Modern American Financial History

By: Sam Burgoon

It is essential to study history to understand anything and everything in the world right now. The study of history allows one to know how the past’s situations and events developed and lead to the present scenario.

The same applies to the study of economics. Suppose you ask a college or university student to explain the modern economic theory or the current economic scenario. In that case, they will struggle to do so if they do not grasp economics’s history.

Brief History of Economics

Before we attempt to look at the modern American financial history, it is crucial to have a quick look at the history of economics and see how economics transitioned from the old mercantile system to the modern economics that we see today.

The mercantile system was the prevalent economic order before Adam Smith gave his theories that became the foundation of modern economics. The mercantile system was marked by tariffs and protectionism, with direct control and input from the ruler or the monarch.

Adam Smith

Adam Smith analyzed the mercantile system’s pros and cons and proposed his theories that became the bedrock of modern economics. Adam Smith’s most remarkable contributions include the idea of the invisible hand, which refers to the free operating marketing mechanism to oversee price movements.

Adam Smith also proposed zero intervention by the state so that the market mechanism can function with optimal efficiency. Another prominent theory given forth by Adam Smith was the theory of free trade and specialization. Later on, David Ricardo built upon this idea of discipline and gave the concept of competitive advantage.

Smith and Ricardo’s theories on specialization and competitive advantage played a pivotal role in promoting international trade to the extent that today the whole world is interconnected through trade routes, and nations are now dependent on each other for goods and services.

John Maynard Keynes

John Maynard Keynes followed Adam Smith and David Ricardo. He deviated from Smith’s idea of zero-intervention. In light of the economic recession that he saw during the Great Recession, he proposed that at some level, government intervention is necessary to invigorate aggregate demand. Keynesian economics became the leading economic theory. As the Fiat currencies became mainstream, the monetarist school contributed to economics in money quantity theory.

Over time, other economic thought schools such as the Austrian school, neoclassical, and Marxist schools also presented their viewpoints. Modern economic theories are a mixture of all the views that have been introduced in the last 200 years of the development of economic thought.

This is why it is important to understand history to understand the current situation. For instance, modern trade is still based on the theory of competitive advantage. In contrast, the monetary and fiscal policies are based on the modern economical idea that too much depends on Milton Friedman’s contributions.

American Financial History

The financial history of the U.S.A. spans over 300 years. Still, we are more interested in the last 100 years of American financial history because a modern economic theory has developed over the previous 100-150 years, as stated in the previous section. There would be no point in going further back into history as the world has a mercantile economic system, which the U.S.A. also had to follow.

The rise of modern economic theory transformed American society. It allowed America to rise to new heights of power and acquire the global economic superpower for almost half a century.

The last 100 years of American financial history can be divided into the following phases.

1. 1920-1929
2. 1930-1949
3. 1950-1969
4. 1970-1979
5. 1980-1999
6. 2000-2009
7. 2010-2020


We can start tracing the financial history from the 1920s. This was the time of economic prosperity and progress for America. It must be remembered that the status of the U.S.A. as a global power was not recognized at that point. In the 20s, the British empire was the global power, overshadowing the U.S.A. This also meant that the foreign policy of the U.S.A. was much more reserved, and the overall focus of the U.S.A. was on economic development and growth.

The 1920s are also known as the roaring twenties. This decade was marked by economic growth and prosperity.

Source: Wikipedia

The graph shows how, during the 20s, the US GDP grew. The slump in the 30s marks the great depression.

The 20s were marked by industrialization in the U.S. and introducing new products and services to the people. The American dream was truly taking off in the 20s. Cars that were previously seen as luxury goods had become cheaper due to economies of scale achieved by companies like Ford. By the end of the decade, the U.S.A. had over 27 million motor vehicles registered. This kickstarted the other connected industries such as steel, plastics, leather, road works, etc.

