12 views

Uploaded by MarcoJulioKolinsky

- 2
- Managerial Economics
- solow
- 01 Demand and Supply Analysis
- Limit of sequences_solution.pdf
- Unit 5 Business Economics
- Types of Costs
- Bloom Canning Sevilla 2004
- The Law of Returns to Scale
- 1
- Profit_maximisation_slides.pdf
- Production Function2
- 48727302-Baumol’s-Sales-Maximisation-Model
- Checklist Paper Writing
- ECON201 FinalWinter2013 Answers
- Consumer Preferences, Tachnological Change and the Short Run Eleasticity of Metal Demand
- Lecture 08MP 10-11 1s-0
- FCprofitetc
- p09_apr04
- Lecturenote Growth (1)

You are on page 1of 51

Homework #2

I will return Homework #1 next meeting.

Review of Last Week

Chapter 2.1: Duality

not be an expenditure function.

Suppose E satisfies the properties of an expenditure function:

Continuity, strictly increasing, unbounded above in u

Increasing, homogeneous of degree 1, concave, and differentiable in

p.

We can show that it is, in fact, an expenditure function for some

utility function.

Constructing the Utility Function

Construct the closed half-space in the consumption set:

A(p 0 , u 0 ) = {x p 0 x E (p 0 , u 0 )}

the hyperplane defind by p 0 x = E (p 0 , u 0 ).

Repeat the process for all prices strictly positive prices p , and take

the intersection of all the half-spaces:

p >>0

As the number of half-spaces increases, their intersection becomes a

convex set with a smooth boundary.

This set A(u 0 ) = p>>0 A(p , u 0 ) is an upper level set for some

quasiconcave function.

It turns out that this is a valid utility function.

Prof. Ronaldo CARPIO Advanced Microeconomic Analysis, Lecture 4

Constructing the Utility Function

expenditure function. Then the function u generated by

Theorem 2.2: The Expenditure Function of u is E :

Let E (p , u) satisfy the properties of an expenditure function, and

let u(x ) be derived as above. Then for all non-negative prices and

utility,

E (p , u) = min p x s.t. u(x ) u

x

Duality Between Utility and Indirect Utility

utility function.

Since expenditure and indirect utility functions are inverses of each

other, it should be possible to go from indirect to direct utility.

Theorem 2.3: Suppose u(x ) is quasiconcave and differentiable on

Rn++ , with strictly positive partial derivatives. Suppose the indirect

utility function generated by u is v (p , y ). Then for all x Rn++ :

u(x ) = min v (p , p x )

n p R++

problem

p R++

n

Example 2.1: CES Utility from Indirect Utility

1

v (p1 , p2 , y ) = y (p1r + p2r ) r

Lets find the direct utility function that generates this indirect

1

utility. Set y = 1, then v (p1 , p2 , 1) = (p1r + p2r ) r .

1

u(x1 , x2 ) = min p1 , p2 (p1r + p2r ) r s.t. p1 x1 + p2 x2 1 = 0

1

L(p1 , p2 , ) = (p1r + p2r ) r (p1 x1 + p2 x2 1)

Example 2.1: CES Utility from Indirect Utility

L 1

= (p1r + p2r ) r 1 p1r 1 x1 = 0

p1

L 1

= (p1r + p2r ) r 1 p2r 1 x2 = 0

p2

L

= p1 x1 + p2 x2 1 = 0

Solving this system of equations for u(x1 , x2 ) gives us

r r r 1

u(x1 , x2 ) = (x1r 1 + x2r 1 ) r

Utility Maximization and Expenditure Minimization

One is to start with the direct utility function and derive Marshallian

demand.

Or, we can start with an expenditure function and use inversion and

differentiation to derive demand.

One way may be analytically simpler than the other, or may be

empirically easier to observe.

For example, we cannot directly observe utilities, but we can

observe prices and expenditures.

Chapter 3: Theory of the Firm

acquires inputs;

combines them to produce outputs;

sells outputs on the market.

The firms objective is to maximize profits.

Production

Technological feasilbility determines what is possible.

Two common ways of representing production:

a production possibility set Y Rn

Each vector y Y is a production plan whose components are

the various inputs and outputs.

By convention, yi < 0 if resource i is used up, and yi > 0 if it is

produced.

Possible to have multiple outputs, resources that are both

inputs and outputs.

a production function:

one output, y = f (x ).

Production Functions

strictly increasing, strictly quasiconcave, and f (0) = 0.

Here, the quasiconcave assumption implies there are

complementarities in production, that is, production is decreased

when there is an extreme amount of one input.

f (x )

The marginal product of input i is xi

.

f (x )

If f is differentiable, then xi

> 0.

