always be positive, unless so many AaaͲrated corporatebondsaresoldthatthespreadmustrisetoattractbuyers.Thatisexactlywhathappened!!



Source:GortonandMetrick(2009a).

Thefigureisasnapshotofthefiresalesofassetsthatoccurredduetothepanic.Moneywaslostin thesefiresales.Tobeconcrete,supposethebondwaspurchasedfor$100,andthenwassold,hoping 33 / 43 tofetch$100(itsmarketvaluejustbeforethecrisisonset).Instead,whenallfirmsaresellingtheAaaͲ ratedbondsthepricemaybe,say,$90–alossof$10.Thisishowactuallossescanoccurduetofire salescausedbythepanic.

Q.Howcouldthishavehappened?

A.Thedevelopmentoftheparallelbankingsystemdidnothappenovernight.Ithasbeendeveloping forthreedecades,andespeciallygrewinthe.Butbankregulatorsandacademicswerenotaware ofthesedevelopments.Regulatorsdidnotmeasureorunderstandthisdevelopment.Aswehaveseen, End Result

I Massive decline in bond prices (other than government bonds) across the board, with huge increases in yields, due to fire sales

I Value of collateral destroyed, high yields: credit markets stop functioning

I Credit completely dries up I Economic activity contracts

34 / 43 Moody's Seasoned Baa Yield Relative to Yield on 10-Year Treasury Constant Maturity©

7

6

5 t n e c

r 4 e P

3

2

1 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016

Source: Federal Reserve Bank of St. Louis fred.stlouisfed.org myf.red/g/dTre

35 / 43 (Total Credit to Private Non-Financial Sector, Adjusted for Breaks, for United States©), Q3 2008=100

120

110 ) s r a 100 l l o D

S U

f 90 o s n o i l l i 80 B ( f o x e d 70 n I

60

50 2002-01-01 2003-01-01 2004-01-01 2005-01-01 2006-01-01 2007-01-01 2008-01-01 2009-01-01 2010-01-01 2011-01-01 2012-01-01 2013-01-01 2014-01-01 2015-01-01 2016-01-01

Source: Bank for International Settlements fred.stlouisfed.org myf.red/g/eN24

36 / 43 9.800000 9.750000 9.700000 Real GDP 9.650000 Counterfactual GDP 9.600000 9.550000 9.500000 9.450000 9.400000

37 / 43 Civilian Unemployment Rate

11

10

9

t 8 n e c r e P 7

6

5

4 Jan 2005 Jul 2005 Jan 2006 Jul 2006 Jan 2007 Jul 2007 Jan 2008 Jul 2008 Jan 2009 Jul 2009 Jan 2010 Jul 2010 Jan 2011 Jul 2011 Jan 2012

Source: U.S. Bureau of Labor Statistics fred.stlouisfed.org myf.red/g/dv1U

38 / 43 Banking Panic

I What we had was a good old-fashioned banking panic I Although different than previous panics (e.g. Great Depression)

I Not a run by people on banks, but by institutions on other institutions I These institutions (the shadow banking system) were not regulated as banks I There was nothing like FDIC like there was for regular banks I And because they weren’t technically banks, they couldn’t borrow from the Fed

39 / 43 Back to Bernanke’s Quote

I Bernanke assured Friedman that “they” (the Fed) “wouldn’t do it again”

I The Fed either explicitly or implicity tried “whatever it takes” to provide liquidity to the financial system more broadly, not just traditional banks

I The Fed relied on Section 13(3) of the , which allows the Fed to “lend to any individual, partnership or corporation” in “unusual and exigent” circumstances

I The Fed significantly increased the size of its balance sheet (the value of the assets it holds) and significantly increased the monetary base

I To a much smaller degree, it increased the money supply (or, perhaps more accurately, kept the money supply from declining)

40 / 43 Notable Fed Interventions

I December 2007: (TAF): basically a way to make anonymous discount lending/borrowing I March 2008: Term Securities Lending Facility (TSLF): expanded available collateral for Fed loans – e.g. taking “toxic” mortgage securities out of the marketplace and replacing them with I October 2008: Commercial Paper Funding Facility (CPFF): took commercial paper (short term unsecured corporate debt) as collateral I November 2008: Term Asset-Backed Securities Loan Facility (TALF): similar to TSLF, but took securitized consumer loans as collateral I Dollar lines: a way to help foreign central banks provide liquidity to financial institutions which needed dollar funding I “” or “Engineered Rescues” of , AIG, and I Notably didn’t do anything for 41 / 43 Wheelock

Figure 2 Federal Reserve Assets and the Monetary Base (2007-09)

