1. THE CIRCULAR FLOW H&B Y F S T Trsy FxM K CrM Def Cd MD MS E I G PrM
Cash
Fed
FxM S T I G Cd E K
Def Y X F
MD
MS

2. THE CREDIT MARKET Deficit = Gov’t Purchases + Transfers – Taxes
CrM
Fed S I K
Def
MD
MS
Cash
Deficit = Gov’t Purchases + Transfers – Taxes
= Amount the gov’t borrows per year
K = Foreign Capital
= Amount loaned to US by other countries
= F – E = Trade Deficit
(That is, roughly: The world lends to the US the amount left over after ‘shopping in the US”)
MS = the amount of money “printed” by the Federal Reserve

3. THE CREDIT MARKET THE “IN” ARROWS = LENDING = SUPPLY 1. Saving
CrM
Fed S I K
Def
MD
MS
Cash
THE “IN” ARROWS = LENDING = SUPPLY
1. Saving
from US Households and Businesses
2. K = Foreign Capital
Borrowed from Other Countries
3. MS = Printed by the Fed
4. MD = From Cash
THE “OUT” ARROWS = BORROWING = DEMAND
1. Investment
Borrowed by US Businesses
2. Def = the Deficit
Borrowed by the Government
$IN = $OUT
Most of these numbers can be positive or negative

4. THE CREDIT MARKET in SUPPLY and DEMAND
To describe a market using Supply and Demand we need to decide:
Price
What is the price? That will go on the y- axis
Supply
Demand
What is the quantity? That will go on the x -axis
What is Demand?
What is Supply?
Quantity

5. THE CREDIT MARKET in SUPPLY and DEMAND The price of credit is …
the interest rate -- i
The quantity of credit is … i
the number of dollars loaned and borrowed. We will use “z”
We can also put X and AD – both of which mean spending -- on the quantity axis. We can do this because the decision to borrow more is almost always the decision to spend more.
Z, X, AD

6. THE CREDIT MARKET in SUPPLY and DEMAND
There is a Demand for Credit. We’ll call it Borrowing. i
L the Supply of Lending
B the Demand for Borrowing
There is a Supply of Credit. We’ll call it Lending.
Z, X, AD

7. THE CREDIT MARKET in SUPPLY and DEMAND
And there is equilibrium in the market. Z0 i0 B
Z, X, AD

8. Now we need the curve shifters
THE CREDIT MARKET in SUPPLY and DEMAND
Fortunately we already have them i L
= S + K + Cash + MS
There are four Supply/Lending shifters: S, K, Cash and MS These are the arrows in to the Credit Market Z0 i0 B
= I + Def
Z, X, AD
There are two Demand/Borrowing shifters: I and Def These are the arrows out of the Credit Market

9. MD and Cash mean the same thing
THE CREDIT MARKET
Credit Demand = Borrowing = “out” arrows
Comparing -- i
REVISED SLIDE
L = S + K MD + MS S K Z0 i0
Credit Market
Def
Cash
MD I
MS
Fed
B = I + Def
Z, X, AD
Credit Supply = Lending = “in” arrows
MD and Cash mean the same thing

10. Whether using the Circular Flow or Supply and Demand, equilibrium in the Credit Market requires that:
S + K + MS + MD = I + Def