Why did the banking system fail at the end of the 1920s?

As the economic depression deepened in the early 30s, and as farmers had less and less money to spend in town, banks began to fail at alarming rates. During the 20s, there was an average of 70 banks failing each year nationally. After the crash during the first 10 months of 1930, 744 banks failed – 10 times as many. In all, 9,000 banks failed during the decade of the 30s. It's estimated that 4,000 banks failed during the one year of 1933 alone. By 1933, depositors saw $140 billion disappear through bank failures.

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What caused the failure of the banking system?
Why did banks fail during the 1920's & 30's?
Where did most bank failures occur during the 1920s?
What was the main reason so many banks failed between 1930 and 1933?

Gresham, Nebraska, had two banks – one too many for that small town. The bank in danger of failure merged with the other. Gresham resident Walter Schmitt (right) remembers the deadly consequences for the owner of the failed bank.

When a new president, Franklin Delano Roosevelt was inaugurated in March 1933, banks in all 48 states had either closed or had placed restrictions on how much money depositors could withdraw. FDR's first act as President was to declare a national "bank holiday" – closing the banks for a three-day cooling off period. The most memorable line from the President's speech was directed to the bank crisis – "The only thing we have to fear is fear itself."

Some economists and historians have argued that the bank crisis caused the Great Depression. But others have looked at fundamental economic factors and regional histories and argued that banks failed as a result of the economic collapse.

Whether the fear of bank failures caused the Depression or the Depression caused banks to fail, the result was the same for people who had their life savings in the banks – they lost their money. At the beginning of the 30s, there was no such thing as deposit insurance. If a bank failed, you lost the money you had in the bank. Carla Due's family experienced the fear that a bank failure would wipe out savings.

Birdie Farr's (left) father-in-law, Jack Farr, lost his savings in a Grand Island bank, but he was philosophical about it. Birdie says, "There wasn't nothing for him to do. He said, 'Standing there crying isn't going to help.'"

Louise Dougherty's (right) father owned a bank in Perkins County. When the Depression hit, he worked hard to keep the bank afloat. But the Depression went on too long, and eventually he was forced to go out of business.

The deflation ended with the Bank Holiday of 1933 and the Roosevelt administration’s recovery programs. These programs included the suspension of the gold standard and the reflation of prices, discussed in essays on Roosevelt’s Gold Program and the Gold Reserve Act of 1934, as well as the reform of financial regulation, creation of deposit insurance, and recapitalization of commercial banks, discussed in essays on the Emergency Banking Act, Banking Act of 1933, and Banking Act of 1935.

From the FDIC (Federal Deposit Insurance Corp.) itself, a great brief history of banking failures in the 1920’s and the Great Depression. see: FDIC: Managing the Crisis: The FDIC and RTC Experience.

On average, more than 600 banks failed each year between 1921 and 1929. Those failures led to the end of many state deposit insurance programs. The failed banks were primarily small, rural banks, and people in metropolitan areas were generally unconcerned. Investors and other businessmen thought that the failing institutions were weak and badly managed and that those failures served to strengthen the banking system. A major wave of bank failures during the last few months of 1930 triggered widespread attempts to convert deposits to cash. Confidence in the banking system began to erode, and bank runs became more common. In all, 1,350 banks suspended operations during 1930. Some simply closed their doors due to financial difficulties, while others were placed into receivership.

To begin to understand both the severity of the crisis and the impact it had on everyday Americans, it is necessary to try to come to grips with its magnitude. In the four years of 1930-1933 alone, nearly 10,000 banks failed or were suspended. These banks held deposits of over $6.8 billion (equivalent to perhaps $60 billion today’s dollars, but representing a much larger share of depositor’s wealth then). The depositors in these banks lost nearly 20% of these deposits when the banks failed. Since there was no FDIC yet, and most state deposit insurance schemes had shut down already, this meant that everyday folks lost their savings, their money. Imagine that impact. You’ve worked hard. Saved money to buy a house on one of those shiny new Ford Model A’s or a Chevrolet. Then one day, your money is just gone. Disappeared. It’s a life-changing event for many of those depositors. But then consider that the monies lost by these unfortunate bank customers represented (over the 4 years) approximately 4% of ALL DEPOSITS at ALL BANKS. Even those fortunate (or lucky) enough to have their money in a sound bank would be scared. Were they next? With the Hoover administration and The Federal Reserve seemingly doing nothing to slow the accelerating trend of bank failures, it is no wonder that FDR won a landslide election in 1932 and that a bank holiday and bank reforms were job #1 of his New Deal.

What caused the failure of the banking system?

The most common cause of bank failure occurs when the value of the bank's assets falls to below the market value of the bank's liabilities, which are the bank's obligations to creditors and depositors. This might happen because the bank loses too much on its investments.

Why did banks fail during the 1920's & 30's?

Thousands of banks failed during the Depression and loss of confidence caused anxious depositors to create "runs" on banks as they tried to withdraw their money before the banks collapsed.

Where did most bank failures occur during the 1920s?

On average, more than 600 banks failed each year between 1921 and 1929. Those failures led to the end of many state deposit insurance programs. The failed banks were primarily small, rural banks, and people in metropolitan areas were generally unconcerned.

What was the main reason so many banks failed between 1930 and 1933?

Many banks fail, many because they have made loans to stock market speculators that are never repaid. As the Depression eases into a national emergency, reaching its height between 1932 and 1933, the U.S. government establishes several agencies as a means for discharging new and emergency functions.