More cars meant more roads, and more roads translated into better-interconnected cities and states, which helped with interstate trade and travel. As better roads sped up trading, it also increased the frequency and volume of business. In short, the 20s were a good time for America and the world in general.


The 1930s and 40s were the exact opposite of the 1920s. It must be remembered that most of the economic prosperity in the 20s was also fueled by the post WW1 recovery. The 30s, however, started with the Great Depression.

The Great Depression began in 1929 with the Wall Street crash. The crash wiped out the wealth of thousands of Americans, especially the traders who were riding the wave of optimism and using margin trading the accumulated profits. The Wall Street crash dealt a heavy blow to the economy, especially to margin traders. As a result of the crash, many people defaulted on their mortgage and loan payments, which further exacerbated the crash.

Roughly 40% of the banks in the U.S. went bankrupt; this later led to tighter financial controls. The Great Depression was a worldwide economic crisis, much like the pandemic’s financial crisis. It caused a global recession, a hike in unemployment, over 15 million people lost their jobs and were pushed into poverty.

Source: PBS

Unemployment figures in the U.S. jumped by over 25%, which wiped out much of the previous decade’s economic prosperity. Industrial production slowed down as inflation rose, unemployment spiked, and aggregate demand plunged to record low levels.

Around this time, John Maynard Keynes observed the record low aggregate demand levels and proposed that governments need to intervene through fiscal and monetary policy tools to invigorate aggregate demand. The hyperinflation caused by the great depression had eroded the consumers’ purchasing power and therefore created a self-feeding loop that prevented aggregate demand from picking up.

Therefore, the governments were encouraged to cut down taxes, reduce interest rates, and control the price mechanism through various means to allow the consumers to show demand. This step also included providing subsidies to the industries to get the financial cushion needed to cut down the price levels and generate employment.

In 1932, Franklin Roosevelt brought his “New Deal” to bring an end to the laissez-faire way of working and create a more controlled economy to recover from the effects of the Great Depression.

The New Deal

The new deal of Franklin Roosevelt caused the unemployment to go down to 15% from 25%. Job creation helped the economy get back on its track again, inflation was brought down, and aggregate demand increased but not to the levels that were seen in the 20s.

The effects of the great depression were, however, far worse than anyone could have expected. The devastation caused by WW1, followed by the great depression, created the perfect conditions for WW2.

The post-depression recovery in the U.S.A. was underway when the war broke out, and the U.S., like the rest of the world, got sucked into the inevitable conflict. Coincidentally, the war saw the British empire’s weakening, which created a power vacuum filled by the United States.

The War Economy

Interestingly, the war turned out to be a silver lining for the American economy. The whole automobile sector, which was one of the fastest expanding sectors of the U.S.A. before the great depression, was turned into a production base for war equipment, including tanks, vehicles used in the war, and fighter jets.

The entire civilian automobile manufacturing sector was repurposed to prepare vehicles and equipment for the war effort. The repurposed automobile sector produced over 3.6 million trucks, jeeps, and tanks for the war duration. This allowed unemployment levels to be kept low. This also created income amidst the war for many workers, and even though the general quality of consumer goods reduced, the expenditure of the average household grew by almost 12% during the war.

● Industrial output increased by 15% during the war years,
● Manufacturing output increased by over 300%.
● Productive capacity increased by over 50%.
● Labor productivity increased by 25%
● The G.D.P. increased from $88.6 billion in 1939 to $135 billion in 1944

The war, therefore, not only helped the U.S. economy come out of the after-effects of the Great Depression, but it also helped in setting up the foundation upon which the American economy grew in the post-war era.

Bretton Woods

The Bretton Woods agreement was signed in 1944. In straightforward terms, the Bretton Woods agreement was meant to create a monetary system in the post-war world. Countries were required to maintain their exchange rates, and to do this, the value of gold was used as a benchmark. Thus the term “Gold standard.” The U.S. dollar was also tied to the dollar, thus creating the gold – dollar convertibility.


