[User] Please transcribe this text

[Assistant] So, here is my model answer to this question. In very simple terms, the supply chain is a system that involves organizations, people, resources, activities and information that are all involved in the process of moving a product or service from the supplier to the customer.


[User] Please transcribe this text

[Assistant] Now with a supply chain, there are usually an entire network of different entities that are all interlinked, working towards serving the same consumer or customer. So an example of a very simple supply chain is where a vendor supplies a raw material


[User] Please transcribe this text

[Assistant] A producer then turns that material into a product. A warehouse then stores the product


[User] Please transcribe this text

[Assistant] A distribution center delivers the product to the retailer, who then in turn delivers it to the consumer or the end user.


[User] Please transcribe this text

[Assistant] Demonstrate you have a thorough knowledge of what a supply chain is and how important it is.


[User] Please transcribe this text

[Assistant] So the effective operations of an organization. So I've highlighted in red the key different entities of a supply chain. So you need to build your answer around those. Okay. Next question of your supply chain interview. Why have you chosen to work for our company in this position within supply chain?


[User] Please transcribe this text

[Assistant] So it is a standard question, pretty much guaranteed to come up during your supply chain interview. Why do you want to work for our company? Here's my suggested answer.


[User] Please transcribe this text

[Assistant] I have applied to work for your company for three specific reasons. The first reason is because you are a leader within this industry. I know that I'll be supported in my role to carry out my duties to the highest standards possible.


[User] Please transcribe this text

[Assistant] Because you have lots of positive employee reviews on the website Glassdoor.com.


[User] Please transcribe this text

[Assistant] I think anyone would find you attractive as an employer. Finally, looking at your latest news section on your website.


[User] Please transcribe this text

[Assistant] You are clearly an employer who has exciting and ambitious plans for the future. And on that basis, I would love to work for you.


[User] Please transcribe this text

[Assistant] Simply because you're obviously striving to be the best you can be, and you see your workforce as a core element of your future plans and success. I like that answer because you're focusing on three specific things.


[User] Please transcribe this text

[Assistant] The majority of people at the supply chain interview who you are competing with


[User] Please transcribe this text

[Assistant] We'll only come up with one reason, but you are giving three valid reasons why you want to work for their organizations. The first one is that you'll be supported to carry out your duties to the highest standards possible. The second one is that on the website Glassdoor, there are lots of positive employee reviews, which proves it's a great place to work.


[User] Please transcribe this text

[Assistant] So I have two more questions to run through, so please do stick around. They're tough ones, but I'll give you some great answers to them. But when you're ready, click the link in the top right hand corner of that


[User] Please transcribe this text

[Assistant] So we've got to be careful when answering this question. Let me repeat it. Tell me one thing you like the most about supply chain and one thing you dislike. So you can't say,


[User] Please transcribe this text

[Assistant] I don't like any, you know, there's nothing I dislike. I like everything about it, because that's not true. There will be some things within any role that you dislike, but we have to be careful what we say here. So here's my great answer to this question. That's a good question.


[User] Please transcribe this text

[Assistant] The one thing I like the most about working in supply chain is the fact you get to work with so many different companies, people and organizations to build up long-term positive relationships that everyone can benefit from.


[User] Please transcribe this text

[Assistant] The sheer nature of supply chain means if one thing goes wrong…


[User] Please transcribe this text

[Assistant] You'll come across either a supplier, a manufacturer or a distributor


[User] Please transcribe this text

[Assistant] Who doesn't have the same drive, the standards or expectations as yourself? And obviously this is frustrating because it can impact on your own operational capabilities. Having said that, it is situations like this where I believe my strengths and my interpersonal skills lie.


[User] Please transcribe this text

[Assistant] I enjoy a challenge and I will always go out of my way to get things sorted quickly in order to keep the supply chain active and negate any negative impact on my employer or their operations.


[User] Please transcribe this text

[Assistant] That's a good answer, because you are saying there is one thing that you dislike, which anybody would dislike that thing where you're


[User] Please transcribe this text

[Assistant] Waiting on a manufacturer, supplier or distributor, they let you down, but you are building up


[User] Please transcribe this text

[Assistant] When you disagreed with your manager or supervisor. Now, this is a common question during supply chain interviews because you may find yourself in a disagreement with your manager


[User] Please transcribe this text

[Assistant] In respect of how to handle a particular part of the supply chain, because when there are problems within supply chains, it can cause pressure and somebody has to make a decision.


[User] Please transcribe this text

[Assistant] So we have to be very careful how we answer this question, but we have to give a specific time where you've disagreed. So here is my great answer to this question.


[User] Please transcribe this text

[Assistant] In a previous supply chain role, we encountered a situation where a manufacturer


[User] Please transcribe this text

[Assistant] I approached my manager and suggested we should start to look for an alternative supplier as soon as possible to ensure the supply chain was not affected. My manager disagreed with me.


[User] Please transcribe this text

[Assistant] And stated we should stick with them and give them the opportunity to turn things around.


[User] Please transcribe this text

[Assistant] Now although I disagreed with him, I respected his decision, but I also started to explore other manufacturers in my spare time, just in case he changed his mind and he gave me the go ahead to look for someone else.


[User] Please transcribe this text

[Assistant] As it transpired, my manager was right and the manufacturer sorted things out.


[User] Please transcribe this text

[Assistant] I felt I dealt with the situation correctly and I would always raise any concerns if I felt it could impact negatively on the supply chain and ultimately our operations. So that shows that you're respectful. But more importantly, you're not afraid to speak out. And what I also like about that answer is you are taking the initiative


[User] Please transcribe this text

[Assistant] To do the work in your spare time to look for another manufacturer just in case you need them and your manager changes his or her mind. So that's a great answer. So don't forget, if you'd like to download my full supply chain interview questions and answers to pretty much guarantee you pass your supply chain job.


[User] Please transcribe this text

[Assistant] Interview, please click the link below this video or go to my website, PassMyInterview.com. I hope you enjoyed those top-scoring answers. Please SUBSCRIBE and also please LIKE the video. I very much appreciate that. Thank you for watching and I wish you all the best for passing your supply chain interview. Have a brilliant day!


[User] Please transcribe this text

[Assistant] I think of it like they're sending messages to your body parts and telling them what to do. Move your mouth and speak.


[User] Please transcribe this text

[Assistant] About two years ago, my dad was going through all of our old stuff and he found this paper from my high school theater class. Teacher said, write down what you look for in a significant other. Like in high school, why are you asking teenagers that? But it's so funny because


[User] Please transcribe this text

[Assistant] And of course my dad ran to show step and look at this. It said in capital letters at the bottom, no athletes. They're jerks.


[User] Please transcribe this text

[Assistant] I've known Stefan since I was 14. He was the hot guy in church. Like all the girls had a crush on him.


[User] Please transcribe this text

[Assistant] I was really tiny and little and a little a tad bit introverted through my high school years. Uhm, and so I, that was never even an option to me. First of all, I wasn't even allowed to date.


[User] Please transcribe this text

[Assistant] I put all the jobs that I booked this show and shot like one season of this show.


[User] Please transcribe this text

[Assistant] You wanna hang out? And I was like, uuuh. Because I always noticed like my friends and stuff that were in relationships in high school with the jocks.


[User] Please transcribe this text

[Assistant] 3X, white tee, and probably some XL, khaki pants, cargos with the pockets.


[User] Please transcribe this text

[Assistant] Uhm, and that was it. We like, spent the evening being silly, eating candy, looking in cop cars to see if they actually had donuts in their front seat. It was like we had been best friends forever, and he was THE nicest person.


[User] Please transcribe this text

[Assistant] It's so funny because I felt like I was missing out on so much those three weeks I was gone.


[User] Please transcribe this text

[Assistant] But it gave me a good sense of how Stefan probably feels when he's on the road.


[User] Please transcribe this text

[Assistant] He was a dynamic player, a really good human being. You could picture him leading.


[User] Please transcribe this text

[Assistant] But he had injuries, and I think that's what made it hard for him and us to figure out the right number. He actually was injured while we were negotiating it.


[User] Please transcribe this text

[Assistant] But we just thought he'd come out of it in some way shape or form. Uh, we bet on him. I always like to say we bet on the human being to overcome it.


[User] Please transcribe this text

[Assistant] And when I say unwavering, I've actually never seen him lose confidence.


[User] Please transcribe this text

[Assistant] There's been around some people that are highly successful and they have had moments where they question their ability. He's in the public spotlight. He's got one of the highest levels of scrutiny you're going to face in an occupation. And he keeps believing in himself.


[User] Please transcribe this text

[Assistant] I give up. Hey, what's the matter, Bing? I can't get the lid off this jar. It's like, it's like it's glued on or something.


[User] Please transcribe this text

[Assistant] Standard, uh, financial theory course that was made popular over the last ten years in a bunch of business schools where they, and those guys who developed this material basically thought that markets were great.


[User] Please transcribe this text

[Assistant] And it was, finance was almost a separate part to be walled off from much of economics.


[User] Please transcribe this text

[Assistant] So here at Yale, we've never taught finance that way. We've always taught it as a part of economics.


[User] Please transcribe this text

[Assistant] And the crisis recently, I think, has made it clear that that's probably the way one should really think about the problem.


[User] Please transcribe this text

[Assistant] So it's become very fashionable now to say that, you know, financial theorists had everything all wrong and


[User] Please transcribe this text

[Assistant] To ask how it is that they got everything all wrong, why didn't they anticipate the crash? And the two standard critiques of, uh, standard financial economics.


[User] Please transcribe this text

[Assistant] R, A, it didn't allow for, uhm, psychology, and you'll hear about that from Schiller next semester. And B, it didn't take into account collateral, and it was all done in a very special case.


[User] Please transcribe this text

[Assistant] Uh, a knife edge case. And that's what, and that if you looked at it a little bit more broadly, you would see, you would, you would reach in, you, you would realize that the kind of crisis we've had now is not such an unfathomable thing. In fact, it's happened many times before. So that's the perspective I'm gonna take in this class. So to put it a different way,


[User] Please transcribe this text

[Assistant] Krugman, very recently, in the New York Times, he may have read his magazine article.


