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Welcome to the Second Great Depression

Harvard economist Robert Barro recently estimated that there is a 20% chance that the U.S. will fall into a depression. He defines that as a 10% decline in GDP per capita or consumption.

It's a credible estimate -- the 6.2% annualized real GDP decline in the fourth quarter is already approaching the 6.4% annualized decline we saw in 1982 during the worst post-World War II recession, and we look nowhere near recovery. Our unemployment rate of 8.1% is close to the 8.6% our country experienced in 1930.

If you were a reckless bank executive who would get paid huge bonuses regardless of how many billions of dollars you destroyed, you'd be saying right now, "80% chance of no depression? Why not lend billions to people who have no hope of ever paying it back!"

But some of us don't have our gross incompetence bailed out by taxpayers. And to us, that one in five chance is disturbingly large.

It's time to prepare for the Second Great Depression. Here's what to do.

Line up ducks
Start with the basics. Make sure that you're covered if you lose your job.

In the depths of the Great Depression, 25% of all workers and 37% of non-farm workers were unemployed. That's a devastating statistic. It means that in cities, almost four in 10 people didn't have jobs, and that doesn't even take into account the underemployed -- people who wanted full-time jobs, but were only able to find part-time work.

So, prepare for the worst. Make sure that you have an emergency fund -- in cash -- of at least three to six months worth of expenses. Then, pay down your debt, starting with the debt with the highest interest rate. Debt is terrible during deflationary times because deflation doesn't just affect prices, but incomes as well. As incomes fall, that debt becomes more and more onerous. During the early 1930s, there was 30% deflation. So, pay back debt now, while you can.

Finally, recognize that, in a Second Great Depression, losing your job is a real risk. Whenever you buy something, think hard about whether you truly want to spend that cash. Imagine that you'll lose your job in six months. Looking back from that time, will you still be happy that you made that purchase?

Shelter from the storm
Your investment portfolio should also be able to handle the Second Great Depression. Long-term Treasuries should perform well during a financial collapse, but are a poor investment right now. At today's low interest rates, Treasuries will have negative real returns if we don't have a depression -- the 80% likely scenario.

Instead, keep cash in the bank, below the federal deposit insurance limit of $250,000. Or, if you want higher interest, look at corporate bonds of the strongest companies outside the financial sector. Only buy bonds of companies with the most sustainable earnings and strongest balance sheets.

Stocks are cheap
Though it might seem counterintuitive, stocks are still a reasonable option right now. It's not that stocks did well during the Great Depression; during the first three years of the 1930s, pretty well everything fell.

But the market's already dropped nearly 50%. And while that's not the 89% loss that signalled the bottom during the Great Depression, it's also not like we just started the crash. If we do hit the Second Great Depression, the market will probably fall more. But to hit that 89% loss took a 37% unemployment rate in cities. We're nowhere near that level of pain now, and nobody is predicting it. That means a repeat 89% drop still seems a remote possibility.

And, if the second Great Depression doesn't hit, stocks are cheap enough that the returns could be excellent. Off the brief 1932 stock market bottom, equities gained 372% in less than five years. What's more, many blue-chip stocks are now yielding more than Treasuries. So, you get paid now, and can reap capital gains later.

Lessons from the first Great Depression
Obviously, you need to be careful. Only buy businesses with strong balance sheets -- companies that can survive a depression and come out the other side even stronger.

From 1930-1933, the logging industry was the top-performing sector, posting a 120% gain. But, considering that one of the causes of the current recession was overbuilding, a prolonged slump in construction would make logging a questionable choice today. Beyond that, food, cigarettes, and candy stocks outperformed. People were buying the necessities they needed to survive and the cheap luxuries they wanted for comfort.

The stocks to buy
If you're looking to buy, tobacco stocks are a good option. Cigarettes are either a luxury or a necessity, depending on your level of addiction. Altria (NYSE: MO  ) and Reynolds (NYSE: RAI  ) both look interesting, offering over 7% dividend yields. And these guys aren't worried about deflation; they're raising prices.