The 50s and the 60s were magnificent decades for America. The American economy rode the postwar wave of economic prosperity. The war had helped America get its economy on track and increase productivity. The post-war era only required America to sustain productivity levels, which was not a difficult job. Now, the U.S.A. had taken the superpower spot after the end of the war.

As the U.S.A. took center stage, the golden age of Capitalism started in the U.S.A. that would last at least till the 70s. The U.S. economy found the track that it was on during the 20s. The U.S. manufacturing and services sector boomed during this period, which helped create a consumption-based economy.

Source: Federal Reserve of St.Louis | Unemployment Rate

During these two decades, the unemployment rate hovered between 2% and 8%. At least four spikes in unemployment rates can be seen during this period, and the graph of the G.D.P. during this period correlates with this.

Source: Federal Reserve of St.Louis | Real G.D.P.

The spikes in unemployment are consistent with the drops in the G.D.P. These spikes and drops, however, do not show significant recessions in the U.S. economy. These spikes indicate an underlying structural problem that towards the end of the 60s became very prominent.

Although the economy, in general, was doing well by the end of the 60s, inflation started to rise. The graph of the G.D.P. trend shown above clearly shows that the US GDP showed signs of slowing down in the 60s and hovered around 2% towards the latter half of the 60s and even went into the negative zone.

Gold-Dollar Decoupling

The economic slump towards the end of the 60s shows the weakening of the gold standard’s remnants. How the gold standard eventually weakened requires a detailed article on its own. It can, however, be summarized in the following words.

The two world wars greatly damaged the global economy, and the Bretton Woods agreement required the countries to maintain their exchange rate. Keeping the exchange rate needed many countries to purchase large quantities of gold, which they could not do. As a result, many countries dropped the gold standard leading up to the 70s. The U.S., however, was among those countries that had considerable reserves of gold; thus, the U.S. held out the longest. Another reason for sticking to the gold standard the longest was the U.S. dollar-gold convertibility, established by the Bretton woods agreement.

Each ounce of gold was convertible for $35. This meant that the countries that dropped the gold standard could convert all of their gold for dollars, which strengthened the dollar. The dollar was more vital than gold because it could earn interest and was more liquid than gold.

However, problems began for the U.S.A. when the economy entered into its overheated phase in the 60s. Although the economy was exceptionally well, the rising imports from the rest of the world meant that the U.S. entered a stage where it was paying out more gold than it could afford.

Why was the U.S.A. paying for the imports in gold? Because paying for the imports in U.S. dollars would have weakened the dollar, and under Bretton Woods, the U.S. had to maintain the exchange rate within a certain limit. This turned into a self-feeding loop, where the rising imports of the U.S. economy put much pressure to pay out in gold. The decision to pay in dollars weakened the exchange rate and caused inflation to rise.

It was a dilemma that seemingly had no way out. Had the U.S. continued to pay for the gold imports, its reserves would soon have been depleted, resulting in further inflation. Had they decided to settle in dollars, the currency would have weakened, resulting in inflation.

In 1972, Richard Nixon, therefore, ended the gold – dollar convertibility and turned the U.S. dollar into a fiat currency.


Most of the 70s and 80s were spent in firefighting the effects of dollar decoupling. It was a significant financial event by any measure. Decoupling the dollar from the gold resulted in the creation of a fiat currency.

The graph shows how the U.S. dollar crashed soon after 71. This crash was inevitable because the U.S. dollar lost gold support, which had propped it up for so long. Now the U.S. dollar was utterly dependent upon the economic strength of the United States.

Another major happened during this time that helped the dollar recover from this shock. The financial and economic experts who advise the U.S. government have always understood the need for some vital commodity to back up the dollar.

Why? Simply because no country can have an economy strong enough to brave through every storm. Schumpeter outlined very clearly that there are boom-bust cycles of the economy. Every boom is followed by a bust that results in a period of chaos, from which order is born. These cycles can considerably weaken an economy; now, a superpower cannot afford to have a weak economy at any time.