[User] Please transcribe this text

[Assistant] Uh, wrote exactly that, that there are two problems, maybe, that, you know, that financial theory has failed us. Why has it failed us? Well, because it didn't have psychology, and it didn't have collateral. And, uh, he didn't talk much about the collateral, which is obviously something he's not thought very much about before, but together with the collateral, he sort of said, you know, it's, uh, too much, uh, how did he put it? He said,


[User] Please transcribe this text

[Assistant] Uh, chorus is going to be partly based on collateral.


[User] Please transcribe this text

[Assistant] The rest of what Krugman said I completely disagree with. I regard that as a kind of Taliban approach.


[User] Please transcribe this text

[Assistant] To economics, you know, the more technology and firepower you use.


[User] Please transcribe this text

[Assistant] Return to first principles. So I think in fact the problem with modern finance is not too much mathematics, but too little mathematics. And they made these very special simplifying assumptions and didn't realize how important the assumptions were to the conclusions.


[User] Please transcribe this text

[Assistant] So we're going to re-examine all that and that's what we're starting at now. We're going to consider first of all the arguments that free markets work best. So we started with a little example.


[User] Please transcribe this text

[Assistant] Uh, oh, by the way, the first problem set, if I didn't mention it, is due Tuesday, so you need to bring it to class, and we'll have, and you can turn it into each of, there'll be a box with each of your section leader's names on it, so, supposedly you've been able to sign up for sections by now, is that right?


[User] Please transcribe this text

[Assistant] Anyway, it's on the web, so you pick a section and sign up for it. You know, if you wait too long, your section will fill up the time.


[User] Please transcribe this text

[Assistant] So there are eight sections, you ought to be able to find one of them that fits your schedule.


[User] Please transcribe this text

[Assistant] And you need to turn it on, on Tuesday in class, by the end of class. You know, maybe you can scribble something during the class. But by the end of the class, we're gonna take the problem sets, and after that it's too late to hand them in.


[User] Please transcribe this text

[Assistant] You know, that's what life is, and it's just too complicated to keep track of people handing them late all the time. The answers are going to go on the web right after the class, and so it's just


[User] Please transcribe this text

[Assistant] In the past, you know, we negotiated with every person who was late and it's just too complicated and when you make a simple rule,


[User] Please transcribe this text

[Assistant] That's gonna have some effect on your grade, and so I don't encourage you to do that, but I'm sure you won't do that.


[User] Please transcribe this text

[Assistant] Okay, so, I think that's all the preliminaries. There are two midterms, one in the middle of the class and one right at the end. Anyway, the question we want to


[User] Please transcribe this text

[Assistant] And the quintessential example in which it is a great idea is the one we did in class on the very first day. We had a bunch of football tickets.


[User] Please transcribe this text

[Assistant] Was, there were two important rules. You had to announce publicly and loudly what price you were offering. That's very important. You don't have any secret deals. That would have screwed everything up.


[User] Please transcribe this text

[Assistant] And, you know, so there was, uh, one of the TAs stood by and wrote it down and the two people exchanged the footballs and, you know, agreed to it and walked off stage.


[User] Please transcribe this text

[Assistant] The actual mechanics of the transaction, uh, you know, to make sure that the person turning over the money actually gets the football ticket, that of course is incredibly important.


[User] Please transcribe this text

[Assistant] And that's the thing that gets left out often in finance. That's the collateral business that we're gonna come to later. How do you know that the guy's actually gonna pay you what he promises? Well, he's gotta put up collateral so that you can trust him.


[User] Please transcribe this text

[Assistant] So we're gonna, so without that there would have been a big problem and we're going to come talk about that later. In the old days when you bought a stock,


[User] Please transcribe this text

[Assistant] Someone on a bicycle would carry the certificate, you know, from one, uh, place, you know, someone would carry the check.


[User] Please transcribe this text

[Assistant] From one guy to another guy and the person, then the bicyclist would get off his, you know, would get the stock certificate and ride the bike back to the buyer. So it was a, you know, one broker to another broker that caught, you know, sometimes it took a couple of hours. So there was a spacing in between when the guy gave over the money and when the guy got the stock back.


[User] Please transcribe this text

[Assistant] And, uh, you know, you have to allow for that. Maybe it would take a couple days to process on everybody's books. So there's a thing called ex-dividend. When you buy a stock...


[User] Please transcribe this text

[Assistant] These people, everybody just knew their own valuation, not anybody else's valuation, and chaos ensued, hardly any rule, and miraculously, almost instantly, within less than two minutes, they figured out what to do, and they, uh, managed to get the football tickets into the hands of the people who liked them the most. And I'm gonna just say that slightly more mathematically.


[User] Please transcribe this text

[Assistant] You could model what everybody did as having a utility function, uh, for football tickets.


[User] Please transcribe this text

[Assistant] Okay, so the top person, Mr. 44, gets utility of 44 for having one ticket, and tickets beyond that don't give him extra any utility, just, you still utility 44.


[User] Please transcribe this text

[Assistant] Similarly, Miss Six there at the bottom, she had Utility Six for a football ticket.


[User] Please transcribe this text

[Assistant] There's also money in the background. So the, the welfare function depended on the football tickets and money and was ux plus m.


[User] Please transcribe this text

[Assistant] And why does that capture what went on? Because Mr. 44, knowing that the football ticket's worth 44, he would say to himself, should I get a ticket or not get a ticket? Well, if the price is under 44, the amount of money he gives up and loses is going to be less than the amount of utility he gains for the football ticket. So therefore, he'll buy the ticket. So this utility function, ux plus m, captures the idea, you know, represents


[User] Please transcribe this text

[Assistant] The conclusion is that the football tickets are going to end up in the hands of the people who like them the best.


[User] Please transcribe this text

[Assistant] So what does that mean? That means that in equilibrium,


[User] Please transcribe this text

[Assistant] Okay, now what does that mean? Well, if you, each person i has a different utility function.


[User] Please transcribe this text

[Assistant] Okay, and so if you add up over all the people I, you get the total welfare of every single person, the economy's total welfare, and it's


[User] Please transcribe this text

[Assistant] I'm now about to prove, but it should be obvious that total welfare is maximized at that equilibrium that you actually found in class, almost.


[User] Please transcribe this text

[Assistant] Tiny deviation from the theory. Nobody made a mistake, by the way. You know, I think I've mentioned this many times. I've done this experiment before, and you know, Mr., uh,


[User] Please transcribe this text

[Assistant] Let's say Mr. 12 gets so upset that he can't buy any ticket, he's standing there with


[User] Please transcribe this text

[Assistant] As the theory predicted, so let's just think of the theoretical outcome. In the theoretical outcome, where the price is 25 and those top 8 people have it, that final allocation maximizes total welfare. Why is that? Well, whatever the money distribution was, you couldn't change total welfare because if I gives up some of his money,


[User] Please transcribe this text

[Assistant] So therefore to maximize welfare, all you have to do is maximize the sum of, you know, you have to put the football tickets in the hands of the people who want them the most. That's going to maximize welfare.


[User] Please transcribe this text

[Assistant] That maximizes the sum of the ui of x's, and rearranging the m's doesn't matter.


[User] Please transcribe this text

[Assistant] So we found in equilibrium that equilibrium maximized total welfare. So that was the original argument for why equilibrium was such a great idea.


[User] Please transcribe this text

[Assistant] The greatest good to the greatest number became mathematical, it maximizes the sum of welfare, so the sum of utilities, they called it. Okay, that was the utilitarian, utilitarian view of economics. Utilitarian view. Okay, and that's sort of the view that was prevailed in 1871.


[User] Please transcribe this text

[Assistant] Alright, now they made one generalization from that we found before, which is that if you think of not eight different buyers, but one buyer, or maybe two different buyers, you know, who's, where the utility functions


[User] Please transcribe this text

[Assistant] Are this concave function, so they're ui of x plus m, where ui of x, ui of 1 could be 44, and ui of 2 could be 44 plus 40, which is 84.


[User] Please transcribe this text

[Assistant] A consolidated person would behave exactly like, uh, the individual people.


[User] Please transcribe this text

[Assistant] Buy as many tickets as they would collectively, uhm, and so nothing would change. The football tickets would still end up in the hands of the people who wanted them the most. Maybe it would be one guy who held three tickets instead of three different people, but the tickets would still be in the hands of the highest valuation holders, and so you would get exactly the same conclusion. One last lesson from that example is that the price


[User] Please transcribe this text

[Assistant] Turned out to be, have nothing to do with the total value of football tickets. The price turned out to be equal more or less to what the marginal buyer and the marginal seller thought it was worth. So Mr. 26 and Ms. 24, they're the ones who controlled the price. What 44 thought was totally irrelevant.


[User] Please transcribe this text

[Assistant] So that was why it was called the marginal revolution in economics. So Adam Smith, who was so puzzled


[User] Please transcribe this text

[Assistant] And diamonds are so useless really when it comes down to it and they have such a high price.


[User] Please transcribe this text

[Assistant] The answer to this puzzle is simply, yes, water at the beginning, you know, Miss 44 would be 44,000, whereas if we had a same model for diamond, uh, sorry.


[User] Please transcribe this text

[Assistant] Uhm, in the first class and now we want to generalize this to a much, uhm, more sophisticated model


[User] Please transcribe this text

[Assistant] And one, but one you can still compute very easily, and we're gonna see how these special assumptions don't quite work so well. Uh, okay, so.


[User] Please transcribe this text

[Assistant] Okay, uhm, so her question is, I said very quickly, which you'll see later,


[User] Please transcribe this text

[Assistant] I pressed the button too soon. If I press down and it's half way up, does that just break the whole thing or? Anyway. Okay, so her question is,


[User] Please transcribe this text

[Assistant] If I have two people, Mr. 44 and Mr. 40, I'm taking the buyers to be he's and the sellers to be hers, I have two, two guys, 44 and 40, and I set any price,


[User] Please transcribe this text

[Assistant] Uh, if the price is above 44, neither of them will want to buy. If it's between 44 and 40, just Mr. 40 will buy. If it's below 40, both of them will buy. Now suppose instead, but each of those guys is only interested in one ticket.


[User] Please transcribe this text

[Assistant] Whose utility u, you know, k of 1 is 44 and uk of 2 is 84. 44 plus 40.


