A possible major cause of the recession: the Treasury Department's gold sterilization program. The other reasons given (FDR's spending cuts and tax increases, the Fed's raising reserve requirements) do not seem to be a sufficient explanation:
"The recession is often blamed on the tightening of fiscal and monetary policies. In terms of fiscal policy, the Roosevelt administration became concerned about large budget deficits and began reducing the growth in government spending and increasing
taxes. 4 In terms of monetary policy, the Federal Reserve and Treasury became concerned about the inflationary potential of excess reserves in the banking system and large gold inflows and therefore decided to double reserve requirements and sterilize
gold inflows.
"Yet the evidence that these policy changes were responsible for the severe downturn is underwhelming. Although Brown (1956) finds that the fiscal contraction amounted to a swing in demand of 2.5 percent of GDP in1938, Romer (1992,p. 766) finds a relatively small fiscal multiplier during this period and argues that ‘it would be very difficult’ to attribute most of the decline in output to fiscal policy.5 And while Friedman and Schwartz (1963) put great emphasis on the contractionary impact of higher reserve requirements, subsequent studies have found little support for this conclusion. For example, Calomiris, Mason and Wheelock (2011) note that banks held large excess reserves at the time and that they did not increase their demand for reserves after the new requirements took effect. The reserve requirements were not binding on the banks and therefore they had little, if any, effect on the money multiplier and the supply of money and credit.6
"If these factors cannot be blamed for the severity of the recession, might the big ‘policy mistake’ of the period have been the sterilization of gold inflows?7 Unfortunately, the quantitative significance of the gold sterilization policy has never been fully assessed. Friedman and Schwartz (1963, p.544) maintained that ‘The combined impact of the rise in reserve requirements and–no less important–the Treasury gold-sterilization program first sharply reduced the rate of increase in the monetary stock and
then converted it into a decline’ (emphasis added).8 Yet they did not provide any direct empirical evidence to support the conclusion that the gold sterilization policy was ‘no less important ’than the change in reserve requirements.9 Though understudied by economists, the decision by the Treasury Department to sterilize gold inflows from December1936 until February1938 turns out to have been a very large monetary shock. By preventing gold inflows from becoming part of the monetary base, this
policy brought an abrupt halt to what had been a strong monetary expansion. After growing at about a17 percent annual rate from 1934 to1936, the monetary base ceased expanding in1937. This shift in policy was enormously important because, as
Romer (1992)points out, the inflow of gold from Europe–and the consequent expansion of the monetary base and money supply– was the driving force behind the economic recovery from the Depression. The sterilization policy severed the link between
gold inflows and monetary expansion...
"This article reports several findings. First, the change in the monetary base as a result of sterilization was large. As much as a10 percent increase in the monetary base in 1937 was prevented as a consequence of the program. Second, the monetary base
was a more important source of change than the money multiplier in tightening monetary policy during the period going into the recession. This suggests that, although the Federal Reserve is often blamed for its poor policy choices during the
Great Depression, the Treasury Department should not be immune from criticism since it was largely responsible for the policy tightening during this period. Third, the end of the sterilization program and the resumption of large gold inflows coincide
with the onset of the economic recovery. By contrast, the hike in reserve requirements was only partially rolled back and does not appear to have contributed to the relaxation of monetary conditions. Fourth, the sterilization policy appears to have been transmitted to the real economy through lower asset prices and slightly higher interest rates. Together, these findings suggest that the gold sterilization policy was a key factor behind the1937–8 recession...."
http://www.dartmouth.edu/~dirwin/1937.pdf
Gold sterilization and the recession of 1937–1938
Douglas A. Irwin
Financial History Review / Volume 19 / Issue 03 / December 2012, pp 249 267