Lecture 2 - 10/5/2009 1 NATIONAL INCOME IN THE LONG RUN...

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Unformatted text preview: 10/5/2009 1 NATIONAL INCOME IN THE LONG RUN NATIONAL INCOME IN THE LONG RUN EC205.01 ‐ FALL 2009 ‐ ALPER 1 OUTLINE y Long – run behavior: (assumptions) y Flexible prices y All markets are in equilibrium y Full employment of fixed factors of production y Firm behavior – determination of production level y Distribution of income across households y Does the sum of consumption demand, investment demand and government expenditures equal the supply of goods? EC205.01 ‐ FALL 2009 ‐ ALPER 2 What determines the production of goods and services? y Factors of production: y K: Tools, machines and structures used in production y L: physical and mental efforts of workers y Assume: both K and L are fixed and exogenous y Assume: both K and L are fixed and exogenous y Characterization of long run y Full employment of resources y Production Function: y Assume: F( , ) is CRTS y is the “natural level of output” EC205.01 ‐ FALL 2009 ‐ ALPER 3 L L K K = = , ( ) L K F Y , = ( ) Y F K,L = 10/5/2009 2 Returns to Scale Initially Y 1 = F ( K 1 , L 1 ) Scale all inputs by the same factor z : K 2 = zK 1 and L 2 = zL 1 ( e.g. , if z = 1.25, then all inputs are increased by 25%) What happens to output, Y 2 = F ( K 2 , L 2 )? y If constant returns to scale , Y 2 = zY 1 y If increasing returns to scale , Y 2 > zY 1 y If decreasing returns to scale , Y 2 < zY 1 EC205.01 ‐ FALL 2009 ‐ ALPER 4 Example 1 ( , ) F K L KL = ( , ) ( )( ) F zK zL zK zL = z KL = 2 EC205.01 ‐ FALL 2009 ‐ ALPER 5 z KL z KL = 2 z KL = ( , ) zF K L = constant returns to scale for any z > 0 Example 2 ( , ) F K L K L = + ( , ) F zK zL zK zL = + z K z L = + EC205.01 ‐ FALL 2009 ‐ ALPER 6 z K z L + ( , ) z F K L = decreasing returns to scale for any z > 1 ( ) z K L = + 10/5/2009 3 Example 3 ( , ) F K L K L = + 2 2 ( , ) ( ) ( ) F zK zL zK zL = + 2 2 EC205.01 ‐ FALL 2009 ‐ ALPER 7 ( , ) z F K L = 2 increasing returns to scale for any z > 1 ( ) z K L = + 2 2 2 Example 4 ( , ) K F K L L = 2 ( ) ( , ) zK F zK zL zL = 2 EC205.01 ‐ FALL 2009 ‐ ALPER 8 z K zL = 2 2 K z L = 2 ( , ) zF K L = constant returns to scale for any z > 0 Example 5 ( , ) F K L K L = + ( , ) F zK zL zK zL = + ( ) z K L + EC205.01 ‐ FALL 2009 ‐ ALPER 9 ( ) z K L = + ( , ) zF K L = constant returns to scale for any z > 0 10/5/2009 4 Distribution of income among factors of production y Assume y Fixed technology y Perfect competition y Competitive firms y How much to pay for each factor of production? y Wage rate and rental rate y Supply of factors are fixed. Demand?...
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This note was uploaded on 12/27/2009 for the course ECONOMICS ec 205.1 taught by Professor Emrealper during the Spring '09 term at Boğaziçi University.

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Lecture 2 - 10/5/2009 1 NATIONAL INCOME IN THE LONG RUN...

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