Hershey (NYSE: HSY  ) and Coke (NYSE: KO  ) both survived the Great Depression by providing cheap luxuries, and they would survive a Second Great Depression as well. Though they don't yield as much as the tobacco companies, they have less regulatory risk, and are therefore safer.

If you'd rather own necessities, consider Wal-Mart (NYSE: WMT  ) . People have to shop somewhere, and in a depression, that place is likely to be the cheapest retailer on earth. ExxonMobil (NYSE: XOM  ) and ConocoPhillips (NYSE: COP  ) are also good options. Even with possible deflation and the rise of alternate energy sources, oil will continue to be needed for a long time.

The Foolish bottom line
The Second Great Depression is unlikely, but it's smart to prepare for all eventualities. These stocks are good investments for tough times because they're both solid and really cheap. They won't simply survive the Second Great Depression, but will yield superior returns going forward because they're so undervalued.

That said, they're not our favorite picks right now. Our Motley Fool Inside Value analysts have identified many stocks that we think will deliver excellent long-term returns, even if we hit the Second Great Depression. You can read about them with a free trial.

Fool contributor Richard Gibbons is looking forward to trying his new squirrel recipe. Wal-Mart and Coke are Motley Fool Inside Value picks. The Fool's disclosure policy hoards ammunition.

Read/Post Comments (23) | Recommend This Article (63)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On March 30, 2009, at 10:27 AM, whereaminow wrote:

    Whoa. Is this the same Richard Gibbons who supported the bailout? Ummmm, I told you so.

    David in Qatar

  • Report this Comment On March 30, 2009, at 5:11 PM, jesse2159 wrote:

    This time a depression is more likely than at any time since 1930 simply because the entire world economy is far more interconnected. Anything can, and does, send even "secure" investments south. Trust, a sentiment in every financial transaction, is finished. Banks, brokers and insurance companies buried that quaint notion.

    All three have trillions of losses still not fully acknowledged. That's a lot of losses to work through. Then, there's the political unknown. That's anyone's guess. Even Hitle was politically finished in 1928 only to become Chancellor less than five years later.

  • Report this Comment On March 30, 2009, at 5:35 PM, TheStucks wrote:

    This article is rediculous. How can you hint at the possibility of deflation at a time when our government and several others are pumping trillions more currency into economies. What do you think happened to all the money that was lost by banks, in the market, and else where? It didn't just dissappear, it simply changed hands. There is still that money out there and now there is more from the printing presses of the world and mainly the from the USA. More money chasing same amount of maximum supply when things start to recover = painful inflation. Please explain how you see deflation even a remote possibility over any time frame past the next 12 months?

  • Report this Comment On March 30, 2009, at 6:07 PM, 231545 wrote:


    The answer is: the velocity of money

  • Report this Comment On March 30, 2009, at 8:09 PM, xetn wrote:

    During the great depression of the 30's, Hoover started the first great governmental intervention in the history of the US. First, he instructed the Fed to start inflating, he jawboned the largest corporations into maintaing high wage rates, limited work days to 8 hours, raised tarrifs on many products, (to protect American products) and tried to prop up prices of wheat and cotton through government purchases and guarantees. Lastly, he closed the borders of the US from most immigration (especially from Mexico). In spite of all of these efforts prices of most commodities keep falling. This is the market trying to correct itself. But all of these efforts paled in view of what the damage inflicted by FDR and his version of the "new deal". If no intervention had been inflicted on the economy in the first place, and government had cut taxes and spending the recession would have ended much sooner. If the above sounds like Bush/Obama, it is but they are much worse. So hang on to your hats.

    My 2 cents worth.

  • Report this Comment On March 30, 2009, at 9:00 PM, brwn8484 wrote:


    I am glad to see someone who is a student of history ... at least someone is paying attention to the greatest mistakes of our first (but not last) great depression.

