Okay. Chapter 9, 1920s. I want to talk about some fiscal policy and some monetary policy during the period. To do that, I have to go over, in appendix 9, the model for saving and investment. And it's probably been a while since you've seen this, so it's worth doing a review here. What the model of saving and investment allows us to explain or predict is changes in the real interest rate. And basically when the real interest rate changes in the economy, all interest rates change in the economy, including interest rates on your saving account, or on certificates of deposit, or on bonds, whether they're government bonds or corporate bonds. So all interest rates generally follow the real interest rate, and we'll talk more about that later, of course. Here is the dollar of loanable funds. And supply and demand exists in this market. Just like any other market, we can use supply and demand. And just to keep this real simple, here's the idea. The demand for loanable funds, we call investment demand. And it is primarily firms that determine this. And investment demand is the amount of firms, or excuse me, the amount of dollars that firms want to borrow given the interest rate that they have to pay on the loan for the money they're borrowing. So this investment demand is really borrowers. And, all else the same, at a higher real interest rate, firms choose to borrow less money because it's more expensive, but also because firms have to pay back the interest at the interest rate, so at a higher real interest rate, there's fewer projects that are as profitable for the firms to borrow money for. On the other side of this equation, we have saving supply, so this is saving supply. This is really the lenders. So borrowers and lenders. And the lenders are actually made up of two primary people. There's private saving. And private saving is from you and me, just to keep it again, very simple. Plus public saving. And public saving is what the government's saving. And if it doesn't save, if it runs budget deficits like today, then public saving is negative. But just thinking about why the supply curve slopes upward, and this is for the entire financial system— stocks, bonds, banks, all that junk, mutual funds— but I'm just going to talk about banks because it's much easier for students to understand. All else the same, the higher the real interest rate, the more money you can make if you put more money into a savings account. So you and I will put in more money into the savings account, the higher the real interest rate that slopes upward. But here's what's going to happen if the interest rate is too high. I am going to draw a separate graph for this to keep it clean. Okay. If the interest rate is too high, higher than what the market wants it to be. Let's say it was 20% today. That'd be awesome if we could get 20%, huh? Well, if the interest rate is 20% today, which is way more than it really is, then it's too high for the market. And that means that you and I will want to put in a lot of money into the bank. And so saving is going to be the quantity supplied of loans, this is saving, S is saving, which is how much is being saved, dollars being saved. But at a really high interest rate, let's say 20%, firms don't have very many projects that will return at least a 20% rate of return, so it's not worth borrowing the money. So the quantity demanded for loans is relatively low, and that means that this amount of money is borrowed and spent on investment projects. I, investment, is not stocks and bonds. Investment is C plus I plus G plus X minus M. That I is expenditures from firms on tools and machinery, on capital. So here saving is greater than investment, and this difference you can think of as dollars basically in bank vaults doing nothing. So we have a surplus of saving. And if you're a banking manager and you see all this extra money sitting in your bank doing nothing, then you're going to have the incentive to lower the real interest rate, or lower your interest rates, to make more profits. So in a competitive system, what happens is the interest rate falls, some money, you and I pull back out of the banks, firms start borrowing more, and we'll come to this equilibrium real interest rate, where the amount of dollars being saved is equal to the number of dollars being borrowed by firms and spent on investment, so it's equal to investment. If the real interest rate is too low, we get a similar story, kind of backwards. At a really low interest rate— and interest rates, after the finance crisis, have been historically low, but there's something else going on we'll learn later, but let's say that the real interest rate is 0. Then what this means, if the real interest rate wants be higher here in equilibrium, is that at this relatively low interest rate, the quantity demanded for loans is very high. Firms want to borrow a ton of money, at that low interest rate, because there's a lot of projects that will at least return them a positive rate of return to pay back the interest. But at a really low interest rate, you and I don't want to put a lot of money into the bank, so we put in relatively less and the quantity supplied for loans is low. The quantity supplied for loans determines saving, which