The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

By Edward Chancellor

LONDON, Oct 24 (Reuters Breakingviews) - Folklore holds that the great stock market crash of October 1929 pushed the world into depression. There's some truth in that. Still, had the financial foundations in the United States and elsewhere been robust, the sharp sell-off in the market would likely have been bearable. But the fundamentals were shaky and all hell broke loose. Herein lies a lesson for investors pondering the potential impact of any future slump.

A new book by Andrew Ross Sorkin, 「1929: the Inside Story of the Great Crash in Wall Street History「 tells a familiar story. In the years before the market ructions in October that year, the leading figures on Wall Street did not distinguish themselves. Charles E. Mitchell, the ebullient head of National City Bank (forerunner of today’s Citi), flogged dodgy securities to an unwitting public. JPMorgan JPM.N handed out stocks at below market prices to its friends. Stock market pools – which enabled 「pump and dump」 operations – abounded. Nearly everyone in lower Manhattan’s financial district was caught up in the euphoria.

Sorkin tries hard to find a link between the shenanigans on Wall Street, the crash and the ensuing depression. An investigation by the Senate Committee on Banking and Currency, known as the Pecora Hearings, sought to hold leading bankers responsible for the economic calamity. But, as Senator Carter Glass said at the time, it was a show trial. In the end, National City’s Mitchell was charged with having transferred shares to his wife in a wash sale in order to crystalise losses and reduce his income tax. Jurors found him innocent. This is thin gruel, indeed.

JPMorgan’s Thomas Lamont believed that the cause of the crash "was a technical one rather than fundamental,」 induced by forced sales of leveraged speculators facing margin calls. The Harvard Economic Society pronounced immediately after the crash that 「a severe depression like that of 1920-21 is outside the range of probability.」 Most people on Wall Street shared that view. Yet the slump duly arrived, millions of American workers lost their jobs, banks folded like dominoes and the Dow Jones Industrial Average dropped almost 90% from its September 1929 peak.

Economists usually blame the debacle on the lack of monetary and fiscal support from the U.S. authorities. But those props were also absent during the so-called 「Forgotten Depression」 at the start of the 1920s, after which the economy and markets came roaring back. The difference between these two downturns was that financial conditions had become extremely fragile over the course of the decade.

Agricultural prices were depressed throughout the 1920s, farms across the United States went bust and regional banks that held farm mortgages were in deep trouble. As Sorkin writes, countless banks were technically insolvent before the crash. Furthermore, real estate booms in Florida and Chicago collapsed around the middle of the decade. The first significant bank failure after the crash involved the Bank of United States in December 1930, which held second and third mortgages on New York properties, and had made a number of questionable transactions, including buying its own stock, through an affiliate, the Bankus Corporation.

In the words of the economist Herbert Simpson, writing in 1933: 「real estate, real estate securities, and real estate affiliations in some form or other have been the largest single factor in the failure of 4,800 banks that have closed their doors during the past three years… it becomes increasingly apparent that our banking collapse during the present depression has been largely a real estate collapse.」

Financial conditions in continental Europe were even more perilous. Hyperinflations in Austria and Germany in the early 1920s had wiped out the capital of those countries’ banking systems. The German economy enjoyed a brief recovery thanks to large US capital inflows around the middle of the decade but those reversed in 1928 after the U.S. Federal Reserve raised interest rates. The collapse of Austria’s Credit-Anstalt Bank in May 1931 sparked off a Europe-wide crisis.

Ivar Kreuger, known as the 「Match King」 had made large loans to various governments, including Germany’s, in exchange for monopoly concessions. After the Swedish businessman committed suicide in Paris in the spring of 1932, a black hole in his balance sheet was discovered that turned out to be larger than Sweden’s national debt. Kreuger’s operations were extremely complex: he controlled more than 200 subsidiaries, some of them secret, which issued complex derivatives. The 「Kreuger crash」 brought down the Boston banking house, Lee Higginson & Co.

Today, a frenzied excitement surrounding artificial intelligence is propelling both the U.S. economy and stock market. As in the late 1920s, the boom conceals profound weaknesses in the financial system.

Since interest rates turned up three years ago, the U.S. residential property market has ossified. Earlier this year, home resales fell to their lowest level in more than three decades. The cost of borrowing for U.S. commercial properties has climbed above rental yields, giving rise to a condition known as 「negative leverage.」 That’s a problem given that, according to Standard & Poor’s, trillions of dollars of commercial property loans need to be refinanced in the coming years.

When interest rates were at rock-bottom, lenders spurned liquidity, covenant protection and transparency in search of extra income. Private credit – supplied by non-bank lenders whose operations are complex, intertwined and opaque – has grown into a multi-trillion dollar business. Cracks have started to appear in the edifice with the recent failures of Tricolor, an autolender, and First Brands, an auto parts company. Tricolor’s activities involved taking subprime loans, sometimes without documentation and repackaging them in asset-backed securities, which were then tranched, and sold on to institutional investors. Plus ça change.

This month, two regional U.S. banks, Zions Bancorp ZION.O and Western Alliance Bancorp WAL.N , announced losses on investments in funds tied to distressed commercial mortgage loans. JPMorgan Chief Executive Jamie Dimon fears more cockroaches may emerge. A messy unwinding of the AI boom could provide the catalyst. Concerned investors might consider the advice of an earlier Morgan honcho: 「[stock] prices can go lower,」 Thomas Lamont wrote to his son in the summer of 1929. 「So be sure to keep plenty of cash. In my spare moments, I keep feeling cash is a good asset."

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(Editing by Peter Thal Larsen; Production by Aditya Srivastav)

((For previous columns by the author, Reuters customers can click on CHANCELLO/edward.chancellor.bv@gmail.com))