    Unfortunately the writer of this article (and most of our current leaders) have forgotten that what was tried (and failed) in the past is probably going to fail again.

    Even FDR's economic advisors admitted that all the spending and social programs instituted in the great depression were not effective (and a miserable failure). Unfortunately, for us, the current administration is blinded by their belief that big government and massive spending is the answer to all the worlds problems. This has never been (and will never be) the answer to any social or economic crisis. History bears out this truth, over and over again. From the collapse of the persian empire to the bloodied history of the French revolution, history leaves a bright and indelible path that screams to us in a voice that will never waver ... It tells us that big (or bigger) government will always fail.

    We (the American people) can only hope that a greater leader will rise up (with the vision) to look beyond the near past and admit the biggest financial mistakes were committed by our own leaders. Unfortunately, I fear that by the time that leader arrives, we will all be destitute, or under the the control of a great dictator. Unless we stand up and put a stop to the hysterical and criminal activity of our leaders, we will eventually give up all the freedom that out forefathers so bravely lost their liver for.

    "I like bats much better than bureaucrats. I live in the Managerial Age, in a world of "Admin." The greatest evil is not now done in those sordid "dens of crime" that Dickens loved to paint. It is not done even in concentration camps and labour camps. In those we see its final result. But it is conceived and ordered (moved, seconded, carried, and minuted) in clean, carpeted, warmed, and well-lighted offices, by quiet men with white collars and cut fingernails and smooth-shaven cheeks who do not need to raise their voice. Hence, naturally enough, my symbol for Hell is something like the bureaucracy of a police state or the offices of a thoroughly nasty business concern."

    -C.S. Lewis, Screwtape Letters

  • Report this Comment On March 30, 2009, at 9:20 PM, kushme wrote:

    less taxes is the answer, only thing that will get us out of the rut, we just have to wait till the mid-term elections to see a change.

  • Report this Comment On March 30, 2009, at 11:37 PM, rbgibbons wrote:

    Yep, I'm the same Richard Gibbons who supported the bailout. I'm kind of confused why you think that this article in any way contradicts the other article that the bailouts were necessary. The world is not a story, where the fact that one path is bad implies the other path is good. Sometimes both paths are bad, and you simply have to chose the less-bad situation. That's why a little regulation would have been a good idea before we got into a lose-lose scenario.

    I still support the bailouts, and still have yet to see evidence -- include your comments -- that the bailout is not necessary. It's incredibly distasteful, but necessary.

    The thing that would convince me that it was not necessary would be a credible description of why the USA would be OK with all the big banks and insurers going under in the span of 6 months as even the "solid" banks fall amid counterparty failures and a vicious cycle of deleveraging and collapsing asset prices.

  • Report this Comment On March 31, 2009, at 2:04 AM, fraseran wrote:


  • Report this Comment On March 31, 2009, at 3:51 AM, TMFDiogenes wrote:

    touche touche

  • Report this Comment On March 31, 2009, at 9:34 AM, OldEnglish wrote:

    Chance of a depression: 100%.

    Chance of a deflationary depression: 1%.

    Chance of an inflationary depression: 99%

    The only thing saving me from Ben Bernanke's attempts to reward no-money down speculators at my expense is Wen Jiabao. Ben responded by spitting in Wen's face and began monetizing the debt.

    The Cantillon effect has benefitted America for decades as the world economy grew and needed more dollars. Ben is doing his best to cause the world to flee in terror from the dollar.

    Pay down debt? If you have stable employment, get the largest fixed thirty year loan you can. Bernanke is about to give every debt holder in America an inflationary "cram down". Deflation two to three years from now? Laughable.