For a given level of output y , the set of input vectors producing y is

called the y -level isoquant:

Q(y ) = {x 0f (x ) = y }

For a given input vector x , the isoquant through x is Q(f (x )), the

set of input vectors producing the same output as x .

Marginal Rate of Technical Substitution

f (x )/xi

MRTSij (x ) =

f (x )/xj

Marginal Rate of Technical Substitution

MRTS is similar to MRS for consumers: the rate at which one input

can be substituted for another, while keeping output level constant.

f (x )

We will denote xi

as fi (x ).

Separable Production Functions

In general, the MRTS at inputs x depends on the level of each

input.

Frequently, we would like to divide inputs into types. The MRTS

of inputs within one type is not affected by inputs in another type.

Suppose there are N inputs, and we can partition them into S > 1

mutually exclusive subsets N1 ...NS . The production function is

weakly separable if the MRTS between two inputs is independent of

inputs used in other groups:

(fi (x )/fj (x ))

=0 for i, j Ns , k Ns

xk

The production function is strongly separable if the MRTS between

two inputs from any two groups is independent of all inputs outside

those two groups.

(fi (x )/fj (x ))

=0 for i Ns , j Nt , k Ns Nt

xk

Separable Production Functions

labor.

If the MRTS between two capital inputs is unaffected by the level

of labor inputs, it is weakly separable.

Elasticity of Substitution

1

d ln MRTSij (x (r ))

ij (x ) =

0

xj0

d ln r r= 0

x

i

xj0

r= xi0

, the ratio of xj to xi at x 0

ij (x 0 ) is a measure of the curvature of the isoquant through x 0 .

If f is quasiconcave, ij 0.

The larger ij , the easier it is to substitute between i and j.

Derivation of

x x

d ln ( xji ) d ln ( xji )

=

d ln MRTSij df df

d ln ( dx / dxj )

i

df df

d(xj /xi ) dxi / dxj

=

xj /xi d ( df / df )

dxi dxj

In (a), is infinite; there is perfect substitutability.

In (b), > 0; less than perfect substitutability

In (c), = 0; there is no substitutability (it is impossible to lower x1

below a certain point, and still maintain the same output level)

Example 3.1: CES Production

1

y = (x1 + x2 ) , 0 < 1

x2 1

MRTS12 (x1 , x2 ) = ( )

x1

x2

Set r = x1

.

d ln MRTS12 (x (r )) d ln r 1

=

d ln r d ln r

d ln r

= (1 ) =1

d ln r

Elasticity is a constant, hence CES.

CES & Cobb-Douglas

1

CES: y = (x1 + x2 ) , 0 < 1

= 1/(1 ), as 1, increases, therefore x1 , x2 become more

substitutable for each other.

Consider a modified version of CES with weights i :

1

n n

y= ( i xi ) , i = 1

i=1 i=1

j xj 1

MRTSij (xi , xj ) = ( )

i xi

j

As 0, MRTSij = i

( xxji )

This is the MRTS of the Cobb-Douglas production function:

y = x11 x22 ...xnn

CES & Leontief

1

CES: y = (x1 + x2 ) , 0 < 1

ij = 1/(1 ) for all i j.

As , ij 0, there is no substitutability between outputs

This is the Leontief production function:

y = min(x1 , ..., xn )

Homogeneous Production Functions are Concave

Theorem 3.1: Let f (x ) be a continuous, strictly increasing, strictly

quasiconcave production function, and suppose that f is

homogeneous of degree 0 < 1. Then f (x ) is concave.

Proof: First, suppose = 1. Take any strictly positive x 1 , x 2 , let

y 1 = f (x 1 ), y 2 = f (x 2 ).

x1 x2

f( )=f ( )=1

y1 y2

By strict quasiconcavity of f ,

t x 1 (1 t)x 2

f( + )1 for 0 t 1

y1 y2

y1 y2

Choose t = y 1 +y 2

, (1 t ) = y 1 +y 2

.

x1 x2

f( + )1

y1 + y2 y1 + y2

Homogeneous Production Functions are Concave

x1 x2

f( + )1

y1 + y2 y1 + y2

By linear homogeneity of f ,

f (x 1 + x 2 ) y 1 + y 2 = f (x 1 ) + f (x 2 )

previous equation:

f (t x 1 + (1 t)x 2 ) f (t x 1 ) + f (t x 2 ) = tf (x 1 ) + (1 t)f (x 2 )

Homogeneous Production Functions are Concave

, 0 < 1.

