An eerie thought: The decade that began 100 years ago, known as the Roaring Twenties, was awash in prosperity amid a booming stock market—and came to a nasty end.
“Can’t repeat the past?” asked Michael Arone, chief investment strategist for State Street Global Advisors US Intermediary Business Group. “Why of course you can!” Writing in a recent market commentary, Arone sketched out the parallels between the decade we’re now entering to the one from a century before, with its financial excesses.
Arone emphasized that just as now, the 1920s started with a surge of new technology, such as radios and vacuum cleaners. Electricity use became widespread. So did automobile ownership. More important, that decade’s soaring stocks had three catalysts: low inflation, tax cuts, and an easy-money Federal Reserve. That’s the same as now.
Inflation at the outset of the 1920s was similar to today’s, at 1.4% annually. Congress cut taxes, which had been hiked to a top rate of 75% during World War I, in several stages to 25% by the 2025 tax year. For 2020, the highest level is 37%, following the late-2017 tax reduction. Back in the day, the Fed chopped rates from 6% at the decade’s outset to 2% by 1925. The current Federal benchmark range is 1.5% to 1.75%.
And the market loved all this, then and now. “Low inflation, tax cuts, and an accommodative Fed supported the market in the 1920s, obscuring the asset bubble forming beneath the surface,” Arone recounted. “With the same forces bolstering today’s market, major US stock benchmarks are at all-time highs and market volatility remains low.”
The Fed made some big mistakes, of course, at the end of the 1920s. In mid-1929, to take the momentum out of rampant market speculation and escalating debt, the central bank lifted rates to 6%. That action proved to be disastrous. As the saying now goes, the Fed often causes recessions by over-reacting.
The 1929 stock market crash followed, with stocks losing half their value in one month. The Great Depression hit soon.
The present-day Fed seems to have learned the lesson of 100 years ago, although last year it needed a reminder, as President Donald Trump, other pols, and many on Wall Street protested. The Fed interrupted its campaign to raise rates, and in three successive moves, it lowered them to where they are in 2020. As the market surged anew on the monetary loosening, the Fed said it won’t consider raising them unless excessive inflation shows up.
Ben Bernanke in 2002, then a Fed governor and four years away from becoming chairman, stated, “Regarding the Great Depression … we did it. We’re very sorry. … We won’t do it again.” The occasion was the 90th birthday party of economist Milton Friedman, a Nobel Prize winner who was critical of the Fed intervention in general and its policies in the late 1920s in particular.
To State Street’s Arone, “At the dawn of a new decade, governments and central banks seem committed to keeping the party going, but risks seem heavily skewed to the downside.” In his commentary, he evoked the distant green light at the end of a dock in F. Scott Fitzgerald’s The Great Gatsby, a novel that chronicled the wild times of the Roaring Twenties. The green light symbolized dreams for the future.
“Yes, the light on the horizon is still green,” Arone wrote, “but it could soon start flashing yellow.”