WHEN BORROWING
GOES WRONG
THE LOANABLE FUNDS MARKET AND
CROWDING OUT
WHAT COMES TO MIND WHEN YOU
HEAR THE WORD RECESSION?

BUSINESSES CLOSING

LOSS OF JOBS

INCREASE IN POVERTY

LOSING POSSESSIONS LIKE HOUSES AND CARS

NO INCREASE IN GDP

LESS SPENDING FOR BIG TICKET ITEMS
WHAT IS A RECESSION?

TYPICAL DEFINITION IS TWO CONSECUTIVE QUARTERS OF NEGATIVE GDP
GROWTH
WHO IS RESPONSIBLE FOR HELPING
PEOPLE WHEN THERE’S A RECESSION?

THE GOVERNMENT

CHARITIES

CHURCHES

OTHER FAMILY MEMBERS

FRIENDS

PEOPLE SHOULD SAVE FOR UNCERTAINTIES AND BE RESPONSIBLE
FOR THEMSELVES

THE LOTTERY OR LOCAL CASINO
GROSS DOMESTIC PRODUCT = THE TOTAL OUTPUT OF
FINAL GOODS AND SERVICES PRODUCED IN A COUNTRY
WITHIN A GIVEN TIME PERIOD.
FILL IN QUESTIONS 1-5 ON ACTIVTY ONE
WHILE VIEWING THIS VISUAL
FILL OUT QUESTIONS 6-9 ON ACTIVITY
ONE WHILE VIEWING THIS

DURING A RECESSION: CONSUMER INCOME ↓ FEDERAL INCOME
AND TAX REVENUES ↓

PROGRESSIVE INCOME TAX: A TAX THAT IS LARGER, AS A
PERCENTAGE OF INCOME, FOR THOSE WITH LARGER
INCOMES.

FISCAL POLICY TO COMBAT A RECESSION: ↓ INCOME TAXES
↑ GOVERNMENT SPENDING

HOW DOES THE GOVERNMENT IMPLEMENT FISCAL POLICY
WHILE TAX REVENUE IS FALLING?
THE GOVERNMENT BORROWS THE MONEY!
WHAT HAPPENS WHEN THE GOVERNMENT
BORROWS MONEY TO IMPLEMENT FISCAL POLICIES?

THE STUDENTS WILL PARTICIPATE IN A MARKET SIMULATION

1/3 WILL BE FIRMS WHO WANT TO BORROW MONEY TO
INVEST IN CAPITAL FOR THEIR BUSINESSES

1/3 WILL REPRESENT THE GOVERNMENT WHICH WANTS TO
BORROW MONEY TO SPEND AS PART OF THEIR FISCAL
POLICY

1/3 WILL BE BANKS WHO WANT TO LEND MONEY TO FIRMS
AND BANKS

TO KEEP THINGS SIMPLE, ALL BORROWERS WILL TRANSACT
IN $10,000 INCREMENTS
EXAMPLES OF BORROWER AND
LENDER CARDS
You are authorized to
BORROW $10,000, paying
as Low an interest rate as
possible. If you pay more
than 2.6%, you lose
money.
You are authorized to
LEND $10,000, charging
as High an interest rate
as possible. If you charge
less than 2.4%, you lose
money.
SIMULATION RULES

IN THE FIRST ROUND, ONLY FIRMS AND BANKS WILL PARTICIPATE IN THE
SIMULATION. THE GOVERNMENT GROUP SHOULD WALK AROUND AND
OBSERVE THE TRANSACTIONS OCCURRING BETWEEN BUSINESSES AND
BANKS. ANY BORROWER CAN TALK WITH ANY LENDER.

THE GOAL OF BORROWERS IS TO PAY AS LITTLE INTEREST AS POSSIBLE AND
LENDERS IS CHARGE AS MUCH INTEREST AS POSSIBLE.

ALL STUDENTS ARE FREE TO MAKE AS MANY TRANSACTIONS IN A ROUND AS
TIME PERMITS.

ALL TRANSACTION INTEREST RATES MUST BE ROUNDED TO A WHOLE OR A
TENTH OF A PERCENT.
SIMULATION RULES

WHEN A TRANSACTION IS MADE, BOTH THE LENDER AND THE BORROWER
REPORT THE AGREED UPON INTEREST RATE TO THE RECORDER WHO WILL
ENTER IT ON VISUAL 4. STUDENTS SHOULD WATCH THE TALLY SHEET SO THAT
THEY WILL KNOW WHAT INTEREST RATES ARE BEING PAID FOR BORROWING
$10,000.