$ Billions $ Billions 2,500 2,500 Total Assets (left axis) Monetary Base (right axis) 2,000 2,000

1,500 1,500

1,000 1,000

September 2008 500 500

0 0

07 07

1/1/20 4/1/20 7/1/2007 /1/2007 10 1/1/2008 4/1/2008 7/1/2008 10/1/2008 1/1/2009 4/1/2009 7/1/2009 10/1/2009 base, which consists of currency in circulation policy, which targets the and the reserves held by depository institutions.16 growth of the monetary base or a similar narrow As the figure shows, the monetary base was rela- monetary aggregate, the Fed’s credit-easing policy 42 / 43 tively constant until September 2008, when the was at least as much concerned with the alloca- Fed stopped using open market sales to prevent tion of credit supplied by the Fed to the financial its lending to banks and other financial firms from system as with the quantity. Indeed, before increasing the System’s total assets. Figure 3 shows September 2008, the Fed focused exclusively on that the growth rate of the M2 monetary aggregate reallocating an essentially fixed supply of Federal also increased sharply in the fourth quarter of Reserve credit to the financial firms with the great- 2008 and remained correlated with monetary est demand for liquidity.17 base growth throughout 2009. Policy entered a new phase in September Chairman Bernanke (2009a) has described 2008, when the Fed’s rescue operations and later the Fed’s response to the financial crisis as “credit its large purchases of U.S. Treasury and agency easing” to distinguish the policy from the “quanti- tative easing” approach that and some other debt and mortgage-backed securities caused the countries have at times adopted. Unlike a pure 17 Thornton (2009a) notes that the Fed’s initial attempt to satisfy heightened liquidity concerns without increasing the monetary 16 Figure 2 shows the St. Louis Adjusted Monetary Base, which is a base contrasted with its use of open market operations to increase measure of the base that is adjusted for changes in reserve require- the monetary base sharply at the century date change (Y2K) in ments over time. Other measures of the monetary base, including December 1999 and following the terrorist attacks on September 11, unadjusted measures, show essentially the same relationship with 2001. He argues that the Fed may have been reluctant to increase the Federal Reserve balance sheet. These data are available from the monetary base to better control the federal funds rate or because the Federal Reserve Bank of St. Louis Fed officials viewed targeted credit allocation as a more effective (http://research.stlouisfed.org/fred2/). means of encouraging banks to lend and avoid selling illiquid assets.

96 MARCH/APRIL 2010 FEDERAL RESERVE BANK OF ST. LOUIS REVIEW Wheelock

Figure 3 Monetary Base and M2 Growth (2007-09)

Year/Year Percent Change Year/Year Percent Change 12 120 M2 Growth (left axis) Monetary Base Growth (right axis) 10 100

September 2008 8 80

6 60

4 40

2 20

0 0

1/1/2007 4/1/2007 7/1/2007 10/1/2007 1/1/2008 4/1/2008 7/1/2008 10/1/2008 1/1/2009 4/1/2009 7/1/2009 10/1/2009

System’s total assets and the monetary base to lending heavily to banks. However, the Fed largely more than double in size. However, the Fed’s ignored the banking panics and failures of 1930-33 objective in purchasing mortgage-backed securi- and did little to arrest large declines in the price 43 / 43 ties was to reduce mortgage interest rates and pro- level and output. This section reviews Federal mote recovery of housing markets, rather than Reserve policy during the Great Depression and simply to increase the total amount of credit avail- discusses prominent explanations for the Fed’s able to the financial system. Nonetheless, the behavior. program helped to increase the growth of broader monetary aggregates and thereby likely reduced Fed Policy from the the risk of . to Bank Holiday Figure 4 shows the level and composition of Federal Reserve credit during 1929-34, providing THE FED’S RESPONSE TO THE one measure of the Fed’s response to the major CRISES OF 1929-33 financial crises of the Great Depression.18 Follow- The Federal Reserve’s response to the financial ing the stock market crash, the Federal Reserve crisis and recession of 2007-09 was markedly more Bank of New York used open market purchases aggressive than the Fed’s anemic response to the 18 Great Depression. The Fed’s policy failures during In recent years, Federal Reserve credit has been by far the largest component of Federal Reserve assets. However, before World War II, the Great Depression are legendary. The Fed— the Federal Reserve Banks held significant gold reserves and other specifically, the Federal Reserve Bank of New assets aside from Federal Reserve credit. Hence, for the Great Depression period, we present data on Federal Reserve credit, York—reacted swiftly to the October 1929 stock rather than total assets, for better comparison with policy during market crash by lowering its discount rate and the recent financial crisis.

FEDERAL RESERVE BANK OF ST. LOUIS REVIEW MARCH/APRIL 2010 97

Top View