Twenty-seven years ago today, on Monday, October 19, 1987, the largest one-day percentage decline in the stock market in American history occurred when the Dow Jones Industrial Average plunged 508 points. In percentage terms the stock market crash of 1987 was bigger than either of the two October 1929 crashes, which ushered in the Great Depression, or the various collapses leading up to the Great Recession of 2008. At the time, the crash seemed to herald the end of the giant bull market of the 1980s, which in many ways resembled that of the 1920s. In the days and weeks following the disaster, many competent analysts predicted a new Great Depression. Yet strangely, as economic history unfolded, the crash of 1987 is barely remembered. The market soared to new heights in the 1990s and especially the 2000s, and it took the horrifying events of 2008 to deflate it. What happened?
There’s something very mysterious about most of the great economic declines in recent history, but the 1987 crash seems more inscrutable than most. The conventional explanation, which came out shortly after the crash and is usually repeated in discussions of it, is to blame computers. “Program trading” had become popular on Wall Street in the 1980s. This is a form of market activity where computers at brokerage firms were programmed to sell certain stocks automatically when certain conditions were met–for example, when prices of related stocks reached a certain level. Because the trigger for program trades was usually price declines in other stocks, unrestricted program trading could cause a cascade effect, with computers all over Wall Street selling huge blocks of stock faster than humans could stop them. There was certainly evidence of this happening on October 19, 1987.
Alan Greenspan was appointed by Reagan as Federal Reserve Chairman in August 1987, just before the crash. He was a devoted follower of Ayn Rand’s Libertarian philosophies of absolutely unfettered capitalism.
Yet, as convincing as it is, the “program trading” explanation feels incomplete. Program trading certainly seems to have made the problem worse–meaning, once the avalanche of selling began, the computers’ sell orders all kicking in at once sped up the collapse–but what’s lacking is a convincing explanation of what triggered the sell-off in the first place, and why so many program trades responded to the same impetus. In actuality the crash began not on Monday, but the previous Friday, October 16, when stock prices plunged just before the end of trading on Wall Street. What caused this decline? Big brokerage houses seem to have begun to shed large blocks of stock beginning that second week in October, but their reasons for doing so are unclear. Nevertheless, it seems that the decisions of human beings, rather than computers, started the disaster.
A possible explanation is political instability. During the fall of 1987 the war between Iraq and Iran, going on since 1980, was threatening neutral countries’ shipping in the Persian Gulf. In the summer President Ronald Reagan “reflagged” Kuwaiti oil tankers with the U.S. flag, essentially daring Iraqi or Iranian military units to fire on them. On October 15 and 16, Iran did, in fact, attack two tankers. But things like this had happened before; why should this time have triggered an economic collapse?
It’s also possible that environmental factors played a role. On October 15, Britain was struck by a massive windstorm that came to be known as the Great Storm of 1987. Markets in London were closed the next day. Again this seems more like a complication than a real cause; a bunch of sell orders may have backed up during the closed day, which hit the tickers at the same time when markets opened in New York. One-day market closures, even unexpected ones, don’t generally create stock market crashes.
The iconic film Wall Street, which came out two months after the disaster, was hastily changed to try to avoid connotations with it.
Certainly people were spooked by the crash. I remember at the time reading many things in the papers and seeing on TV commentary by various experts either warning that a new Great Depression was coming, or telling people not to worry about that. The Oliver Stone film Wall Street, which came out in December 1987, had some hasty changes made to suggest that it took place in 1985, rather than in a contemporaneous present, to avoid audiences connecting it with the crash. Some changes were made to prevent program trades from kicking in all at once; now there are essentially “brakes” built into the system to prevent the cascading failure of automatic transactions. The U.S. Federal Reserve, however, did nothing. It was business as usual, with no adjustment to interest rates.
Obviously, no Great Depression happened in 1987. The market took two years to recover its pre-crash high, but then went right on smashing records. The economy shrugged it off as if it had never happened. Was the crash just a chimera? Or did investors just paper over the economy’s weak points and carry on–ultimately, as the dot-com crash of 2001 and the Great Recession of 2008 showed, to their cost? I do not know the answers to these questions. Perhaps no one does. The 1987 crash, therefore, remains something of a historical and an economic mystery to this day.