The Great Depression and the Great Recession: A view from financial markets

• Published in: Journal of monetary economics Vol. 114; pp. 240 - 261
• Main Author: Bianchi, Francesco
• Format: Journal Article
• Language: English
• Published: Elsevier B.V 01.10.2020
• Subjects: Coordination; Emergency budget; Liquidity traps welfare; Markov-switching models; Monetary and fiscal policies; Uncertainty; E62; Uncertainty; E31; Liquidity traps welfare; E52; E63; Coordination; Emergency budget; Markov-switching models; Monetary and fiscal policies; D83
• ISSN: 0304-3932; 1873-1295
• DOI: 10.1016/j.jmoneco.2019.03.010

•I use a Markov-switching VAR to study the similarities and differences between the Great Depression and the Great Recession with respect to the behavior of financial markets.•I identify a Great Depression regime. The probability of this regime has remained close to zero for many decades, but spiked for a short period during the most recent financial crisis, the Great Recession.•The Great Depression regime implies a collapse of the stock market, with small-growth stocks outperforming small-value stocks.•A model with financial frictions and uncertainty about policy makers’ intervention suggests that policy intervention during the Great Recession might have avoided a second Great Depression.•A multi-country analysis shows that the Great Depression and Great Recession were not like any other financial crises. Similarities between the Great Depression and the Great Recession are documented with respect to the behavior of financial markets. A Great Depression regime is identified by using a Markov-switching VAR. The probability of this regime has remained close to zero for many decades, but spiked for a short period during the most recent financial crisis, the Great Recession. The Great Depression regime implies a collapse of the stock market, with small-growth stocks outperforming small-value stocks. A model with financial frictions and uncertainty about policy makers’ intervention suggests that policy intervention during the Great Recession might have avoided a second Great Depression. A multi-country analysis shows that the Great Depression and Great Recession were not like any other financial crises.