The Great Depression launched macroeconomics as a major discipline within economics. Nevertheless, after more than seventy years, economists continue to argue over the shocks that caused it. The issue is one of “identification.” The identification scheme used throughout this book is quantity-theoretic in spirit. For a monetary regime to be sustainable and to avoid imparting shocks to the economy, the central bank must follow a rule that provides a nominal anchor and that allows market forces to determine real variables like real GDP and employment.

The two most important monetary experiments of the twentieth century were the real-bills experiment of the Great Depression and the full-employment experiment of the stop-go era. Both began with considerable expectational stability over the behavior of prices. In both episodes, the Fed failed to provide a nominal anchor, in the first case through pursuit of the control of presumed speculative behavior on Wall Street and by banks and in the second case through pursuit of the control of the unemployment rate. Neither monetary regime was sustainable. This chapter first summarizes monetary policy in the Great Contraction (August 1929 to March 1933). It then concludes with a review of the literature on bank runs in the Great Depression and the findings of this literature with regard to the issue of whether banks regulated only by market discipline are inherently unstable.