[User] Please transcribe this text

[Assistant] So that person now is a, is a bigger guy, uh, he's interested in more tickets, that's what I mean by bigger, he's going to behave himself exactly the same way the other two separate people behave collectively. So if the price is above 44, he won't buy either ticket.


[User] Please transcribe this text

[Assistant] Because if it's above, if it's 50 and he buys one ticket, he'll have lost 50 and he'll have gained 44 in utils. So he will have been worse off than when he started. He certainly won't buy two, he'll be even worse off. If the price is between 44 and 40, he'll say to himself, this is a marginal revolution, if I buy the first ticket, I pay...


[User] Please transcribe this text

[Assistant] Uh, 42, and I get 44 out of it, so I've gained two u-dialed, but now if I think about buying a second ticket,


[User] Please transcribe this text

[Assistant] You know, the first few, maybe the first 20 gallons I drank, I needed more than, than, uh, you know, your first gallon, and after that...


[User] Please transcribe this text

[Assistant] Any other questions before I raise the thing again?


[User] Please transcribe this text

[Assistant] Alright, so that sounds all very convincing, but it's not going to turn out to be quite so convincing. So let's try and generalize this model to a more sophisticated thing.


[User] Please transcribe this text

[Assistant] And so I'm following an example which is in the notes. You'll find that most, you know, if you read the notes, uhm,


[User] Please transcribe this text

[Assistant] You know, oh, so the textbook, because the approach I take.


[User] Please transcribe this text

[Assistant] You know, and that we taking Yale is quite different from the standard approach.


[User] Please transcribe this text

[Assistant] You're not going to be able to follow a textbook. That's why I give you a whole list of textbooks. I encourage you to read them. They're great books. They're famous people. Most of them are quite good friends of mine. So I endorse them all, but they're differently presented than this course. And that's why I, you need to rely on the notes a little bit.


[User] Please transcribe this text

[Assistant] But they're going to be continuous. You don't have to have just one football ticket or two football tickets. We have two goods which we're going to call X and Y.


[User] Please transcribe this text

[Assistant] Of x and y, that's the welfare function like we had before. Okay, is going to be uhm, whatever I had, 100x minus 1 half x squared plus y.


[User] Please transcribe this text

[Assistant] And I'll, and now the endowments of good, which I was a little bit uhm,


[User] Please transcribe this text

[Assistant] Fast and loose about before, E A of X, E A of Y. So I'll call that the endowment of A. Okay, how much he has to begin with of X and Y, I say is four and five thousand.


[User] Please transcribe this text

[Assistant] His welfare function, or let's say his and her welfare function is 30x minus one half x squared.


[User] Please transcribe this text

[Assistant] Okay, so this is supposed to be shorthand for an economy in which there


[User] Please transcribe this text

[Assistant] Thousands of people, millions of people, every person characterized by the utility they get, the goals they have over the consumption goods.


[User] Please transcribe this text

[Assistant] And they're starting endowment, and they're all going to be thrown together and expected to trade.


[User] Please transcribe this text

[Assistant] Another example, we can do one more example, another example let's say.


[User] Please transcribe this text

[Assistant] And meanwhile, I have another person, d of x and y, down to two-thirds.


[User] Please transcribe this text

[Assistant] Okay, and of course I could have had an economy in which they were all there at the same time, but I'm gonna just keep them, do two examples. So, you see the economy consists of many people, many goods maybe, many people, and uh,


[User] Please transcribe this text

[Assistant] Each with different endowments and different utilities. If you throw them all together, what's going to happen?


[User] Please transcribe this text

[Assistant] Okay, and so we have a theory now, a theory of equilibrium that explains what happens. And we can use that, a few tricks, which I'm going to teach you now.


[User] Please transcribe this text

[Assistant] To actually solve concretely for what's going to happen in each of these cases is very simple.


[User] Please transcribe this text

[Assistant] And of course we haven't, and the next step is going to be to add finance to it and financial variables, but at the bottom we still want to have economic variables. See, here we've got the consumption of two different goods, x and y. Okay, we want to see what's going to happen. Alright, so, equilibrium is always defined by turning things into equations. So we said the equations here are going to be


[User] Please transcribe this text

[Assistant] xB and yB. That's what everybody has to decide. In the end,


[User] Please transcribe this text

[Assistant] A has to decide, the prices have to emerge for X and Y, we're assuming again that these people, by the way when I have one agent A and one agent B, I really mean there's a million agents just like A and a million agents just like B and they're all shouting and screaming at each other and they're in some kind of market.


[User] Please transcribe this text

[Assistant] So if there's only one agent of each type, there'd be, you know, bargaining and threats and be very complicated. But with lots of people of each type, that's what I'm talking about. So in our football player example, there were, football ticket example, there were 16 people competing with each other and you don't really need much more than


[User] Please transcribe this text

[Assistant] Three or four or five on a side, uhm, at least four to get


[User] Please transcribe this text

[Assistant] So with enough competition the theory says the prices are going to emerge and people are going to look at the prices and decide


[User] Please transcribe this text

[Assistant] How much they want to buy? What do they want to end up consuming? So A has to make his decisions and B has to make her decisions.


[User] Please transcribe this text

[Assistant] And, uh, so, those are the endogenous variables, the exogenous variables.


[User] Please transcribe this text

[Assistant] Where all of the, you know, eighty, a thousand, one half, you know, one times y, a hundred times x, all those numbers are, are exogenous. The utility functions of the endowment are exogenous. So these are all the exogenous things.


[User] Please transcribe this text

[Assistant] The, uh, theory is going to say, how do you go from exogenous to endogenous? And it's going to be just a bunch of equations. So what do they each want to do? So A is going to maximize, uhm, wA of x.


[User] Please transcribe this text

[Assistant] And y, such that, as we said, the critical insight, the budget constraint, was py of y less than or equal to, uhm, px times eax.


[User] Please transcribe this text

[Assistant] Theory says this, it's very shocking, but it says A takes it for granted that she, that he can sell all of his endowment if he wanted to, four units of x and five thousand units of y, and get, uh, the money from doing that, and use the money to spend on his final consumption, let's call this xA and y, on his final consumption of, uh, x, of xA and, and yA. So let's call this, let's leave out the As here for a minute, because those are the


[User] Please transcribe this text

[Assistant] Uhm, choices he has. He wants to max over x and y.


[User] Please transcribe this text

[Assistant] There are many possibilities that have to satisfy this budget constraint. And similarly Y is going to be maximizing, uh,


[User] Please transcribe this text

[Assistant] Pxx plus Pyy less than or equal to Px times 80.


[User] Please transcribe this text

[Assistant] P y times a thousand, I think I remember the numbers finally. Okay, so.


[User] Please transcribe this text

[Assistant] And now what we want to do is we want to solve for these variables.


[User] Please transcribe this text

[Assistant] So that when a taking px and py is given maximizes his utility function he'll choose xa and xb and b will choose ya and yb such that demand equals supply. Okay, and so I'm going to write, uhm, over here maybe.


[User] Please transcribe this text

[Assistant] Demand equals supply. So we know that in the end, so the choices


[User] Please transcribe this text

[Assistant] So whatever these choices are, they're going to lead to him choosing XA and YA.


[User] Please transcribe this text

[Assistant] Alright, so those are two of the equations, supply is equal demand, and what are the, and now let's just do a little trick here to get some of the other equations.


[User] Please transcribe this text

[Assistant] A is going to spend all his money. What's the point in not spending money? Because the more x he has and the more y he has, certainly the more y he has, the better off he is. He's not going to waste money. So this is going to turn out to be an equality here. Okay, so that's actually an equation, not just a variable. So px times xA, now the actual solution, plus, uhm,


[User] Please transcribe this text

[Assistant] That's an equation, and then similarly, y, she's not going to waste her money, she's going to spend it all if she's optimizing, so this will turn into an equality, and so this will give p y, p x,


[User] Please transcribe this text

[Assistant] And now we have to do the marginal equation, the crucial marginal equation. So what does that say? That says


[User] Please transcribe this text

[Assistant] Okay, we talked about this last time, you've all seen it before so I can go quickly, but this was the critical insight that took years to develop. Marx couldn't figure it out till his dying day. He was trying to understand what these marginalist guys were doing. And so, you know, so the idea is that


[User] Please transcribe this text

[Assistant] The margin, if you've optimized by choosing XA and XB, if he's optimized by choosing XA and XB, it has to be that the last dollar he spent


[User] Please transcribe this text

[Assistant] He was indifferent between where he spent it, otherwise he would have moved the dollar from one thing to the other thing. So it has to be that the margin utility of X, okay, at XA and YA, divided by the price of X, what is that? What's the margin utility of X?


[User] Please transcribe this text

[Assistant] It's a hundred minus, that's the derivative of x, a hundred minus two times a half a hundred minus x.


[User] Please transcribe this text

[Assistant] Okay, it has to equal the marginal utility


[User] Please transcribe this text

[Assistant] Equals the marginal utility of, uh, a, of y.


[User] Please transcribe this text

[Assistant] Margin utility of y is just one, the derivative of y is one.


[User] Please transcribe this text

[Assistant] Okay, and then we have to write the same thing for B, the margin utility.


[User] Please transcribe this text

[Assistant] Divided by px. Not very good board management.


[User] Please transcribe this text

[Assistant] Uh, has to equal, and this is also going to turn out to be...


[User] Please transcribe this text

[Assistant] Does this make sense to everybody? I think I need to pause for a minute. I'm going to do exactly the same thing with that other system, but let's just see if we can figure this out. Okay, that uhm, you always write


[User] Please transcribe this text

[Assistant] So, equilibrium is this very involved thing. What everybody does depends on what everybody else is going to do. Because how much you pay for something depends on how much you think you can get it by offering it to some other guy.


[User] Please transcribe this text

[Assistant] So you have to think about what the other people are doing before you can decide what to do yourself. All that is captured by the idea of the prices. Somehow people get into their minds what the best deal they can get is, that's the prices, Px and Py. Given those prices,


[User] Please transcribe this text

[Assistant] Each agent looks at his budget set or her budget set and decides what to do. And what should they do? They should, uhm,


[User] Please transcribe this text

[Assistant] Equate marginal utilities. That's the key insight. The marginal utility per dollar of x has to equal the marginal utility per dollar of y. That just says that the budget set is tangent to the indifference curve.