The composition (f (x )) is homogeneous of degree 1, and satisfies

1

the assumptions on a production function (continuous, strictly

increasing, strictly quasiconcave, f (0) = 0).

Therefore, (f (x )) is concave, as shown above.

1

The further composition [(f (x )) ] = f (x ) has an outer function

1

that is concave (since 1).

Therefore, the whole thing is concave, so f (x ) is concave.

Returns to Scale

change.

Returns to scale refers to how output changes when all inputs

change proportionally, i.e. multiply all inputs by the same number.

f (x )

The marginal product of input i MPi (x ) = fi (x ) = xi

The output elasticity of input i, i.e. the percentage change in

output resulting from a 1% change in input i:

fi (x )xi MPi (x )

i (x ) = =

f (x ) APi (x )

Global Returns to Scale

corresponding condition holds for all x :

Constant returns to scale if f (t x ) = tf (x ) for all t > 0.

Increasing returns to scale if f (t x ) > tf (x ) for all t > 1.

Decreasing returns to scale if f (t x ) < tf (x ) for all t > 1.

A production function with constant returns to scale must be a

linear homogeneous function.

Every homogeneous production function with degree > 1 must have

increasing returns; degree < 1 must have decreasing returns.

The converse is not necessarily true.

Local Returns to Scale

A production function need not have the same returns to scale

everywhere.

We would like a local measure of returns to scale at point x .

The elasticity of scale or overall elasticity of output is:

d ln [f (t x )] ni=1 fi (x )xi

(x ) = lim =

t1 d ln(t) f (x )

Compare to the output elasticity of a single input i:

fi (x )xi MPi (x )

i (x ) = =

f (x ) APi (x )

If (x ) is equal/greater than/less than 1, returns to scale are locally

constant/increasing/decreasing.

Elasticity of scale and output elasticities of input i are related:

n

(x ) = i (x )

i=1

Example 3.2

y = k(1 + x1 x2 )1

y cannot exceed k.

f1 (x ) = , f2 (x ) =

(1 + x1 x2 )2 (1 + x1 x2 )2

f1 (x )x1 x1 x2 f2 (x )x2 x1 x2

1 (x ) = = , ( x ) = =

f (x ) f (x )

2

1 + x1 x2 1 + x1 x2

( + )x1 x2

(x ) =

1 + x1 x2

Elasticities depend on x1 , x2 .

Example 3.2

y = k(1 + x1 x2 )1 .

k

x1 x2 = 1

y

x1 x2 y

1 (y ) = = (1 )

1 + x1 x2 k

x1 x2 y

2 (y ) = = (1 )

1 + x1 x2 k

y

(y ) = ( + ) (1 )

k

Returns to scale decline monotonically as output increases.

At y = 0, u (y ) = + > 0. At y k, u (y ) 0.

If + > 1, returns to scale will go from increasing to decreasing as

y goes up.

Cost Function

make to acquire the inputs necessary to produce y .

If the firms objective is to maximize profits, then for a given y , it

must try to minimize costs (since revenues are determined by y ).

We will assume that firms are perfectly competitive on their input

markets, and therefore are price-takers.

Let w = (w1 , ..., wn ) denote the market prices of inputs 1, ...n.

Let x = (x1 , ..., xn ) denote the quantities of inputs 1, ...n.

The firm will choose x to minimize the expenditure w x , subject to

producing output f (x ) y .

Cost Function

The cost function, for strictly positive input prices w and feasible

output levels y f (Rn+ ), is defined as:

x R+

c(w , y ) = w x (w , y )

always be binding at a solution (similar to: monotonicity of utility

guarantees the budget constraint is satisfied with equality).

x R+

Cost Function

x R+

L(x1 , ..., xn , ) = w x (f (x ) y )

L f (x )

= wi

xi xi

f (x )

wi = for i = 1, ..., n

xi

f (x )/xi wi

MRTSi,j = =

f (x )/xj wj

Conditional Input Demand

demand, i.e. demand conditional on producing at least output level

y.

The solution to the cost-minimization problem is the tangency point

between the y -level isoquant, and an isocost line of the form

w x = for some > 0.

Prof. Ronaldo CARPIO Advanced Microeconomic Analysis, Lecture 4

Example 3.3

1

Suppose production is CES: y = (x1 + x2 )

Cost minimization problem:

x1 0,x2 0

First-order conditions:

w1 x1 1

MRTS12 = =( )

w2 x2

1

1 1

y = (x1 + x2 ) = x2 w21 (w11 + w21 )

Conditional input demands:

1

1

x1 = yw11 (w11 + w21 )

1

1

x2 = yw21 (w11 + w21 )

Example 3.3

1

1

x1 = yw11 (w11 + w21 )

1

1 1

x2 = yw21 (w11 + w21 )

1

c(w1 , w2 , y ) = y (w11 + w21 )

Similarities to Expenditure Function

consumer theory.