is S. So this is the number of dollars being saved. The issue is that, yes, there is a shortage, there is a shortage of saving here, but the firms cannot borrow this amount of dollars here because only this number of dollars exist in the banks as saving, which means that saving equals investment below the equilibrium. And this situation looks like, if you're a bank manager, tons of entrepreneurs, come in wanting to borrow money, and you look back in the vault and there's nothing in it. So you are going to increase the interest rate, which entices individuals to put more money into, say, savings accounts and fewer people would be coming up to your line to borrow the money and then boom, we'll come back to this site, we'll come back to this equilibrium right here. So, in the financial system, and that's all that appendix nine shows us is how to model the financial system, we will eventually move back to an equilibrium. Now we want to talk about some shifters, so let's go ahead and do that. Here we go. And I want to discuss the fiscal policy over the 1920s as a whole. The fiscal policy was such that the government ran what we call budget surpluses. And you might not have heard that word in a long time because the opposite of a budget surpluses is a budget deficit, and since the 1960s, we have consistently run budget deficits, minus a very short period in the '90s under the Clinton administration, which we can't give credit to Clinton for doing that because it's the dot com era that naturally increased tax revenue to the government. It was a time of booming business. And we can say that Clinton invented the internet, so. He did other things. You probably know about that. But anyway, a budget surplus is this. A budget surplus is when the tax revenue that the government earns is greater than government spending. So the government has money left over in a given period of time, so budget surplus is for a given year. And during that given year, the government says, oh, wow, I got more money in tax revenue than I spent. What am I going to do with the extra money? Well, they don't go, you know, hiding it under the White House or anything. That gets put back into the financial system. And I'm going to show you what that does to the financial system. So we have the loanable funds here. We have the real interest rate, which you can just think of as all interest rates for the time being, Saving supply, investment demand. And of course, we're going to start in equilibrium, with an equilibrium real interest rate and savings equals investment in equilibrium. By the way, this saving is national saving. National saving is saving from private saving, which you just think of as you and me, and public saving, which is the government. So often we'll just say saving in economics, but when we say saving, we always mean national saving. If we want to talk about private saving, we say private saving. And if we want to talk about public saving, we say public saving. So what do these budget surpluses that are run during the 1920s doing? Were they consistent with the policies that the presidents were promoting in terms of stimulating US business and isolating basically America from the rest of the world. Here, what a budget surplus does— I'll write it over here— all else the same, compared to running a balanced budget where taxes would equal government spending, a budget surplus will cause saving supply to increase, which is a rightward shift because the saving supply function, remember from before, is a function of private saving plus the public saving. And public saving— so I'll write here, I'll write it down here— public saving is equal to the tax revenue minus government spending. So public saving during the '20s for each and every year is positive, it's greater than 0, which means you can think of the government getting additional money it doesn't spend, and when it puts it back into the financial system, it shifts the saving supply curve to the right. So the saving supply curve increases, shifts to the right. And what that will do is now that there's more dollars and coins in the financial system, it will lower interest— all interest rates—it'll the lower the real interest rate, making it cheaper for firms to borrow and this will increase investment. So the cool thing about budget surpluses compared to running a balanced budget, of course, is that the budget surplus leads ultimately to an increase in investment. And that means that the policy in the 1920 of running these budget surplus is consistent with promoting US business or stimulating US businesses. So promote US businesses. So that's pretty cool. Budget deficits, on the other hand, do the exact opposite. So whenever the government runs a budget deficit, which we'll see, of course, later in history, the saving supply curve would decrease. And that would mean there's less money for firms to borrow from in the financial system, the real interest rate would be higher and investment would fall. Investment gets crowded out with a budget deficit. So that's the fiscal policy of the 1920s. That's going to change in the very, very, very late '20s and in the early '30s. So I will show you how to model that when we get there. Thank you for listening.