This is why the U.S.A. held out the longest to the gold standard because gold acted as a safety valve for the dollar, even when the economy was not doing good. However, the gold standard became problematic as it was not flexible enough to control the money supply and manage the exchange rate. Thus it had to be dropped. But it was only settled when the policymakers had another commodity in their sight.

Rise of PetroDollar

In the 70s, the United States agreed with the Kingdom of Saudi Arabia to value oil sales in U.S. dollars. So after delinking gold with the dollar, the U.S. administration pegged the dollar with oil.

By pegging the dollar with oil, the stability of the dollar was ensured. The economic advisors driving these decisions had the foresight to see that oil would rule the world markets for the foreseeable future. Thus as long as oil is a crucial commodity, the dollar would retain its value, and the pressure from the U.S. economy to continually stay on top would be reduced.

Thus as the sale of oil from the Gulf countries increased, it increased the demand for the U.S. dollars, thereby strengthening the exchange rate and allowing American manufacturers a competitive advantage over other producers. This made production and imports cheap for the U.S., thereby allowing the U.S. to further strengthen its manufacturing and services sectors.
This process took nearly two decades. The intervening period between 1970-1989 thus saw the U.S. economy going through a volatile period.


The 80s started with a severe recession between 1980 and 1983. It is one of the most severe recessions to have hit the global economy since WW2. The recession was partly caused by the oil crisis that was triggered by the Iranian Revolution. The revolution caused the Iranian oil supply to be cut off, which created a severe oil shortage.

As the Gulf countries’ oil production was not yet enough to cushion the shortage, the crisis triggered a global economic crisis that saw rising inflation. The extra expenditure complemented this that the U.S.A. had to do to fight the Afghan war and the Cold war. These factors pushed the U.S. economy into a recession.

With monetary measures to increase the interest rates, we’re able to keep inflation at manageable levels. Another major financial change that started happening around the 80s was the piling up of debt.

Debt under the gold standard was not much of a problem if you look at the graph of U.S. debt.

Source: Federal Reserve of St.Louis | debt

It can be seen that the total debt in 1980 was around $863 billion. As time went by, the level of debt compounded upon itself, simply because fiat currencies make it very easy to pile on debt.

Under the gold standard, the number of currency notes in issue has to be backed by an equal amount of gold. Otherwise, the currency would inflate. Fiat currencies also have this problem, but they are more flexible as compared to a gold-backed currency. Therefore, the U.S. debt started to rise after the 70s, right when the gold standard was dropped. As time passed, the debt began to increase exponentially.

Debt is not entirely wrong. Why? Because it allows governments, companies, and individuals to finance mega projects and purchases that they would otherwise not be able to carry out. It was the debt that allowed the U.S. economy to grow at a breakneck pace. Over time, however, the debt impacted the average American in the form of taxes.

As the world transitioned into the 90s, the U.S. entered into an era of stability and growth. The Afghan war was over, and so was the Cold war. The U.S.S.R., which had since long been an obstacle towards the rise of the U.S. as the unchallenged global power, was now defeated.

These victories were complimented by the rise of the age of computers and the internet. By the mid 80, computers were becoming famous for home and office use. This resulted in the creation, growth, and boom of tech-based companies like Microsoft and Apple.

By the mid-90s, the tech bubble was already expanding, and the dot com economy was growing fast. This also allowed the U.S.A. to gain a competitive edge over other countries. This technological edge later manifested in the form of the Silicon Valley, the tech hub of the world that gave birth to giants like Facebook.

The Dot Com Crash

The dot com crash is a crash that began around 1995 and reached its climax around the turn of the new millennium.

The dot com crash refers to the financial impact of multiple tech and internet-based companies. The dot com crash is a typical example of testing new technology and putting too much faith in it without carrying out enough due diligence or any foresight.