[User] Please transcribe this text

[Assistant] x over marginal utility of y, and the slope of the budget set is px over py.


[User] Please transcribe this text

[Assistant] So if I just put the px down here and the marginal utility up there, that just says the marginal utility of x divided by px equals the marginal utility of y divided by py. That's something that


[User] Please transcribe this text

[Assistant] You could waste a huge amount of time on, I don't have to do it because I know that you all have seen it before and the one guy who hasn't seen it before, uhm, is, you know, gonna figure it out himself.


[User] Please transcribe this text

[Assistant] So, okay, so we have a tremendous advance here. I can just skip over that immediately and make use of that factor. Okay, so that's the critical insight. You've taken this incredibly complicated system and reduced it to a bunch of equations, which you can put on a computer, which is what I'm about to do, and solve it with the flick of a button. Okay, and uhm,


[User] Please transcribe this text

[Assistant] So are there any questions here? Let me pause again with how I got these equations.


[User] Please transcribe this text

[Assistant] Okay, so it's a little bit complicated, but of course once you've understood it, it's not so complicated.


[User] Please transcribe this text

[Assistant] It reminds me a little bit, now who first thought of all this stuff?


[User] Please transcribe this text

[Assistant] The amazing thing is incidentally, these equations always have a solution. You know, if you take typical equations in any field, you know, physics, mathematics, you know, just random equations,


[User] Please transcribe this text

[Assistant] You know, they're not gonna be solvable. I mean, x squared plus one equals zero. That's just one equation. Doesn't have a solution. And if you have simultaneous equations, why should there be a solution?


[User] Please transcribe this text

[Assistant] The economic system always has a solution. This is an astonishing fact, first proved


[User] Please transcribe this text

[Assistant] Uh, by Arrow, my thesis advisor, Debreu, who did it at Yale as an assistant professor and didn't get tenure and later won the Nobel Prize.


[User] Please transcribe this text

[Assistant] And, uh, this has happened several times at Yale. Arrow, Debru, and, uhm, and McKenzie, all separately, although these two guys ended up writing a joint paper. Anyway, uhm,


[User] Please transcribe this text

[Assistant] They found that this system always, always has a solution. There's something special about the economic system that has a solution that has to do with diminishing marginal utility, which we're not going to talk about in this class, but quite a fascinating thing. And they based their argument on an argument that Nash


[User] Please transcribe this text

[Assistant] had given, uh, for gains. And this whole thing is very related to Nash equilibrium.


[User] Please transcribe this text

[Assistant] And I'm sure you've heard of Nash, and many of you have maybe seen the movie, uh, A Beautiful Mind.


[User] Please transcribe this text

[Assistant] Well, about five years ago, shortly, you know, a couple years after the movie came out, uhm, Nash is still very much alive.


[User] Please transcribe this text

[Assistant] Ever so slight, you know, not quite as wacky as it used to be. And so the Indian Game Theory Society opened. It was founded.


[User] Please transcribe this text

[Assistant] Believe it or not, just five years ago, despite all the brilliant Indian economists,


[User] Please transcribe this text

[Assistant] The Game Theory Society was founded about five years ago and they had an opening conference where, uhm, six people


[User] Please transcribe this text

[Assistant] Gave talks, including Nash. I was one of the people who gave a talk. And uhm,


[User] Please transcribe this text

[Assistant] So afterwards we went on tour to, uh, you know, traveling to a bunch of different cities, and every city we went to, we'd get off the


[User] Please transcribe this text

[Assistant] The, uh, you know, the train or the limousine or something. There'll be a flong of people there waiting to meet Nash, and there'll always be a press conference.


[User] Please transcribe this text

[Assistant] And after the press conference, there'd be a picture on the front page of whatever city, you know, and these were all great cities, new city we'd gone to and always there was Nash and everybody else was cropped out of the picture.


[User] Please transcribe this text

[Assistant] Nash equilibrium here. Somebody said, some reporter says,


[User] Please transcribe this text

[Assistant] We've seen the movie, you know, but can you really tell us, in a word, what is Nash Equilibrium Competitive Equilibrium? What does average say in a word? What does it mean? What does it mean for us?


[User] Please transcribe this text

[Assistant] And so each of us took a try at trying to explain, uh, what Nash equilibrium was, including Nash.


[User] Please transcribe this text

[Assistant] They didn't go too well, the explanations, until they got to Alman.


[User] Please transcribe this text

[Assistant] He was also one of the people who spoke, and he subsequently won the Nobel Prize, uhm,


[User] Please transcribe this text

[Assistant] He's also a great figure and so, Alman says,


[User] Please transcribe this text

[Assistant] That question reminds me, I can't do an Israeli accent, that question reminds me of the first press conference, Khrushchev.


[User] Please transcribe this text

[Assistant] Who you might remember was premier of the Soviet Union. This was in the time of Kennedy and thumping the...


[User] Please transcribe this text

[Assistant] Table in the Cold War and stuff. The first press conference Khrushchev gave to western reporters and somebody said, can you tell me in a word, describe in a word the health of the Russian economy?


[User] Please transcribe this text

[Assistant] Equilibrium in one word is interaction. In two words, rational interaction.


[User] Please transcribe this text

[Assistant] So anyway, that was his, so his definition managed to get into the newspapers. None of ours did. So that pretty much summarizes it. It's interaction, but rational interaction. So, and it's captured by the idea that everybody


[User] Please transcribe this text

[Assistant] Anticipates the price, and those prices are going to really lead to the markets clearing. So they all are anticipating the right prices. And behaving as optimally as they can, choosing the best thing in their budget set. Okay, so, I, uh,


[User] Please transcribe this text

[Assistant] Put this on a computer and solved it, which we're gonna do in a second.


[User] Please transcribe this text

[Assistant] But there's a trick to solving this by hand, okay, and so I might as well just do the tricks by hand, because on an exam, for example, I'm not going to be able to give


[User] Please transcribe this text

[Assistant] You're gonna use the computer, it's very simple, you'll see, in one minute you can solve this on a computer, but, uh, by hand, it's, uh, it's worth knowing how to do, and you probably know how to do this, so, but let me describe it. So, what you do is you say, uhm,


[User] Please transcribe this text

[Assistant] Let's just look at the, okay, so the first thing to observe is that the prices


[User] Please transcribe this text

[Assistant] Don't really matter, up to scale or multiples. Walroth, by the way, was the person who made this argument. So Walroth was one of the, you know, one of the marginalists in 1871 from Lausanne.


[User] Please transcribe this text

[Assistant] So he says, look, doubling the prices isn't going to do anything. It's just like changing dollars into cents. If you look at everybody's budget set and you double Px and Py, you're doubling both sides of the equation. You're not doing anything. So if Px and Py are part of an equilibrium, 2Px and 2Py will also be part of the equilibrium, because the prices only appear here in the budget set, and doubling them all doesn't do anything. So really, you might as well assume that Px equals 1.


[User] Please transcribe this text

[Assistant] Okay, so he says, well that gets rid of one variable, you know, you've got six variables and six equations, you know, so you can all solve them, but there's so many it seems too complicated, but now you've got rid of one equation, one variable, well you can also get rid of one equation, he said. So how can you get rid of one equation?


[User] Please transcribe this text

[Assistant] Suppose we clear the X market. We found XA and what we find


[User] Please transcribe this text

[Assistant] Three, four, five, and six are all satisfied. We haven't checked equation two though, whether that market's gonna clear.


[User] Please transcribe this text

[Assistant] And Vara said, well it has to clear. Okay, the last equation, the last


[User] Please transcribe this text

[Assistant] If XA plus XB equals EA plus ED, that means collectively all the agents are spending on good X exactly all the money that they're collectively getting by selling good X.


[User] Please transcribe this text

[Assistant] Okay, that's what the top equation says, because if you multiply through the whole thing by px, the total amount people are spending on good x is equal to the total amount agents are getting by selling all the good x.


[User] Please transcribe this text

[Assistant] So since everybody's spending all their money, that must mean the rest of their money, collectively, is just all their money they're getting from selling good wine. They must be spending it all collectively on buying good wine.


[User] Please transcribe this text

[Assistant] Okay, so that means the next equation automatically has to hold because everybody spent all his money, so therefore all the money collectively that was spent on good x equals to the


[User] Please transcribe this text

[Assistant] So good y, it has to be that all the people, the income that they're getting on spending good y, all of that was spent.


[User] Please transcribe this text

[Assistant] On buying Y, collectively, not any person, each person is, you know, selling Y and buying X or something, but collectively all the money we've just deduced spent on Y had to go to buying Y, so therefore the Y market is clearing too. So once you've cleared all the other markets, you know that the last market has to clear. So, uhm, without loss of generality, don't worry about last markets.


[User] Please transcribe this text

[Assistant] We got rid of the top equation, let's say, and the, and px.


[User] Please transcribe this text

[Assistant] Or we got rid of, you know, one of those two equations, the market clearing equations, doesn't matter as long as we do all the others.


[User] Please transcribe this text

[Assistant] And one of the prices we can fix at one. So then the next step was


[User] Please transcribe this text

[Assistant] Uhm, since we can fix P y, let's say at 1.


[User] Please transcribe this text

[Assistant] And this I can replace with one. We already know what the price is of y is one. Okay, but now things get very, very simple. Because you have a hundred over minus x over px


[User] Please transcribe this text

[Assistant] So I bring the px to the other side, and I have a hundred minus x equals one, this is xA. Okay, or to put it another way, equals a px. Another way of writing that is xA equals a hundred minus px.


[User] Please transcribe this text

[Assistant] Okay, and then from this bottom equation, I've got 30 minus px, 30 minus xb, sorry, this was equation, these are a's, this was b, I forgot the superscript. So 30 minus xb over px has to equal, uhm, well the marginal utility is 1,


[User] Please transcribe this text

[Assistant] And the price is one, so that equals one. So I just have


[User] Please transcribe this text

[Assistant] 30 minus xB equals Px, or in other words, I have xB, just writing this, bringing it to the other side, equals 30 minus Px.


