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Below is a review of the math you need to know for this course. Anytime I write a letter
like a, b, c this is a constant. A letter like x or y is a variable. Functions are represented by
f, g, and h.
Algebra
ax + b = c x =
cb
a
xa (xb + c) = xa xb + xa c = xa+b + xa c
For example: e2x+5 = e2x e5 = ex+x e5 = ex ex e5 = (ex )2 e5
Remember: ea+b = ea eb but ea eb 6= eab . People will say this on a test!
log(xa ) = a log x
Derivatives:
Whats a derivative? Its the tangent to a curve and it measures the change in y
associated with an infinitesimal change in x. The intuition behind derivatives is
that they are given by y(x)
as x gets really small. For large (x) this looks like
x
yHxL
2.0
1.5
1.0
0.5
0.2
0.4
0.6
0.8
1.0
1.2
the formula for a slope of a line going through your curve. As (x) gets really
small, this becomes the tangent just touching your curve.
yHxL
2.5
2.0
1.5
1.0
0.5
0.2
0.4
0.6
0.8
1.0
1.2
df
Notation for derivatives is f 0 (x) = dx
= f
where we use the symbol in multix
variate settings (well talk about this later).
We are often interested in the derivative with respect to time. In this case, and
this case only, we denote the derivative f 0 (t) = f. Notice that in discrete time,
(t)
(t)
we have t = 1 so that f ft(t) = f (t+1)f
= f (t+1)f
t+1t
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One example of an important derivative to know is f (x) = b ln(x) f 0 (x) =
b
x
g(x)
h(x)
f 0 (x) =
g 0 (x)h(x)g(x)h0 (x)
(h(x))2
1
y
1
1
= 3
h(x)
x
Also,
h0 (x) = 3x2
Then
f 0 (x) = g 0 (h(x))h0 (x) =
3
3x2
=
3
x
x
xb
= (y + 3)
|
{z x}
= (y + 3)bxb1
Then we can take multiple derivates, first with respect to x and then with
respect to y. It turns out that the order in which you do this (generally)
doesnt matter. Letting f (x, y) = xb (y + 3) again, we have
(x,y)
fx
(y + 3)bxb1
=
= bxb1
fxy (x, y) = fyx (x, y) =
y
y
Unconstrained Maximization :
Suppose that for every point in time, a producer wants to choose the optimal
amount of capital to maximize his output (weird problem, I know). Then, if
production was given by y(t) = 3 + 3k(t) k(t)2 , he would solve the problem
max 3 + 3k(t) k(t)2
k(t)
This function looks like: In order to find the maximum, we find the level of k such
yHtL
5
0.5
1.0
1.5
2.0
2.5
3.0
3.5
kHtL
that the derivative of y(t) with respect to k(t) is equal to 0. This gives the first
order condition:
y(t)
= 0 3 2k(t) = 0
k(t)
k(t)optimal =
3
2
We also have to check that this is a maximum rather than a minimum (since
derivatives are zero at both local maxima and local minima. A maximum occurs
anytime the function is concave, like the one I drew above. To see that the point
your getting is a maximum, its enough to draw the picture, or you can check for
concavity. A function is concave when f 00 (x) < 0. In other words, the derivative
is decreasing. In our case, this means
y 0 (k(t)) = 3 2k(t) SOSC: f 00 (k(t)) = 2 < 0
Constrained Maximization:
3
g(x, y) will have x and y enter negatively because its constraining you from
choosing high values of x, y. You will in this case have three equations and three
unknowns, which means you can solve for x, y, and . When the constraint is
binding, these equations will be the three first order conditions of the maximization problem :
L
=0
x
L
=0
y
L
= g(x, y) = 0
We will talk again (in great detail) about the details of maximization and constrained maximization. Now, well do a couple of practice problems similar to whats on your homework.
1. Suppose that to pick coconuts, Robinson Cruso has the following production function:
1
coconuts produced = c(K, L) = 5L L2 + K 2 . Is this production function CRS?
To check this, we need to see if multiplying all the inputs by some positive number
causes the output to multiply by exactly that same number. Notice that
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c(K, L) = 5L 2 L + 2 K 2
To see that this is not CRS, we have to only give one counterexample. A counterexample is a level of K and L and an at which c(K, L) 6= c(K, L). Let
= 2 and let L = K = 1. Then,
1
c(K, L) = 5L L2 + K 2
c(1, 1) = 5 1 + 1 = 5
c(2, 2) = 10 4 + 2 = 6 + 2
c(2, 2) 6= 2c(1, 1)
1