Expenditure function:

x

Cost function:

x

also apply to cost functions.

Properties of Cost Function

c(w , y ) has the following properties:

c(w , 0) = 0

is continuous on its domain

For strictly positive w , is strictly increasing and unbounded

above in y

Increasing in w

Homogeneous of degree 1 in w

Concave in w

If f is strictly quasiconcave (therefore guaranteeing a unique

solution), then

c(w 0 , y 0 )

= xi (w 0 , y 0 ) for i = 1, ..., n

wi

Example 3.4

c

By Shephards lemma, conditional input demand is wi

:

c(w1 , w2 , y )

x1 (w1 , w2 , y ) = Aw11 w2 y =

w1

c(w1 , w2 , y )

x2 (w1 , w2 , y ) = Aw1 w21 y =

w2

Ratio of conditional input demands:

x1 (w1 , w2 , y ) w2

=

x2 (w1 , w2 , y ) w1

only on the ratio of input prices, independent of the level of output.

Example 3.4

i xi (w1 ,w2 ,y )

1 ,w2 ,y )

, i.e. the

fraction of total expenditure spent on input i.

For this cost function, s1 = , s2 = .

Properties of Conditional Input Demands

demands.

Theorem 3.3: Suppose f is continuous, strictly increasing, and

strictly quasiconcave. Then:

x (w , y ) is homogeneous of degree zero in w

The substitution matrix (w , y ) is symmetric and negative

semidefinite:

x1 (w ,y ) x1 (w ,y )

w1

... wn

(w , y ) =

xn (w ,y ) xn (w ,y )

w1

... wn

(w ,y )

This implies that xiw i

0 for all i. (Recall: Hicksian

demand always decreases as own price increases).

Homothetic Production Functions

MRTSij (xi , xj ) is homogeneous of degree zero.

1

For example, with CES production, MRTS12 (x1 , x2 ) = ( xx21 ) .

Along rays from the origin, the slope of the isoquants are the same.

Homothetic Production Functions

H() is a monotonically increasing function, and f (x ) is a

homogeneous function of any degree.

Theorem 3.4: When f () is continuous, strictly increasing, strictly

quasiconcave, and homothetic, then:

The cost function is multiplicatively separable in w , y : there is

some strictly increasing h(y ) such that:

w , y : there is some strictly increasing h (y ) such that:

x (w , y ) = h (y ), x (w , 1)

Homothetic Production Functions

c(w , y ) = y c(w , 1)

1

x (w , y ) = y x (w , 1)

1

Short-Run Costs

So far, we have been assuming that all inputs can be changed when

calculating the appropriate cost.

This may not be true in all situations. In particular, in the short run,

some inputs may be fixed (e.g. if capital inputs, such as factories

or machines, take a long time to build).

We denote the long-run cost function as the one where all inputs

can be changed.

The short-run cost function is where some inputs are fixed.

Short-Run Costs

into variable inputs x , and fixed inputs x :

z = (x , x )

x

problem, but they still contribute to expenditures.

If x (w , w , y ; x ) solves this problem, then

sc(w , w , y ; x ) = w x (w , w , y ; x ) + w x

Short-Run Costs

called total variable cost.

The cost of the fixed inputs, w x , is called total fixed cost.

Properties of Short-Run Costs

For a given level of output, long-run costs (where the firm can set

all input levels) cannot be greater than short-run costs (where the

firm cannot set all input levels).

This is because the feasible region for z of the short-run problem is

a subset of the feasible region of the long-run problem.

Any feasible z in the short-run problem is feasible in the long-run

problem, but not vice versa.

In general, if set A B, then for any function g :

xA xB

xA xB

Homework #2

I will return Homework #1 next week.

Please read the rest of Chapter 3, then we will move to

Chapter 7.