[User] Please transcribe this text

[Assistant] Okay, so you look at the demand. This is what Walroth did. He said, forget about all these equations, just look at demand and see where demand equals supply. So here, given the price Px and Py, we know without loss of generality, Pi is 1. So given Px, this is how much A is going to demand of x.


[User] Please transcribe this text

[Assistant] And given px, this is how much b is going to demand. And we know in equilibrium by that top equation, that plus that has to equal 84.


[User] Please transcribe this text

[Assistant] So now I can solve it. So I know that


[User] Please transcribe this text

[Assistant] Okay, and once you have px equals 23, then you can figure out what xa is. Uhm, 30 minus 100 minus xa has to be px, so that implies that xa


[User] Please transcribe this text

[Assistant] Where is xA? xA is 100 minus Px. So if Px is 23, xA has to be 77. It implies that xB, I can do xB from over here, 30 minus Px, is 7.


[User] Please transcribe this text

[Assistant] And sure enough, 77 plus 7 really do equal 84. So we've cleared the top market.


[User] Please transcribe this text

[Assistant] And now, we don't have to worry about the other market. We can figure out what XB is. How do we figure out what XB is? We go into this budget set. If he's gonna add a price of 23, he's gonna consume...


[User] Please transcribe this text

[Assistant] 77, that's gonna cost a bunch of money, and this is how much income he has, and we subtract it off, and PY is 1, we can figure out what Y is. Okay, so we could figure out from this, uhm, XB and, alright, YA and YB. And we know that that's gonna clear the market, so we solve the problem.


[User] Please transcribe this text

[Assistant] Okay, but we can do this on a computer.


[User] Please transcribe this text

[Assistant] Alright, so are there any questions how I did this? I'm going to do it one more time with this model, and then I'm going to do it on a computer. And, uh, so, this is the kind of problem that hopefully will be second nature to you after you do


[User] Please transcribe this text

[Assistant] The problem set, it's a very elementary thing, of course the first time you do it seems very complicated, but it's a very mechanical, elementary thing, but it can give us a lot of insight into the economy. So any questions? Yes.


[User] Please transcribe this text

[Assistant] Assume this says without loss of generality that px equals one.


[User] Please transcribe this text

[Assistant] Except that I took Ty, this is Ty, not Px. Ty equals 1.


[User] Please transcribe this text

[Assistant] Okay, so without loss of generality, pY is 1. So having put pY equal to 1 here, I then looked at these equations, 100 minus XA over pX equals 1 over pY, but I took pY to be 1, so that's 1 over 1, which is 1.


[User] Please transcribe this text

[Assistant] And I took this equation, which is 30 minus xd over px.


[User] Please transcribe this text

[Assistant] Equals 1 over p y, so 30 minus x b over p x.


[User] Please transcribe this text

[Assistant] Equals 1 over py, but that's 1 over 1, which is 1, so I wrote that.


[User] Please transcribe this text

[Assistant] These two equations here, this and that, went down to this.


[User] Please transcribe this text

[Assistant] So 100 minus px, 30 minus px, and then I added x8, xb, and I got 130 minus 2px equals 84, and I got px.


[User] Please transcribe this text

[Assistant] Yes, you just multiply the prices. If you set PY to be 2, you've gotten PX to be 46. And you get the same answer.


[User] Please transcribe this text

[Assistant] So there, so the only thing that matters is relative prices. So this is what Vol Ross pointed out. If you know, you change dollars to cents,


[User] Please transcribe this text

[Assistant] You're gonna change, you're gonna multiply every price by a hundred, but the relative price of oranges and tomatoes is gonna be the same as it was before. So the theory only produces relative prices. Any other questions? Or is someone else raising their hand? Nope.


[User] Please transcribe this text

[Assistant] Alright, let's just do it one more time, so you see you get the hang of this, and then we're gonna talk about why the market's so good, and we're gonna see things are getting a little bit more complicated. Okay, so, let's do this one. This one, uh, is gonna work


[User] Please transcribe this text

[Assistant] Okay, so how do we do this one? Well, we have to write down all the equations. So what are they going to be? They're going to be the same as before, xA plus xB.


[User] Please transcribe this text

[Assistant] Equals E A X plus E B X, okay, that's supply and demand, but this is just two plus one, equals three. And over here, we have, not A and B anymore, it's C and D, I guess I call them, C and D.


[User] Please transcribe this text

[Assistant] Then we have to do the budget sets. They're going to be simple.


[User] Please transcribe this text

[Assistant] Alright, and then budget set for D is PX times


[User] Please transcribe this text

[Assistant] Okay, and finally we have to do the marginal business.


[User] Please transcribe this text

[Assistant] So what's the marginal business? So somebody tell me this. So we need the marginal utility


[User] Please transcribe this text

[Assistant] Of x, what's that? What's the marginal utility of x to Mr. A?


[User] Please transcribe this text

[Assistant] Okay, that's what you said, 3 over 4x, exactly, divided by px.


[User] Please transcribe this text

[Assistant] Okay, so how did I do that? I took the derivative of three-quarters times log x. That's the only thing you have to know. The derivative of log x is one over x. Okay, and that's going to be equal to, uhm, the marginal utility of


[User] Please transcribe this text

[Assistant] Yes, my A's are C's. Thank you, I'm glad you pointed that out. Uhm. Thanks.


[User] Please transcribe this text

[Assistant] So, you know, it's embarrassing to make all these mistakes, but you'll find in 30 years you'll start making mistakes too. Anyway, so here we go.


[User] Please transcribe this text

[Assistant] Okay, so that's that equation, and then we have to do the same thing for y.


[User] Please transcribe this text

[Assistant] And I should have been more clever and left more room, but I didn't. But anyway, the last equation is going to be margin, so what is the last equation? Let's just, okay, marginal utility of d, uh, x divided by px equals what?


[User] Please transcribe this text

[Assistant] Two-thirds times one over i divided by p x equals


[User] Please transcribe this text

[Assistant] Divided by P y. Okay, so those are the equations.


[User] Please transcribe this text

[Assistant] So now we're gonna put these on a computer, but we can solve these by hand again. And we're gonna see it's very useful to be able to do this.


[User] Please transcribe this text

[Assistant] Okay, so let's, uh, okay, so what, there's another trick to doing that. So the trick is, okay, we can take P


[User] Please transcribe this text

[Assistant] One of them to be one, whichever we want to do, take P y to be one, or P x to be one, so take


[User] Please transcribe this text

[Assistant] P x equal one. Here you see things a little bit more symmetric. There, there was a special y that had constant margin utility.


[User] Please transcribe this text

[Assistant] Just like in our football tickets example, here there's nothing that is constant, y is utility, x and y are much more symmetric.


[User] Please transcribe this text

[Assistant] So this move to more symmetry without the special x is very important.


[User] Please transcribe this text

[Assistant] The guy who first did that was actually Irving Fisher at Yale, who you're going to hear a lot about very soon. So it's a little bit more complicated this time. So what is the, uh, okay, so.


[User] Please transcribe this text

[Assistant] I now want to solve, so let's take Py to be 1 like I did before. Take Py to be 1.


[User] Please transcribe this text

[Assistant] Okay, so let's just solve this equation, solve for x. So how can we, it's not going to be so easy to do this.


[User] Please transcribe this text

[Assistant] Okay, so now there's a tremendous trick here. What does this say if I rewrite this? It says, uhm,


[User] Please transcribe this text

[Assistant] I can bring the x down here, and I get px times x.


[User] Please transcribe this text

[Assistant] Okay, and I can bring the y down here, and I get p y times y. So, it says that the amount you spend on x


[User] Please transcribe this text

[Assistant] Relative to three quarters is equal to the amount, this is by the way Mr., uh,


[User] Please transcribe this text

[Assistant] The amount C spends on X relative to three quarters is equal to the amount he spends on Y relative to one quarter.


[User] Please transcribe this text

[Assistant] Okay, but the total spending on X and Y has gotta be all his income. So basically it says that he spends three quarters of his income on X


[User] Please transcribe this text

[Assistant] And one quarter on why. That's the crucial insight.


[User] Please transcribe this text

[Assistant] Okay, so you can solve these logarithmic examples very easily by that trick. Okay, so it's evident, evident,


[User] Please transcribe this text

[Assistant] By the same argument, she's gonna have two-thirds, you know, I can bring xd down, and she's gonna spend, her spending on x,


[User] Please transcribe this text

[Assistant] Relative to two thirds is equal to her spending on Y relative to one third. But she's spending all her income on X and Y. So clearly, you know, two thirds of it is being spent on X and one third of it on Y.


[User] Please transcribe this text

[Assistant] Okay, so that property of the log utilities


[User] Please transcribe this text

[Assistant] Is no, is no accident. They were invented for exactly that purpose. So there's a story you probably heard, but there's a famous


[User] Please transcribe this text

[Assistant] Uh, I'm from Illinois, there's a famous, uh, Senator Douglas from Illinois, and several Douglas's from Illinois, uhm, one of them debated Lincoln, but anyway there's a


[User] Please transcribe this text

[Assistant] Famous, maybe it wasn't from Illinois, there was a famous senator from, Lincoln was from Illinois, there was a famous senator named Douglas from Illinois after the Civil War and he noticed that, you know, farmers


[User] Please transcribe this text

[Assistant] So he said, what kind of utility function would make me always spend the same fraction of my money on a particular good? And so he went to his college math teacher, Cobb.


[User] Please transcribe this text

[Assistant] And, uh, asked him if he could invent a utility function which had the property that you always spent a fixed proportion of your money on each good, and so Cobb invented the Cobb-Douglas utility function, and this is where it is, it's just the sum of, uh, logs. Okay, so it's called Cobb-Douglas utility.


[User] Please transcribe this text

[Assistant] So it has that property, this property, that each person with Cobb Dogg's utility spends a fixed proportion of her money on each of the goods. A different proportion on each of the goods.


[User] Please transcribe this text

[Assistant] And different people have different proportions, but any single person can always spend a given proportion, three-quarters on x, one-quarter on y, two-thirds on x, one-quarter on y. And because of that, it's very easy to solve for equilibrium. So we go xA is gonna be three-quarters. What is her income? Her income is Px times 2 plus Py times 1.