The crash could have been avoided, but it also taught us precious lessons. As mentioned above, the crash was caused by a large number of dot com companies. The rise in the number of startups was fueled because the banks were financing almost every tech-based startup without carrying out required due diligence.

As a result, many companies entered the market and not just the market—a lot of companies managed to get listed on Wall Street. Yes, a lot of financial controls were bypassed by the over-optimism of bank managers. Traders too soon jumped on the bandwagon and invested much stake in the tech companies.

Success stories like Microsoft and Apple fueled this investment craze. All of the investors and bank managers had failed to realize what would happen if the companies failed to perform. At the height of the bubble, a company could go for an I.P.O. even if it had never made a profit. This created a sudden wave of new entrants into the market, and as a result, this resulted in a lot of speculative trading. Many people quit their job to become full-time traders. Stories of people leaving their jobs and earning millions through trading became common, and it only turned into a self-feeding loop.

What happened was that a lot of entrepreneurs and C.E.O.s got more overconfident than they should have. There are stories of great holidays and expenditure on expensive office settings instead of having a solid strategy to turn the company profitable.

As a result, around 1998-1999, the tech companies began to fail, and the bubble finally burst after the world entered into the new millennium.


The dot com bubble was however, limited to the tech companies. The crash was, in a way, necessary because it changed the way tech companies were perceived and run. Following the crash, the burn rate became the most important metric to judge a tech company instead of its idea.

Investors grew more prudent and started carrying out better due diligence to see whether the company they were going to invest in had the financial strength to deliver good results or not.

The new millennium brought not only the dot com crash but also another significant event that would completely change the U.S. economy and society. The 9/11 attacks and the resulting war on terror ushered a new area of the global dominance of the U.S.A. This had a positive impact on the economy. Why? Look back at WW2. Wartime efforts had a positive effect on the U.S. economy back in WW2, and the same happened during the war on terror.

The war on terror was led by the U.S., and the allies were a part of this war. This resulted in the defense industry getting billions in contracts. This not only brought in much-needed reserves but also pushed the U.S. defense sector to stay competitive.

Real Estate Bubble

The 2000-2010 period is also marked by the Real Estate bubble. Riding on the wave of economic prosperity, the demand for mortgages grew, which pushed housing prices up. As the demand for real estate grew, the banks made the same mistake they made during the dot com bubble.

They started giving out mortgages without proper due diligence. As a result, a lot of sub-prime mortgages were given out. This simply means that mortgages were given out to individuals without assessing their creditworthiness. Once again, the real estate bubble needs an article of its own. Here we shall only touch it briefly.

The banks became too careless in their due diligence that, in some instances, multiple mortgages were given out to some individuals, who may not even have qualified for a single mortgage. The real estate agents were raking in commission money. However, the banks knew what they were dealing with, they knew the risk they were taking on, but they hedged against that risk by selling the promissory notes of mortgages to other investors.

Long story short, the banks created derivatives that went from one investor to another. As the mortgages matured and borrowers started defaulting on payments, the market began to overheat. As the number of defaults began to cross a critical limit, the 2008 financial crash was triggered.

The mortgages failed, the mortgage-backed securities failed, and as a result, every investor who had invested in this chain also failed. The world saw how banking and insurance giants like the Lehman Brothers defaulted.

People lost billions of dollars of their savings. According to an estimate, retirement funds lost up to 25% of their value, forcing many account holders to push back their retirement dates. The crash turned into a global financial crisis that finally led to tighter financial controls over the economy.

The crash also brought to light “Quantitative Easing,” a term known as “Helicopter Money.” Quantitative easing was how governments were finally able to control the crisis and prevent a total economic crash in 2009.


The decade that followed the 2008-2009 crash saw a very fragile global economy that had to reduce the interest rates to keep the after-effects of the crash at bay.

