The economy was robust, and the Fed was pursing a contractionary policy by raising the Fed funds rate from 5.85 in 1986 to 7.29 in October 1987. Then, the Fed reversed the policy, and the Fed funds ended the year at 6.77. The yearly CPI was 111.4. The real GDP growth rate was: q1, 0.7%; q2, 1.1%; q3, 0.8%; and q4, 1.7%. The unemployment rate declined from 7.0 in 1986 to 5.7 at the end of 1987, and the rate continued to fall well into 1988.
The Dow Jones Industrial Average (DJIA) began at 1927.31 up 150% from the 1982 low of 769.98. The DJIA peaked at 2746.70 on August 25, an increase of 40.5%. Coincidentally, this peak occurred 14 days after Alan Greenspan replaced the retiring Fed Chairman, Paul Volker. The DJIA continued to sell off, culminating on October 19 in the largest single-day drop in history of 508.03--more than 22.6%. However, the DJIA closed the year at 1938.83--a 0.5 % annual gain. Computer program trading, a high foreign-trade deficit, and the change of the Fed Chairman were all speculated as causes of the crash.
The Federal Reserve quickly supplied liquidity through open market purchases of U.S. government securities, adding $2.2 billion in non-borrowed reserves. Also, the Fed made the discount window available to commercial banks, without imposing the normal limitations or restrictions. Furthermore, Greenspan publicly announced, “ . . . its readiness to serve as a source of liquidity to support the economic and financial system” (Stern). Finally, the FOMC met daily via telephone conference call until October 30 (Stern).
President Reagan said, “ . . . I think everyone is everyone is a little puzzled because . . . All the business indices are up. There is nothing wrong with the economy” (Stern). President Reagan pursed a policy of lowering taxes and tax rates, while at the same time, increasing government spending as well as the federal deficit. Since the crash, several regulatory changes were made, i.e., trading curbs that halt trading for an hour after a daily 250-point move.
While the crash was a historical event, it had no real lasting effects on the economy. The expanding economy that began as early as 1983 continued through the crash of 1987 on surged into 1988.