[User] Please transcribe this text

[Assistant] Okay, so let's, her income has to be that. She's going to send three quarters of her income on x. So I could write xA as that. And meanwhile, x plus a C, and xD


[User] Please transcribe this text

[Assistant] Is gonna be, he's, she's spending two thirds of her income on


[User] Please transcribe this text

[Assistant] So therefore, px times xd, that's the amount of money she spends on x, that's what she spends on x, has to be that, so xd is that. And if I add these two, okay, I have to get, when I add them up, I have to get 2 plus 1 equals 3. Okay, so I can just now solve this. Okay, well, I can do a trick and pick one of my, either px or py to be 1,


[User] Please transcribe this text

[Assistant] So either one, I keep going back and forth, it doesn't make any difference. Let's try P y is one. Take that to be one, and now I can solve it. So this is just three quarters times P x times two plus one.


[User] Please transcribe this text

[Assistant] Probably, anyway, doesn't matter. Divided by Px, uhm, okay, and then the other one is two-thirds Px times one plus two, okay, divided by Px. So I can add those.


[User] Please transcribe this text

[Assistant] Okay, and it has to equal, when I add those, it equals 3. So I know that 3Tx, if I multiply through by Tx, I get 3Tx equals 3 half, hopefully I did this right, 3 half Tx


[User] Please transcribe this text

[Assistant] Three half px plus three quarters plus two thirds px.


[User] Please transcribe this text

[Assistant] So, who can do this in their head? 3 halves Tx from that is 3 halves Tx. So 3 halves minus 2 thirds, 3 halves is 9 sixths minus


[User] Please transcribe this text

[Assistant] Four-six is five-six. It looks like five-six px. Okay, does anyone believe that? If I do this in terms of, uh, six, that's nine-six, nine over six, and that's, uh, four over six, that's thirteen over six.


[User] Please transcribe this text

[Assistant] And that's eighteen over six, so it's five over six px, that looks right. And three-quarters plus four-thirds, if I go to twelfths, that's nine-twelfths and sixteen-twelfths is twenty-five-twelfths.


[User] Please transcribe this text

[Assistant] So this looks like, uhm, five halves. Okay, so Px, sorry, so that means Px equals five halves. Okay, so there I've got the answer.


[User] Please transcribe this text

[Assistant] Is this clear what I did here? I just took, for this trick, all I did was I solved for


[User] Please transcribe this text

[Assistant] Just like over there, I reduced it to simultaneous equations in a mechanical way, in a very simple, straight-forward mechanical way, which the first time you see looks very complicated, but, uh, it's, you know, it's very simple. In fact, after you've done it once,


[User] Please transcribe this text

[Assistant] And then it allows you to take these very complicated models and say something concrete. So I've got all the people, their welfare functions and their endowment. So I say in equilibrium what has to happen. Whatever they decide to eat, C and D, what he eats plus what she eats, has to be the endowment. The total endowment is three.


[User] Please transcribe this text

[Assistant] So the total consumption of X has to be three. The total consumption of Y between what he eats and what she eats also has to be three. Okay, now each of them is gonna spend all their money. He's gonna spend all his money, she's gonna spend all her money. Because it's Cobb Douglas, because it's logarithmic,


[User] Please transcribe this text

[Assistant] And you do this margin utility stuff, you find out, and this was the only trick, so this is a non-obvious trick, you know, which some senator and a professional mathematician had to invent.


[User] Please transcribe this text

[Assistant] Cobb Douglas is designed so that you can say right away, with those utility functions, D is clearly gonna spend two thirds of her money buying X.


[User] Please transcribe this text

[Assistant] And C is gonna spend three quarters of his money buying X.


[User] Please transcribe this text

[Assistant] It's just obvious from the first order conditions, from this margin utility conditions, they're called first order conditions, from this equating margin utility. That was the crucial trick.


[User] Please transcribe this text

[Assistant] Okay, so that's one, so that's a trick that you have to internalize and


[User] Please transcribe this text

[Assistant] You know, from now on, that's all you have to know, that C is gonna spend


[User] Please transcribe this text

[Assistant] x is he actually buying, this is the amount of money he's spending on x, divided by the price of px, that's how much money he buys of x.


[User] Please transcribe this text

[Assistant] She, D, she's gonna spend, here's her income, which is not quite the same as his, cause her endowment's different, that's her income. She spends two thirds of it on X.


[User] Please transcribe this text

[Assistant] So the amount of x she wants to buy is the amount of money she spends on it divided by the price, that's how much she wants to buy. Now I just have to add xc plus xd. It's very hard for me to do at the board and you to follow


[User] Please transcribe this text

[Assistant] She's buying two-thirds of her income, which is px times one, plus one times two, which is plus two, divided by px. That's what she's buying. And I just add this to this. And do a little algebra. Okay, so I just add.


[User] Please transcribe this text

[Assistant] And do a little algebra, and lo and behold, px is equal to 5 half. So I happen to remember that's the right number, so I actually did this right. So px is equal to 5 half.


[User] Please transcribe this text

[Assistant] Okay, and we solved the whole problem. So if Px is equal to 5 half, how much is she actually, uhm, how much is she actually buying of x?


[User] Please transcribe this text

[Assistant] Plug in px is equal to five halves and find out that five plus one is six.


[User] Please transcribe this text

[Assistant] Okay, so, and I could plug in five halves for Px, and I'd get how much xd, how much d was buying of x, and I could also plug Px


[User] Please transcribe this text

[Assistant] Equal to five halves and P y equal to one and find out what, uh, they were doing of good D.


[User] Please transcribe this text

[Assistant] Okay, well now we haven't gotten here yet. So now we're gonna, we, so I'm obviously not, I've run over a little bit, so I'm gonna finish the class by doing this, repeating this calculation on a computer just by pressing a button, and you'll see what the answer is. Okay, uh,


[User] Please transcribe this text

[Assistant] But then we have to examine the question, have we really maximized utility here? And to give away the punchline,


[User] Please transcribe this text

[Assistant] That utility was very special. It was constant, large utility of 1 and a particular good y. That's what made this example is almost identical to the football ticket example. The final equilibrium is going to maximize the sum of utilities.


[User] Please transcribe this text

[Assistant] Here, this equilibrium is not going to maximize the sum of utilities. There's no reason it should maximize the sum of utilities.


[User] Please transcribe this text

[Assistant] And so you need a different definition of why the free market is such a good thing. So economists made a tremendous mistake. They thought that the original criterion for a good market is you maximize the sum of utilities. That's not even true in an example like this one.


[User] Please transcribe this text

[Assistant] So we need a different definition, which we call Pareto Efficiency.


[User] Please transcribe this text

[Assistant] That, that illustrates why the market's good. But if they made a mistake once,


[User] Please transcribe this text

[Assistant] So there's something special even about this example when we put in financial variables.


[User] Please transcribe this text

[Assistant] I'm going to argue you shouldn't expect to get the optimal outcome all the time. But that will be next class. Yes.


[User] Please transcribe this text

[Assistant] No, there's no reason to pick Px or Py to be 1. Whichever one you want, you can choose to be 1, and I keep going, I can never make up my mind which one to do, so.


[User] Please transcribe this text

[Assistant] Yeah, just whatever works out. This one, it clearly worked out arithmetically easy to take PY equal to 1, because the marginal utility of Y was 1, and that cancelled everything out. Here, I could have taken either one price to be 1, it wouldn't have helped. So, I picked PY to be 1 again. Okay, so let's just


[User] Please transcribe this text

[Assistant] In the last five minutes, let's just show how to solve this by computer.


[User] Please transcribe this text

[Assistant] And so this is something you also are going to be able to do, and you know, it sounds like, oh, there's so many complicated things, this is new equations, you know, if you do this


[User] Please transcribe this text

[Assistant] For the problem set, it will, after you've done it once for the problem, you may have a little trouble with the problem set, the TAs will help you, but after you do it once, this will be very simple.


[User] Please transcribe this text

[Assistant] Now, doing it by computer is also very simple, and it's gonna sound complicated, but you know, as all you young people know, if any old guy can figure out how to work a computer, you can do it vastly quicker. So let's just take the second example here.


[User] Please transcribe this text

[Assistant] Okay, and we have five minutes left, that's all it'll take. So this is an Excel. Now Excel,


[User] Please transcribe this text

[Assistant] Is this program that's made zillions of dollars? The inventor of Excel, by the way, uhm, was the inventor of Lotus, uh, oh what was the guy's name?


[User] Please transcribe this text

[Assistant] His sister was in my class at Yale. He was two years ahead of me.


[User] Please transcribe this text

[Assistant] Mitch Gabor, something like that was his name. Anyway, she was in my class, and he was two years ahead of me, and he invented this thing called Lotus, which made a lot of money, and uh,


[User] Please transcribe this text

[Assistant] Then it got bought out by a few people and then Excel just basically, you know, copied the entire thing.


[User] Please transcribe this text

[Assistant] And, uh, Microsoft and made a fortune and had to pay him off for plagiarizing the thing.


[User] Please transcribe this text

[Assistant] Let's just solve the problem. Let's do the second one. I may not have time for the first one. So what did I do? I said let's write down the exogenous variables first.


[User] Please transcribe this text

[Assistant] So the exogenous variables are the endowments of x


[User] Please transcribe this text

[Assistant] Of the two goods, a and b, that's 2 and 1, okay, and a b is 1 and 2. Now what are the variables px, py, xay, ax, b and yb? We don't know what those are. So I've plugged in


[User] Please transcribe this text

[Assistant] You know, PX and PY, I'll guess both of them are one, which is obviously going to be wrong, and I'll guess that people just end up with their endowments, which is obviously not right.


[User] Please transcribe this text

[Assistant] Okay, so then I look at the budget set. Okay, so those are my guesses for the, these are the endogenous variables and wild guesses about the solution.


[User] Please transcribe this text

[Assistant] Now what are the equations? Well we wrote them down. There's the budget set of A, so that's just


[User] Please transcribe this text

[Assistant] The budget set of A. So how do you write these equations down? You simply name the, it's up here, if you haven't used Excel before, up here, you write down the letter, see, B35, that's PX,


[User] Please transcribe this text

[Assistant] So B35 times B31, that's PX is B35 times endowment XA, that's the, that's the income


[User] Please transcribe this text

[Assistant] I wrote the income first, that's the income A has minus how much she spends.


