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Unformatted text preview: 1 3-1 Aggregate Production and Productivity, Part 1 3-2 Agenda 1. Aggregate Production 2. Production Functions 3. Supply Shocks 4. Distribution of National Income 3-3 Determinants of Aggregate Production Real GDP is determined by: 1. The amount of the factors of production , and 2. The production function which shows how firms transform factors of production into output of goods and services through the application of technology (or productivity). 3-4 Determinants of Aggregate Production For the aggregate economy, the factors of production are: 1. Labor ( L ), the number of worker hours, and 2. Capital ( K ), the stock of productive assets. Technology ( A) determines the productivity of the factors of production. 2 3-5 Determinants of Aggregate Production The economys production function is: Y = A * F ( K , L ) This shows how much output ( Y ) can be produced from given amounts of capital ( K ) and labor ( L ) and from a given level of technology ( A ). The parameter A is a scalar and represents total factor productivity or the effectiveness with which the factors of production are used. 3-6 Determinants of Aggregate Production Total factor productivity is calculated as: A = Y K L (1- ) Total factor productivity is like a recipe that indicates how to use capital and labor together to produce economic output. 3-7 Determinants of Aggregate Production A more specific production function that works well in macroeconomics is the Cobb- Douglas production function : Y = AK L (1- ) For the U.S. economy it would be: Y = AK 0.3 L 0.7 3-8 Determinants of Aggregate Production The Cobb-Douglas production function has: 1. Constant returns to scale ....
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- Fall '08