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Today vs. the Great Depression
Grim economic news has permeated the media headlines over this last year. More and more commentary is drawing comparisons between current market conditions and those that followed the stock market crash of 1929, leading to the Great Depression. These reports can make it challenging to stay focused on your long-term plan. We'd like to share why today is different from the Great Depression and steps you can take to pull through this.
While there are some similarities between today's financial and economic climate; these similarities do not mean that we are destined to enter into a long-term depression. We are living in a very different world than 80 years ago. The following are key differences between the current environment and the Great Depression:
- Unemployment: During the Great Depression, unemployment reached 25%, meaning one in four people were out of work. As of October 31, 2008, unemployment was 6.5%, having risen close to two percentage points during the past year. While indicators show that unemployment will go higher, even pessimistic economists tend to estimate a peak of around 10%.
- Banking System: During the early 1930s there was no FDIC insurance. Nervousness among depositors caused many to withdraw their funds, leading to a "run on the banks." Eventually thousands of banks failed, causing the U.S. financial system to essentially collapse. Currently only 22 banks have failed. The government has increased the FDIC coverage levels and assisted in mergers to protect depositors.
- Federal Reserve's Monetary Policy: There is evidence that the Fed was not particularly helpful in the 1930s. After the stock market crash in 1929, the Fed passively allowed the money supply to decline. In contrast, the current Federal Reserve has demonstrated the most ambitious monetary action in history. They are expanding the money supply by lowering interest rates and injecting liquidity into the financial system.
- Government's Fiscal Policy: Some policies during the Great Depression proved to worsen the downturn, such as raising tariffs on imports and increasing income taxes. Today's administration has taken drastic steps to combat the economic downturn. The government took over Fannie Mae, Freddie Mac, and AIG. It approved $700 billion to re-capitalize the banking system. It provided $100 billion of rebates to taxpayers and has taken initiatives to help struggling homeowners. And, there is likely much more to come as the incoming Obama Administration has indicated its intent to pursue additional economic stimulus programs.
- Global Economy: In the 1930s the economic devastation spread from the U.S. to the rest of the globe. In response to the U.S. increasing tariffs, other countries raised their own tariffs and shut out imports. This effectively led to the collapse of global trade. Today, the scope of global policy response has been massive. European governments have injected money into the banking system and increased deposit guarantees. Many countries have put forth economic stimulus programs and almost every major country has lowered interest rates.
As bad as things seem now, they would have to deteriorate at a completely different magnitude to reach the economic devastation of the 1930s. It will take some time for stimulus efforts to turn things around. However, once the recovery occurs many have asked "How do I get my money back?" The following are pointers on how to put yourself in a better position to recover the decline in your account.
- Stick with your plan: Despite the market's meltdown, stocks remain the only investment with enough growth potential to help recoup your losses reasonably quickly and stay ahead of inflation longer term. In most cases, if your mix made sense to you a year ago, it is worth sticking with it.
- Revisit your budget and withdrawal rate: Withdrawals are a big factor in how much your account will rebound. Because withdrawals involve selling shares of your investments, the more you withdraw the fewer shares are left in your account to benefit from a market recovery. Since this a retirement plan, it is expected that people will take money to cover expenses. However, times like this warrant taking a fresh look at your budget. Can certain expenses be cut or delayed? Can other sources of income be increased? Do you have other savings that can be tapped temporarily to avoid having to sell your stock investments at such low prices? Another consideration is to take your withdrawals from Stable Value only. The key to all these ideas is to keep as many shares of your stock investments in place.
- If you are still working and contributing: Those of you with many years until retirement should continue to contribute the maximum you can afford. Remember, your contributions are buying more shares now due to low prices. These shares have more growth potential once the market recovers.
(Published: 2/18/2009)
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