  • Report this Comment On March 31, 2009, at 9:53 AM, sickafus wrote:

    Martin Weiss is predicting a second depression, from what I read. PG

  • Report this Comment On March 31, 2009, at 12:18 PM, SoapyHollow wrote:

    Considering that starting tomorrow a new federal tax of 62-cent-per-pack is going to be levied on cigarettes, it would seem to me that consumption of said product is likely to drop, as cigarette costs rise above the ability for the demographic that is it's primary user base to afford them.

    In other words, the majority of folks that still smoke are in lower income brackets. Raising the cost of a pack of cigarettes to around $7.00 a pack (where I am, your mileage may vary), is going to push cigarettes out of the budgets of the people who would be most likely to use the product.

    As well, most states are also raising taxes on "sin" products, the primary push being on tobacco products.

    Ergo, it would seem to me that tobacco companies aren't likely to enjoy the same sort of "depression bump" that might occur with stocks like DEO or other "sin" stocks.

  • Report this Comment On March 31, 2009, at 12:22 PM, LanMan49 wrote:

    Why do most of you people read The Fool? If you're so pessimistic on the economy, buy gold and head for your shelter.

    I think you all watch Fox and MSNBC toomuch.

  • Report this Comment On March 31, 2009, at 12:34 PM, ClandUpods wrote:

    Chance of a depression resembling the great depression occuring < 1%. Stop fearmongering for headlines leave that to the pros like Bush. We are at 8.1% unemployment... unemployment levels during the great depression reached near 25%... the comparison is rediculous. Google the articles where the people who actually lived through the great depression mock the comparison that every columnist with a keyboard is making.

  • Report this Comment On March 31, 2009, at 12:50 PM, rfaramir wrote:

    We might very well have deflation for a couple years as prices fall and banks un-leverage. It was their leverage that created so much of the trillions that was lost. As that disappears, a good chunk of our fiat currency disappears, too. That deflates us. But that 'instability' also causes the gov't to panic and print more, which they are, to an insane extent. Thus we will have inflation later, there's just no telling when.

  • Report this Comment On March 31, 2009, at 1:03 PM, whereaminow wrote:

    Richard Gibbons and TMFDiogenes,

    I welcome you to read my posts.

    On Inflation as a Policy

    On Deflation as Liberty

    On Property Rights and Ethics in a Fiat Paper World

    On Keynes, The Federal Reserve, Calculation Problems, and Classical Economics

    Murray Rothbard's book America's Great Depression, free here:

    And then consider this alternative to the Bailouts and government mismanagement:

    1. Allow market competition of money production, removing legal tender laws and allowing people to convert dollars into usable privately-backed currency.

    2. Allow 100% reserve banks to complete freely with fractional reserve banks, allowing consumers who are adverse to the systemic risk inherent in fractional reserve to place their assets in safer institutions.

    Neither of these proposals are radical or chaotic. In fact, there is historical evidence that they could be achieved with immediate positive consequences on employment and the standard of living. Resources backing up such a statement can be found by investigating the Worgl experiment in 1930's Austria and reading the excellent work The Ethics of Money Production by Professor Hulsmann, also available free here:

    David in Qatar

  • Report this Comment On March 31, 2009, at 1:09 PM, GOLDOIL wrote:

    Unfortunately, I believe that a depression cannot be avoided...I wish that it could...too much human pain.

    Here are my ideas for replies:

    1) Mitigate the pain on the other 99%

    - USEFUL infrastructure jobs-bullet train, bridges.

    - Nationalize ONE bank.Restore money flow NOW

    - Let losers FAIL. That is competetive enterprise!

    - National health. Use Medicare IT Infrastructure

    2) Budget

    - War? We can't afford it unless we are Rome!

    - Without spoils, war is a futile drain, no gain

    - No more loans to incompetent dishonest banks

    ( They are stifling money flow by hoarding $$)

    3) World Currency, USA "Dollar Power", America

    - Face the obvious. EU,China are equals+(for now)

    - Eventually necessary. Why not now? When?

    - Back dollar with some standard value- Gold,??

    - Start creating a "Social safety net" for "workers"


    Now you'all take your best shots at these ideas.