[User] Please transcribe this text

[Assistant] Or he spent B35 times B37. B35, remember, is the price of X. B37 is how much, uh, he buys.


[User] Please transcribe this text

[Assistant] Okay, so that's just the budget set. So for each of these equations, the marginal utility, I just did the same thing. Remember the three quarters over px times x and


[User] Please transcribe this text

[Assistant] I instead of saying this equals that, I subtract the right hand side from the left hand side. So you want all these equations to be equal to zero. I just wrote down the six equations.


[User] Please transcribe this text

[Assistant] Okay, and so Excel now tells me, you know, that of course the budget set is going to be satisfied automatically because people are consuming their endowments.


[User] Please transcribe this text

[Assistant] And the budget set of B's automatically satisfied, because I've just had them choosing their endowments. And markets are going to clear, of course, because everybody's choosing their endowments, but they're not optimizing. So the first order, this, uh, margin utility stuff is all screwed up.


[User] Please transcribe this text

[Assistant] So what do I do on the right? For every error in the equation I square it. So I've squared all the errors.


[User] Please transcribe this text

[Assistant] Okay, so these are my equations I need to satisfy. One, two, three, four, five, six equations. One, two, three, four, five, six. And I sum the squares.


[User] Please transcribe this text

[Assistant] Okay, so if I make the sum of the squares zero, each of those have to be zero. So XL now can minimize the sum of squared errors.


[User] Please transcribe this text

[Assistant] Excel is going to search over all endogenous variables px through yb


[User] Please transcribe this text

[Assistant] To find the things that make this number as small as possible. Once this number becomes zero, means all the ones above it have to be zero, because they're all squared numbers adding up to that. And so, I will find a solution.


[User] Please transcribe this text

[Assistant] So, you see that all you have to do, if you've done this before, of course it's obvious, if you haven't, you know, it's just so simple to write the equation, supply and demand, by just naming the box.


[User] Please transcribe this text

[Assistant] You know, B, you know, B32, that's just, uh, you know, that's the endowment of YA plus the endowment of, uh, YB equals the consumption of, of, uh, A plus the consumption of B. That's the difference we want to make zero.


[User] Please transcribe this text

[Assistant] And now solver says, okay, you want to take a target cell. I cheated, I already knew what it was. C47. So it's a target cell. I hit minimize.


[User] Please transcribe this text

[Assistant] Okay, so I'm going to forget that one, and I'm going to say just these


[User] Please transcribe this text

[Assistant] Five, right? I don't need all six of them, just five, because I can always take px to be one. Okay, so x, the solver now knows


[User] Please transcribe this text

[Assistant] It wants to minimize this number, which is the air, the squared errors of all the equations I want to hold equal. It's going to minimize that by searching over all those numbers.


[User] Please transcribe this text

[Assistant] It's not very smart about searching for it. Sometimes it never finds an answer. We know there always is an answer.


[User] Please transcribe this text

[Assistant] And uh, so how do you solve it? You just hit solve. And it's gonna search and do it. And what should the answer be? If I fix px to be 1,


[User] Please transcribe this text

[Assistant] Okay, remember the answer was when p y is 1, x turns out to be 5 halves. If I fix p x to be 1, what should p y be?


[User] Please transcribe this text

[Assistant] Was px equals 5 halves and py is 1, now I'm going to fix px to be 1. So what should y be?


[User] Please transcribe this text

[Assistant] X was five halves times Y, so Y should be .4. So if this solves right, we should get PY to be .4. So I just hit solve, and voila.


[User] Please transcribe this text

[Assistant] I get PY to be 4, I find XA is 1.8, I find all the numbers, it's just solved, it's just like that instantly.


[User] Please transcribe this text

[Assistant] Okay, so you can see how useful it's going to be to use Solver and do these problems.


[User] Please transcribe this text

[Assistant] Of course, if I change the endowments, I'll get a different answer. And if I increase the endow- yes. It does, and that's very important.


[User] Please transcribe this text

[Assistant] So this is really the beginning of the finance part of the course. So far we've reviewed general equilibrium.


[User] Please transcribe this text

[Assistant] Which I said Fisher invented or reinvented in order to do finance.


[User] Please transcribe this text

[Assistant] And if you remember, the main conclusions from general equilibrium are first that, uh,


[User] Please transcribe this text

[Assistant] Uh, from the outside, in other words, the situation of laissez-faire leads to allocations that are Pareto efficient.


[User] Please transcribe this text

[Assistant] That's not even a well defined thing, as we saw last time, because how can you measure, how can you add one person's utility to another? It doesn't even make sense.


[User] Please transcribe this text

[Assistant] So economists at first were wrong to think of that as the criterion for good allocations.


[User] Please transcribe this text

[Assistant] But, there's another better definition of efficiency that Pareto invented called Pareto Efficiency and the free market achieves Pareto Efficiency. At least if there are no externalities and there's no monopoly.


[User] Please transcribe this text

[Assistant] So that lesson number one was taken to mean that the government shouldn't


[User] Please transcribe this text

[Assistant] Shouldn't interfere in the free market, especially shouldn't interfere in financial markets. And that's something we're going to come to examine. The second lesson we found was that the price is determined by marginal utility.


[User] Please transcribe this text

[Assistant] So, if you, it's not determined by total utility. So, uh, it may be that water is much more valuable than diamonds because it does a lot more good for everybody and for the world as a whole than diamonds do. But the last drop of water, really most people have as much water as they need, the last drop of water is not doing that much.


[User] Please transcribe this text

[Assistant] Where the last diamond is a rare thing and not many people have them so the last drop of water is worth less than the last


[User] Please transcribe this text

[Assistant] A third implication of what we did is that there's no such thing as a just price.


[User] Please transcribe this text

[Assistant] It depends on what people's utilities are and how much they like it. It depends on how much of the good there is. That's why diamonds are priced less than water. And it depends on how wealthy people are. If you transfer money from people who don't like apples


[User] Please transcribe this text

[Assistant] Compared to tomatoes, to people who like apples a lot compared to tomatoes.


[User] Please transcribe this text

[Assistant] The price in the free market is going to reflect more the latter class of people than the former because they've got the money to spend and so the price of apples is going to go up relative to the price of tomatoes.


[User] Please transcribe this text

[Assistant] So those are the three basic lessons of general equilibrium, which we, the first one about


[User] Please transcribe this text

[Assistant] Lazy Fair has a huge implication for what we, whether there should be regulation, but the second pair of implications


[User] Please transcribe this text

[Assistant] Uh, you know, what determines the price and how price changes as you redistribute wealth and so on and know just price, that set of ideas you'll see is also going to be very important for finance.


[User] Please transcribe this text

[Assistant] Those lessons seem clear. Some of those lessons were understood already by Aristotle, as we said. So the ancients understood supply and demand, at least a little bit of supply and demand. And yet, as soon as they moved from apples and oranges to finance, they all got hopelessly confused. So Aristotle said, interest is unnatural.


[User] Please transcribe this text

[Assistant] I could go through a lot of people and what they said, but I'm going to just leave it at a few quotations. The Bible says interest is terrible.


[User] Please transcribe this text

[Assistant] Judaism, uhm, frowns on interest. Christianity frowns on its interest. Islam frowns on interest. All the great religions of the world, crystallizing, obviously some of the most important things of the time, frowns on interest. So, just to remind you of a few, uhm, so why do they frown on interest? Well, the idea is that


[User] Please transcribe this text

[Assistant] You know, you do nothing, the lender does nothing, and he gets back more than he lent to begin with. He's making a profit without having exerted any effort whatsoever.


[User] Please transcribe this text

[Assistant] In trade, both parties are expected to gain, whereas in lending at usury, only the usurer could profit.


[User] Please transcribe this text

[Assistant] So uhm, you know, in Deuteronomy, in the Bible, so this is the Jewish Bible, it says, thou shalt not lend on usury, that just means interest, thou shalt not lend on usury to thy brother. Usury of money, usury of victuals, usury of anything that is lent upon usury. That's all terrible.


[User] Please transcribe this text

[Assistant] Of course, unto a foreigner thou mayest lend upon usury, but unto a brother thou shalt not lend upon usury.


[User] Please transcribe this text

[Assistant] Okay, so the Jews could lend to Christians, but not to each other. So the Christian church outlawed usury, called it a mortal sin.


[User] Please transcribe this text

[Assistant] Luther, for example, says, for whoso lends that he wants it back better or more,


[User] Please transcribe this text

[Assistant] That is open and damnable ochre. Those who do that are all daylight robbers, thieves, and ochers. Those are little Jewish arts and tricks. So uhm,


[User] Please transcribe this text

[Assistant] There was this antipathy towards usury, and because Jewish moneylenders were able to lend to Christians, there was an antipathy to Jewish moneylenders, which we're going to come to when we talk about Shakespeare.


[User] Please transcribe this text

[Assistant] So Muslims also forbid, uh, lending. In fact, even today, it's illegal to charge interest in Islamic law. So in my hedge fund, we tried to raise money, uh, and there's lots of money in the Middle East.


[User] Please transcribe this text

[Assistant] So we try, and most of it, by the way, ten years ago, was invent almost all Middle Eastern money was invested in U.S. government bonds and U.S. stocks. Nothing else, like in mortgages, for instance.


[User] Please transcribe this text

[Assistant] So we, I went to, uh, Saudi Arabia and I met a bunch of


[User] Please transcribe this text

[Assistant] And they actually became sort of interested, and so we had to write up a complicated contract. Now, you know, a mortgage pays interest, so if you invest in the hedge, in the hedge fund and the mortgage is paying interest, it looks like they're getting interest, and so that wasn't gonna do.


[User] Please transcribe this text

[Assistant] So we had to write a very elaborate contract which disguised the fact that interest was being paid and it had to be overseen and uh, blessed according to Sharia law by a holy person who was going to verify that there was no interest.


