mankiw7e-chap03 - Chapter 3 National Income...

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1 CHAPTER 3 National Income In this chapter, you will learn: In this chapter, you will learn: Chapter 3: National Income what determines the economy’s total output/income how the prices of the factors of production are determined how total income is distributed what determines the demand for goods and services how equilibrium in the goods market is achieved
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2 CHAPTER 3 National Income Outline of model A closed economy, market-clearing model Supply side factor markets (supply, demand, price) determination of output/income Demand side determinants of C, I, and G Equilibrium goods market loanable funds market
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3 CHAPTER 3 National Income Factors of production K = capital: tools, machines, and structures used in production L = labor: the physical and mental efforts of workers
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4 CHAPTER 3 National Income The production function:  Y = F(K,L) shows how much output ( Y ) the economy can produce from K units of capital and L units of labor reflects the economy’s level of technology exhibits constant returns to scale
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5 CHAPTER 3 National Income Returns to scale:  A review 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 = 1.2, then all inputs are increased by 20%) What happens to output, Y 2 = F ( K 2 , L 2 )? If constant returns to scale , Y 2 = zY 1 If increasing returns to scale , Y 2 > zY 1 If decreasing returns to scale , Y 2 < zY 1
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6 CHAPTER 3 National Income Assumptions 1. Technology is fixed. 2. The economy’s supplies of capital and labor are fixed at and K K L L = = Determining GDP Output is determined by the fixed factor supplies and the fixed state of technology: , = ( ) Y F K L
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7 CHAPTER 3 National Income The distribution of national income determined by factor prices , the prices per unit firms pay for the factors of production wage = price of L ren tal rate = price of K
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8 CHAPTER 3 National Income Notation W = nominal wage R = nominal rental rate P = price of output W / P = real wage (measured in units of output) R / P = real rental rate
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9 CHAPTER 3 National Income How factor prices are determined Factor prices are determined by supply and demand in factor markets. Recall: Supply of each factor is fixed. What about demand?
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10 CHAPTER 3 National Income Demand for labor Assume markets are competitive: each firm takes W , R , and P as given. Basic idea: A firm hires each unit of labor if the cost does not exceed the benefit. cost = real wage benefit = marginal product of labor ( , ) profit PF L K WL KR = - -
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11 CHAPTER 3 National Income Marginal product of labor ( MPL   ) definition: The extra output the firm can produce using an additional unit of labor (holding other inputs fixed): MPL = F ( K , L +1) – F ( K , L ) = ( , ) F K L L
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CHAPTER 3 National Income MPL and the production function  F K L ( , ) Y
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This note was uploaded on 06/12/2011 for the course ECON 101 taught by Professor Dee during the Spring '10 term at Andhra University.

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mankiw7e-chap03 - Chapter 3 National Income...

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