The mistake made by the Fed during the 1920s was expanding the supply of money and credit too rapidly. However, as increasing productivity prevented consumer prices from rising, the Fed was unconcerned about the inflation it was creating. Instead, the excess money and credit that spilled into financial and real estate markets caused asset prices to rise, which resulted in claims of a "new era" (sound familiar?).
The bust of 1929 led to the Great Depression of the 1930s not as a result of Fed tightening, as Bernanke claims, but due to the misguided economic policies of the Hoover and Roosevelt administrations.
By preventing market forces from efficiently correcting the imbalances created during the inflationary boom of the 1920s, the Federal Government turned what otherwise would have been a normal, though severe, cyclical recessionary bust, into what became known as The Great Depression.
The depression was NOT caused by government overspending! This arguement ignores the actual reported money supply during that period of time, as documented in Anderson's book "Monetary History of the United States 1918 to 1945". The depression was caused by the misguided policies of the Federal Reserve.
Briefly, the money supply tripled from 1918 to 1926, creating an artificial boom, when the Fed started selling Federal Reserve Bonds needed by banks to make loans. The US at that time was supposedly under the gold standard, in which the total money supply was supposed to be limited by the amount of gold they held. The Fed thought it had things under control because prices were stable - mostly due to increases in productivity (e.g., manufacture of autos, pipelines carrying oil, use of electricity, rise of the factory system, etc.). But checking accounts were just becoming popular, and their impact on the money supply was not taken into account by the Fed, and so their estimates were off by over 100%. One could take the position that the US went off of the gold standard in about 1920 because the Fed actions were not properly constrained by the amount of gold in the US.
When the Fed finally figured out they had screwed up, in typical government fashion, they began to try to correct the situation without telling anyone. They began buying Federal Reserve Bonds (needed by a bank in order to make a loan) in 1926, with a goal of reducing the money supply by 1/3. It took until 1929 for the reduction in the money supply to finally bite, and the stock market tumbled. They continued to buy these bonds even as late as 1936, when FDR was trying every crazy idea his brain trust thought of to try to restart the economy.
Europeans began to send gold to the US in the early 1920s because of political instabilities, and the fact that the US stock market was starting up. This reduced the money supply of European countries, and they all went into recession. Because gold entered the US, the US was supposed to reduce interest rates so that gold could flow back to the European countries; but the Fed was trying to fix its error, so it kept the gold and did not reduce interest rates. This deepened the European recessions into their depressions, a full 2 years before the US depression; and this brought Hitler to power in Germany.
Banks failed in NY in 1929 to 1930 because they had loaned money to people to buy stocks, with low margins (i.e., banks put up 90% of the money to buy GM stock). When stocks tumbled by more than 1/3, the banks were legally bankrupt, but the Fed couldn't let all of them go down.
Meanwhile, the banks did not have the Federal Reserve Notes needed to make loans to farmers for spring planting, or to retailers to buy goods to sell, so farms and medium sized retailers went bankrupt; then the manufacturers couldn't sell enough stuff, so they laid off the workers. It was a downwards spiral, ultimately resulting in 20% unemployment.
FDR didn't help the recovery at all by changing the price of gold daily, and passing laws which completely regulated the economy, creating such uncertainty that it paralyzed the ability to make business decisions -- so firms didn't spend what was left of their capital to restart, and unemployment was over 20%.
The unemployment rate was as bad in 1940 as it was in 1932 - there was no recovery due to FDR's economic policies. It did in fact take WWII to restart the economy. And the Fed has never taken responsibility for their screwups.