[User] Please transcribe this text

[Assistant] So the point is, all these religions have banished interest despite the fact that they themselves were involved in interest and lending and borrowing and so all the, you know, you just, a world can't function really without lending and borrowing and the charging of interest.


[User] Please transcribe this text

[Assistant] So I don't mean to, so, so these religions that forbade it at the same time knew that it was going on and, uh, allowed it to go on and sometimes participated in it.


[User] Please transcribe this text

[Assistant] But the point I'm trying to make is that there is vast confusion and even today there's confusion because still today the


[User] Please transcribe this text

[Assistant] You know, Jewish law doesn't allow for interest between Jews and there's a charade that goes on there just like there is.


[User] Please transcribe this text

[Assistant] Think mathematically. Then we won't get so tied up in all these religious complexities. Just let's do something mathematical and concrete. So suppose that we consider a problem, which is the one I'm gonna work with the rest of the class. Maybe it better be, do it over here. So let's say that there are two agents, uhm, uh, and two goods.


[User] Please transcribe this text

[Assistant] So the two goods now are x1 and x2. So Fisher's first insight is that let's think of x1 and x2 as apples.


[User] Please transcribe this text

[Assistant] Apples today and apples next year, Fisher said. Although they're both apples exactly alike, there's no difference between these apples.


[User] Please transcribe this text

[Assistant] These are both X because it's the same good, but they're different goods because they occur at different time periods. So Fisher said we can incorporate time, uh, simply by having different goods.


[User] Please transcribe this text

[Assistant] So of course people, he said, are going to have some utility, uh, of consuming today versus consuming tomorrow. And let's say this utility is log x1 plus one-half log x2. Okay, for Mr. A.


[User] Please transcribe this text

[Assistant] So I'm going to come back to this, uh, in half an hour and point and explain why Fisher thought that this half made sense. You see this agent A thinks a lot more like good one a lot more than good two.


[User] Please transcribe this text

[Assistant] So Fisher would say, that's because Agent A is impatient. An apple is an apple. But if you get it now, it's worth more to you, gives you higher utility than getting an apple next year.


[User] Please transcribe this text

[Assistant] This is a law of human nature, he claimed, which I'm going to come back to later, and that's why people, uh, when you write down the utility function, there's a discount factor, which we're going to add, a discount factor,


[User] Please transcribe this text

[Assistant] B actually doesn't discount the future, A does discount the future. So A is impatient, relatively impatient, and B is patient.


[User] Please transcribe this text

[Assistant] Okay, but now Fischer wants to talk about finance, and he wants to talk about stocks and bonds and interest and all kinds of things. So he says, okay.


[User] Please transcribe this text

[Assistant] You know, we've talked about goods with no problem. We can talk about goods today and next year with no problem. Let's talk about stocks. What is a stock? Let's say there are two stocks. Okay, stock alpha and stock beta.


[User] Please transcribe this text

[Assistant] So Fisher says, I mean, what, what are stocks? I mean, they're pieces of paper that you're trading, but they give you ownership of something, like a factory or a company or something, and what's good, what good is the company? Well, the good of the company is that it's gonna produce something. So let's say that the stock is going to produce something in the future. So we'll call the production of the stock


[User] Please transcribe this text

[Assistant] So what is, what is the future? It's just x, there's only one, there are only apples in the future. So let's say d alpha 2 is 1, and d beta 2


[User] Please transcribe this text

[Assistant] Uh, you know, you can tell a lot of stories about what this stock does and what, you know, how, what its method of production is and, you know, what kind of managers it has and a lot of stuff like that. But in the end, people care about the stock because the stock is going to produce something. And the value of the stock is going to come from what it produces.


[User] Please transcribe this text

[Assistant] So, D alpha 2 is what people expect the output of the stock to be next year, which is the last year we're worrying about, and D beta 2, which is 2, is what people expect the stock to produce next year. And we're going to assume that, uh, perfect foresight here. So Fisher says,


[User] Please transcribe this text

[Assistant] Well, you know, in general, people's expectations might be wrong, so let's start off with the


[User] Please transcribe this text

[Assistant] When people anticipate something, surely they're looking ahead to the future when deciding whether to buy the stock. We've got to assume something about what they think, but suppose they actually get it right, and they know what the price of the stock is next period. Okay, so what's going to, uh, what's going to happen?


[User] Please transcribe this text

[Assistant] I should mention, by the way, I forgot to say this, uh, but as I write this down, I suddenly realize I forgot to mention it. You know, there are other theories of interest too. Another famous one was Marx's theory of interest.


[User] Please transcribe this text

[Assistant] So, uh, this is to be contrasted with Fisher. Marx, what did Marx, uh, say? So, in my youth, when I was your age, it was very fashionable to be a Marxist. Uhm, so every, all of, you know,


[User] Please transcribe this text

[Assistant] Uh, he imagined, uh, uh, an, uh, agricultural economy where you plant stuff today and then the output comes out tomorrow. If you put corn in the, in today, corn comes out tomorrow.


[User] Please transcribe this text

[Assistant] So it doesn't require much effort. To plant the corn, it requires a lot of effort. You have to buy the corn. So the capitalist would buy the corn, but planting it doesn't require much effort. However, harvesting it, you know, picking the cotton, you know, picking the chocolate, uhm, you know, picking all that stuff takes a lot of effort. So in the end, you'd get a lot of output.


[User] Please transcribe this text

[Assistant] When you pick the output, you'd have to pay workers in order to pick the output. So Marx imagined that there was a wage that was arrived at by the struggle between, uh,


[User] Please transcribe this text

[Assistant] You know, over time, maybe it would rise as workers got stronger, but it was still always quite low. And the subsistence wage was what the workers would get. And what's left over, which was the surplus,


[User] Please transcribe this text

[Assistant] Okay, so the output being more than what was put in was the surplus. Part of the surplus would go to the subsistence wage, the rest would go to profit. And so if you look at how much was put in to begin with,


[User] Please transcribe this text

[Assistant] So the capitalist has done no work at all. He just bought the corn, let someone else plant it, let someone else harvest it, paid all those guys, virtually nothing at the beginning, and a lot at the end, he's gotten profit for doing nothing, just like when you lend money, and so this profit,


[User] Please transcribe this text

[Assistant] So the profit divided by the initial outlay


[User] Please transcribe this text

[Assistant] And so, uh, Mark said that a capitalist, he could put his money in his bank, or he could run this farm and make profit this way. So the money interest in the bank would have to turn out to be the same as this rate of profit, otherwise he'd put all the money in the bank, and if it was smaller he wouldn't, you know, banks would have to


[User] Please transcribe this text

[Assistant] Actually, Marx was pretty mathematical, but now we've got Fischer turning it into a simple math problem and saying, let's reason out the math problem and we'll have the answer to these questions and it'll turn out to be quite different from what all these guys are saying.


[User] Please transcribe this text

[Assistant] What happens in this economy? Let's just be very commonsensical. What we need to find out now is, is financial equilibrium.


[User] Please transcribe this text

[Assistant] So, financial equilibrium is much more complicated seeming than we had before, because we care about the prices, so now I'm going to use Q for prices.


[User] Please transcribe this text

[Assistant] So these are going to be IQ for contemporary prices.


[User] Please transcribe this text

[Assistant] Q contemporary. So the price you pay today to get the Apple today.


[User] Please transcribe this text

[Assistant] Q2 is the price you pay next year to get the Apple next year. They're contemporary prices. Okay, and then, but we've got a more...


[User] Please transcribe this text

[Assistant] And of course people are going to decide what they want to do, XA1, what they're going to end up consuming, XA2, XB1, XB2, but


[User] Please transcribe this text

[Assistant] Now we've got a more complicated world. There's stocks to be traded. So, and there's the price of stocks.


[User] Please transcribe this text

[Assistant] So P pi alpha, I'm running out of letters, I'm going to switch to a Greek one, this is the price of stock A.


[User] Please transcribe this text

[Assistant] Stock alpha. And pi beta, the price of stock beta.


[User] Please transcribe this text

[Assistant] And then we have to know what, what are people gonna, how many shares are they gonna hold? Well, it's gonna be theta.


[User] Please transcribe this text

[Assistant] Uh, A is going to hold certain number of shares, alpha and theta.


[User] Please transcribe this text

[Assistant] A is going to hold a certain number of shares of stock beta and B is going to hold a certain number of shares of alpha and a certain number of shares of beta. So we want to solve for all of that.


[User] Please transcribe this text

[Assistant] Now, I should have said at the beginning, if these are trees producing apples, there was an initial stock of, uh,


[User] Please transcribe this text

[Assistant] People owned a certain number of trees. Let's say theta alpha a. So this is the original ownership. Original ownership.


[User] Please transcribe this text

[Assistant] Okay, let's just say that, I'll make up some number, might as well use the same number I thought of before. Let's say that's 1, and let's say theta b alpha is 0, and let's say theta bar a of beta is a half, and theta bar b of beta is a half.


[User] Please transcribe this text

[Assistant] Okay, so what we've begun, so this is, so the original economy is more complicated than before because we've added stocks.


[User] Please transcribe this text

[Assistant] We characterized the stock, we said, okay, a stock is a very complicated thing, a company is very complicated, depends on managers and


[User] Please transcribe this text

[Assistant] Processes and, you know, there's all kinds of stuff you think about when you think about a stock.


[User] Please transcribe this text

[Assistant] But really, at heart, all people are trying to do is forecast what are they gonna produce.


[User] Please transcribe this text

[Assistant] And so we're going to make it simple mathematically and say, let's say we know what they're going to produce next period. And then people begin, let's say it's a tree. Everybody knows the alpha tree is producing one apple, the beta tree is producing two, two apples. Alpha happens to own the only alpha tree.


[User] Please transcribe this text

[Assistant] And beta, and A and B, A owns the alpha tree, excuse me, and A and B own half each of the beta tree.


[User] Please transcribe this text

[Assistant] How are they gonna, what are the prices gonna turn out to be of x1 and x2? What are the prices of the trees gonna turn out to be?


[User] Please transcribe this text

[Assistant] How much will people consume and how many shares? I mean, because Alpha A began with all of the tree, maybe he'll sell his shares of tree and end up with not having a tree in the end. So we have to see where they began, the stock ownership to begin with, and where they end up.