Source: Federal Reserve of St.Louis | Federal Funds Rate

The graph shown above shows the Federal funds rate, which is also the monetary policy rate. It can be seen how the F.E.D. cut the interest rates during the 2008 crash to save the economy, but in the end, Quantitative Easing had to be used to rescue the economy as cutting the rates was not having much of an impact.

Following the crash, the next five years saw interest rates on the floor. The post-recession recovery was marked by strict controls that managed to create an environment of financial and economic stability required for steady growth.

Looking back at 2000-2010 makes one realize that it was a very turbulent decade for tech startups, and the companies that managed to survive that tumultuous decade emerged stronger into the new decade.

The now previous decade of 2010-2020 is marked by social media giants such as Facebook, Twitter, Whatsapp, Linked and, Instagram. For the U.S., this decade has been a very productive one in terms of competitive edge and market growth.

This decade not only saw the emergency of social media giants but also other companies such as Amazon, which is well on its path of unprecedented growth. Amazon has developed a global network that gives the U.S.A. a competitive edge that no other company has. Alibaba, led by Jack Ma, attempted to compete with Amazon, but it is leagues behind in terms of infrastructure and growth that Amazon has achieved.

Similarly, SpaceX and their reusable rocket booster breakthrough have given America an absolute advantage in space exploration. The U.S.A. once again has a monopoly over space exploration. Yes, countries like China and Russia can go into space, but SpaceX makes it too cheap for the U.S.

All in all, the previous decade has been a very fruitful one for the U.S.A. The U.S. economy not only emerged from the 2008 crash but did so from a position of strength. The decade, however, ended with the breakout of the Covid-19 pandemic, and with the pandemic, the markets also crashed in March 2020.

March 2020 Crash

The first quarter of 2020 was a very tumultuous time for the U.S. economy. The oil price war in February resulted in oil prices dropping to a negative zone. Although the oil price war was between OPEC and Russia mainly because the dollar is pegged with oil, the dollar also had to face the brunt of this price war, and as a result, the dollar weakened in February 2020.

The timing of this price war could not have been worse because by March 2020, China had gone into total lockdown, and cases in Italy were beginning to skyrocket. By mid-March, the global markets crashed, in what has been termed as the worst crash since the Great Recession.

This crash dealt a heavy blow to the global economy in the later stages of recovery from the devastating 2008 financial crisis.

Source: Federal Reserve of St.Louis | Federal Funds Rate

The graph shown above shows the Federal funds rate. It can be seen that leading up to 2020, the U.S.A. (and the rest of the world) started to come out with record low-interest rates. The interest rates began to rise around 2015, and by the end of 2019, they had reached 2.5% in the U.S.A. The financial crisis created by the pandemic forced the F.E.D. to cut the rates in an attempt to save the economy from crashing.

By mid-March, the F.E.D. and Central banks around the world were out of options. They had used every opportunity they had used back in 2008, but the economy and markets kept on crashing. As a result, the F.E.D. and Central Banks around the world, perhaps for the first time, directly intervened in the markets to issue debt to companies. This can be considered as an advanced form of quantitative easing.

Thus the global markets were saved from crashing and bringing down the whole global economic system.

Source: Google

This graph shows how the Dow Jones recovered after the 2020 crash, and within 12 months, the market is trading higher than pre-pandemic levels. This recovery shows that the U.S. economy, even after the devastating impact of the pandemic, spike in unemployment, and political turbulence, has managed to come through this storm.

The modern American financial history has experienced periods of hardship and prosperity. After the Second World War, the U.S. established itself as the world’s leading economy with heavy investments in the technology, global manufacturing, and military sectors. Whether the U.S. economy can retain its spot as the economic superpower of the world depends on many factors. Many publications predict that if the Chinese economy continues to grow at its current pace, it may overtake the U.S. economy by 2028. This, however, also depends on whether the U.S. economy continues on its current trajectory or changes it.

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