    I don't want to go back to the caves! Thank you.

  • Report this Comment On March 31, 2009, at 1:18 PM, farmnut1985 wrote:

    Good commentary and discussion. At 23 years of age I haven't seen much yet in the historical scope, but one thing I have found very useful is talking to my grandparents about the great depression and what things were like. Whole wealth of knowledge is available there. My grandfather is a highly intelligent man and has been a good investor for years and considers todays market to be a risky investment, but without taking the risk, there is now rewards. I have yet to get his opinion on the bail outs, but he strongly dissaproved of the huge budget that was presented. The best advice he had for me was invest wisely in solid companies and watch what you spend, and pay cash.

    Keep up the good discussion all.

  • Report this Comment On March 31, 2009, at 9:25 PM, whereaminow wrote:

    LOL at Richard and TMFDiogenes,

    Now the government wants to control the salaries of employees from firms that received bailout money. How does this fit with the economic theory of wage rates? How will they get talented individuals to join these firms in order to improve competitiveness?

    In other words, please explain how their eventual collapse is not inevitable anyway? Make no mistake about it. We now have zombie banks and businesses that will exist for years only to suck tax payer money and government debt down the rabbit hole.

    I've pointed out before, your logic flawed. It's called the Negative Proof fallacy. If you can't even wrap your head around that I suggest you get a refund from the institution of higher learning that conferred to you a diploma.

    All kidding aside, though, this quote certainly seems appropriate consider your illogical stance:

    "If a dystopian nightmare of the totalitarian state finally arrives in the United States, it will be a result of a compromise, and there will be people around until the very end who will insist that we should be grateful because it could be much worse. " - Lew Rockwell

    David in Qatar

  • Report this Comment On April 01, 2009, at 2:31 AM, rbgibbons wrote:

    My scenario is housing starts to flatten out some time this year or early next year. It's probably 75% of the way back to fair value these days. At that point, a market for a lot of these securitized assets returns, since they are far more predictable. Bank losses stop.

    Then banks continue to do banking. Many of these big banks should make $5-10 billion in earnings each year (i.e. they'll get the equivalent of TARP every couple of years from their own earnings). The combination of that and a liquid securization market, and the zombification goes away. Banking is a pretty good business, even if it doesn't seem that way now.

    America might have a few bad years, but at least the entire economy won't collapse, which seems likely in the other scenario. I think that a complete economic collapse is a very risky thing to try, because widespread misery can cause great upheaval.

    To me, it parallels Buffett's genetic lottery. America's a great place now. If you roll the dice to make a random change to America, the outcome is far more likely to be a worse country than a better one.

    FWIW, I'm not looking for a proof that bankrupting all the big banks and insurance companies is a good idea, just a remotely credible scenario why it might be. Don't worry if you can't think of one, because I can't either.

    That doesn't prove destroying the economy is a bad idea. But when making a choice, I'll generally prefer the path that has a credible chance of a good outcome, to the path that seems to have a bad outcome, and whose proponents can't even think of a credible scenario where that path is better.

    But you're right, it's no proof, so don't worry about it.

    WRT compensation, I don't believe that you need to pay millions to get people who can do a fantastic job.-- especially in these times, when companies aren't exactly struggling to find workers. In later times, it won't matter, because the restrictions won't be there after TARP is paid back. (Long term, compensation probably shouldn't be regulated.)

    Since we're doing quotes, here's my favorite quote by Charlie Munger: "Another thing I think should be avoided is extremely intense ideology, because it cabbages up one's mind."

    (This'll be my last reply on this thread. It takes too much time... :) )

  • Report this Comment On April 01, 2009, at 2:46 AM, whereaminow wrote:

    Thanks Richard. Sorry if am too contentious in these comments. Appreciate your reply and will continue to follow your work. I hope we aren't heading down the same path as the GD. We'll see.