- Managerial EconomicsUploaded byKashif Raheem
- solowUploaded byKim Barrios
- 01 Demand and Supply AnalysisUploaded byyajur_nagi
- Types of CostsUploaded byImranShahzadkhan
- 2Uploaded byAndri Wahyu Dinata
- Limit of sequences_solution.pdfUploaded byChai Usajai Usajai
- Bloom Canning Sevilla 2004Uploaded byCynthia Camacho
- The Law of Returns to ScaleUploaded byLino Varghese
- Unit 5 Business EconomicsUploaded byMitika Mahajan
- 1Uploaded byHarsh Jain
- Profit_maximisation_slides.pdfUploaded byTinashe Majada
- Production Function2Uploaded byVaibhav Sharma
- 48727302-Baumol’s-Sales-Maximisation-ModelUploaded byBenard Odero
- Checklist Paper WritingUploaded byimtiaz_esmat_shafqat
- ECON201 FinalWinter2013 AnswersUploaded byiamnuai
- Consumer Preferences, Tachnological Change and the Short Run Eleasticity of Metal DemandUploaded byergan
- Lecture 08MP 10-11 1s-0Uploaded byFranco Imperial
- FCprofitetcUploaded byShafayat Alam
- p09_apr04Uploaded bysupunnadeeka
- Lecturenote Growth (1)Uploaded byTinotenda Dube
- Lecture 12 - FOP, Demand n SupplyUploaded byDhanush Vk
- Session 6.pptxUploaded byJephthah Bansah
- Synopsis II MEUploaded byDeepak Bhatia
- US Federal Reserve: ifdp788rUploaded byThe Fed
- Cucet Msc Mathematics Question Paper 2014Uploaded byLearn things
- C11_6_3.pdfUploaded byHimanshi
- Exercise-02-Int-Eco-Kürner.pdfUploaded byPaul Kyrner
- ECON_CH_10+12Uploaded byAthira Husna
- Maths for economicsUploaded byMath Nerd
- MONOP298Uploaded byRAJAT SHARMA

- 2015 Global Go to Think Tank Index ReportUploaded bymm2015
- CLI-components-and-turning-points.pdfUploaded byMarcoJulioKolinsky
- swp674Uploaded byjpbrum2000
- items_upload-slides_SpatialEconomStata (1).pdfUploaded byMarcoJulioKolinsky
- Real Analysis NotesUploaded byjc224
- Spatial Econometrics ExampleUploaded byMarcoJulioKolinsky
- Lecture Notes JehleUploaded byMarcoJulioKolinsky
- Notes on Microeconomic Thoery (Nolan H. Miller) IIUploaded byDavid A. Barraza
- microeco-firsthalfUploaded bypantsonupant

- Foundation of Economics NotesUploaded byrosa
- Macroeconomics of HappinessUploaded byzonius
- The Two Enterprises of Law and Economics R CooterUploaded byMrlechuga20
- KATIETeaching Economics Through Simulations BrantleyUploaded byBen Neo
- Airoldi Essays on Healthcare Priority Setting for Population HealthUploaded bynatafletz
- The Microeconomics of InsuranceUploaded byJuanacho001
- Discovering High Utility Item Sets to Achieve Lossless Mining using Apriori AlgorithmUploaded byEditor IJRITCC
- ijrcm-1-IJRCM-1_vol-5_2014_issue-09Uploaded byRamchandra Murthy
- Topic - 7 (Uncertainty).pptUploaded bymusabbir
- 05 Economic Principles TxtUploaded byMumba Mubanga
- LSE 100 Summary NotesUploaded byOKBYENOW
- Paul Mattick - Economic Crisis & Crisis TheoryUploaded byblinkwheeze
- Economics Power GuideUploaded byMrMonday1123
- MicroeconomicsUploaded byCha
- irjfe_36_13Uploaded bySwadeep Chhetri
- [Lok Sang Ho (Auth.)] Principles of Public PolicyUploaded byMaugahn Muff-Wheeler
- Stand up econ no calculus.pdfUploaded byMax Sauberman
- 211458906-A-STUDY-ON-CONSUMER-PREFERENCE-WITH-SPECIAL-REFERENCE-TO-POTHYS-AT-TIRUNELVELI (1).pdfUploaded byRUJO PAUL
- Income and Substitution EffectsUploaded byakansh_09
- Investigation of JPS Billing and Metering for Electricity ConsumptionUploaded byKarl O. Munroe
- Gambling America: Balancing the Risks of Gambling and Its Regulation, Cato Policy Analysis No. 349Uploaded byCato Institute
- EC107-a1Uploaded byRobert Radoslav
- 1992 Nonintrusive Appliance Load MonitoringUploaded byMihaela Loghin
- 07sgUploaded bymnrao62
- Micro I notes all chapters.docUploaded bytegegn mogessie
- Lecture Notes Interchange of Power and EnergyUploaded byAbhinandh Ezio BG
- e201f07_hw_ch3bUploaded byAdielah Hassim
- Cost Control EfficienciesUploaded bysarah
- the Structure of Economics by Eugene SilberbergUploaded bymabel diz marques
- Development Eco F.tradeUploaded bybaron32aka