AFTER A TRANSACTION, STUDENTS SHOULD TURN IN THEIR CARDS AND RECEIVE
NEW ONES, RE-ENTER THE MARKETPLACE, AND RESUME MAKING
TRANSACTIONS. IT IS IMPORTANT THAT STUDENTS RECEIVE A NEW CARD AFTER
EVERY TRANSACTION. [NOTE: YOU MAY WISH TO ASSIGN TWO STUDENTS TO
HANDLE THE DISTRIBUTION AND COLLECTION OF THE BORROW AND LEND
CARDS DURING THE GAME, AND ANOTHER STUDENT TO RECORD EACH
TRANSACTION ON THE CLASS TALLY SHEET (VISUAL 2). BORROW AND LEND
CARDS SHOULD BE KEPT IN SEPARATE PILES AND SHUFFLED BETWEEN EACH OF
THE ROUNDS.]
SIMULATION PROCEDURES

ASSIGN ROLES, PROVIDE A SET OF COLORED STICKERS TO LENDERS AND A
DIFFERENT COLOR STICKER TO BORROWERS (THE GOVERNMENT CAN GO
WITHOUT). HANDOUT ACTIVITY 2 TO EACH STUDENT AND REVIEW THE
PROCEDURES FOR COMPLETING THE SCORE SHEET.

CLEAR A LARGE AREA IN THE CLASSROOM AND DESIGNATE IT AS THE LOANABLE
FUNDS MARKETPLACE.

EXPLAIN THAT YOU WILL CONDUCT FOUR ROUNDS OF TRADING LASTING FIVE
MINUTES EACH. ANNOUNCE WHEN ONE MINUTE REMAINS IN EACH ROUND.

ENCOURAGE STUDENTS TO MAKE AS MANY DEALS AS THEY CAN IN THE TIME
PERMITTED. REMIND STUDENTS THAT IT IS PERMISSIBLE TO TAKE A LOSS IN
ORDER TO GET A NEW TRANSACTION CARD.
SIMULATION PROCEDURES

DISTRIBUTE A LEND CARD TO EACH LENDER AND A BORROWER CARD TO EACH
BUSINESS BORROWER. REMIND GOVERNMENT BORROWERS TO SIMPLY OBSERVE
TRANSACTIONS DURING THE FIRST TWO ROUNDS.

REMOVE ENOUGH BORROW CARDS FROM THE DECK TO GIVE EACH
GOVERNMENT BORROWER A CARD AT THE BEGINNING OF ROUND THREE. MAKE
SURE YOU RETAIN SOME OF THE HIGH RATE BORROWING CARDS. IF YOU GIVE
THEM ALL THE LOW RATE CARDS, THE SIMULATION WON’T WORK.

AT THE END OF EACH OF THE FIRST TWO ROUNDS, ASK STUDENTS TO
CALCULATE THEIR INTEREST RATE GAINS AND/OR LOSSES FOR EACH
TRANSACTION.

AT THE END OF THE SECOND ROUND, ASK THE PERSON KEEPING THE TALLIES
ON VISUAL 4 TO ADD UP THE NUMBER OF TRANSACTIONS AT EACH INTEREST
RATE.
SIMULATION PROCEDURES

DISTRIBUTE THE BORROW CARDS YOU REMOVED FROM THE DECK TO ALL THE
GOVERNMENT BORROWERS. REMIND THE GOVERNMENT BORROWERS THAT
THEY WANT TO BORROW AT THE LOWEST POSSIBLE INTEREST RATE. RUN
ROUNDS THREE AND FOUR FOLLOWING THE SAME PROCEDURES.

AT THE END OF THE FOURTH ROUND, ASK THE PERSON KEEPING THE TALLIES
ON VISUAL 4 TO ADD UP THE NUMBER OF TRANSACTIONS AT EACH INTEREST
RATE FOR ROUNDS 3 & 4.
FOLLOW-UP QUESTIONS

COMPARE THE RESULTS OF ROUNDS 1 & 2 TO THOSE OF ROUNDS 3 & 4. WHAT DO YOU NOTICE?
MORE LOANS WERE TRANSACTED AND THAT THE INTEREST RATES TENDED TO BE HIGHER FOR
ROUNDS 3&4.

WHY DID THESE DIFFERENCES OCCUR?
THERE WAS MORE COMPETITION FOR THE SAME AMOUNT OF LOANABLE FUNDS AND THAT THE
GOVERNMENT BORROWERS TENDED TO BE WILLING TO PAY A HIGHER INTEREST RATE TO GET THE
LOANS.

AT WHAT INTEREST RATE WAS $10,000 MOST FREQUENTLY SOLD IN EACH ROUND?

IN WHICH ROUND DID THE GREATEST SPREAD IN INTEREST RATES OCCUR?

WHY DID THE INTEREST RATES BECOME MORE CLUSTERED IN LATER ROUNDS?
COMPETITION AMONG BORROWERS AND LENDERS BASED ON GREATER INFORMATION IS THE MOST
IMPORTANT CAUSE. MARKETS TEND TO MOVE TOWARD AN EQUILIBRIUM INTEREST RATE AS
BORROWERS AND LENDERS OBTAIN INFORMATION ABOUT THE QUANTITY OF LOANS AVAILABLE AT
DIFFERENT INTEREST RATES.