    David in Qatar

  • Report this Comment On April 06, 2009, at 12:40 PM, brwn8484 wrote:

    To: R Gibbons

    The private sector, not a government-jobs program, fueled the prosperous US economy prior to the Great Depression. The Roaring Twenties had prosperity and all-time low unemployment without big government-jobs programs.

    "If government jobs were the secret of success, the Soviet Union wouldn't have collapsed, because it had nothing but government jobs. Communist China, glutted with government jobs, would have generated more income per capita than Hong Kong where, at least before the Communist takeover, there were hardly any government jobs. But Hong Kong's per capita income was about 20 times higher than that on the mainland."

    Increasing the number of government jobs did nothing then and does nothing now to revive the private sector that pays all the bills, in large part because of the depressing effect of the taxes required to pay for government jobs. Insisting that the takover of banks is necessary, is a ploy used by the left leaning media (and pol's) to force the common man to blindly follow their expansionary policies. If we survived the bankruptcy of Lehman, why do we need to hysterically support all the other govt takovers. Geithner has admitted publicly that the Democrat policy is to use this crisis for power and money grabbing.

    "Since the Old New Deal, economists have learned quite a bit about FDR's efforts and their effects. These researchers' findings — principally about New Deal obstacles to recovery — have been ignored for decades by biographers and political historians who continued to rely on diaries, correspondence, speeches, official documents, and other traditional sources relating to the political story of that period."

    What were the effects of the tripling of taxation? What were the effects of New Deal laws that banned discounting and made sales illegal? How much did New Deal policies to force up food prices affect the three-quarters of Americans who weren't farmers? What was the effect of the Tennessee Valley Authority during the 1930s, considering that it took out of production about 730,000 acres, forced about 15,000 people out of their homes, finished only three small dams during the 1930s, and, overall, transferred resources from the 98 percent of the people who didn't live there to the 2 percent who did? Some kind of economic analysis, not a political narrative, is needed to answer such questions.

    Economists don't always agree. What I can tell you is this,,, The policies of that FDR instituted still plague us today and they are still burdensome and financially restrictive. If programs like Social (in)security and taxes are so stimulatiing, why is that Mr Geithner chose to hide his income from the IRS. Why is it that most young people today would like to leave the Social (in)Security program. Why do we continue to turn over our freedom (both politically and financially) to a burgeoning and repressive govt that does lirttle to help the common man. I paid into SS and Medicaire and unemployment for over 30 years and I have yet to receive a dime from any of these programs. Millions of American cannot find work yet we are creating the illusion that someone out there will magically hire us when all this excessive spending is dumped into the system. I am 49 years of age with 3 degrees and I can promise you that noone on a construction job or works program will hire me. I have sent out thousands of resumes and the most common response I get is... You are overqualified,,, a polite way of saying you are too old and we dont want a highly educated man who might leave and go somewhere where he can get some real compensation. Now, if a highly educated man who has years of experience and is medically fit cant get work, how is all of this excessive spending going to help the average American.

    You ask for proof..... Well I offer you a counter... Show me where to go and apply for a job with real income (not $10/hour or less) that I can be hired and save my families future, in my local community in the next 2-3 months. If I can find work (or any of my neighbors), I will concede to you. But until I can see real jobs or protection of the middle class, all your lofty ideals and penmanship mean nothing!

    "I like bats much better than bureaucrats. I live in the Managerial Age, in a world of "Admin." The greatest evil is not now done in those sordid "dens of crime" that Dickens loved to paint. It is not done even in concentration camps and labour camps. In those we see its final result. But it is conceived and ordered (moved, seconded, carried, and minuted) in clean, carpeted, warmed, and well-lighted offices, by quiet men with white collars and cut fingernails and smooth-shaven cheeks who do not need to raise their voice. Hence, naturally enough, my symbol for Hell is something like the bureaucracy of a police state or the offices of a thoroughly nasty business concern."

    -C.S. Lewis, Screwtape Letters

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