mankiw7e-chap03

mankiw7e-chap03 - Chapter 3 - The Long-run Model National...

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National Income: Where it Comes From and Where it Where it Comes From and Where it Goes (in the long -run) run) Chapter 3 - The Long-run Model In this chapter, you will learn: what determines the economy’s total output/income in the long-run. 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 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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Factors of production K = capital: tools, machines, and structures used in production L = labor: the physical and mental efforts of workers 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 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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Assumptions 1. Technology is fixed. 2. The economy’s supplies of capital and labor are fixed at and K K L L Determining GDP – in the Long-run Output is determined by the fixed factor supplies and the fixed state of technology: , ( ) Y F K L The distribution of national income determined by factor prices , the prices per unit firms pay for the factors of production wage = price of L rental rate = price of K
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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 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? 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
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Marginal product of labor ( MPL ) definition: The extra output the firm can produce using an additional unit of labor (holding other inputs fixed): NOW YOU TRY: Compute & graph MPL a. Determine MPL at each value of L. b. Graph the production function. c. Graph the MPL curve with MPL on the vertical axis and L on the horizontal axis. L Y MPL 0 0 n.a. 1 11 ? 2 21 ? 3 30 9 4 38 ? 5 45 ? 6 51 ? 7 56 ? 8 60 ? Y output MPL and the production function L labor F K L ( , ) 1 MPL 1 MPL 1 MPL As more labor is added, MPL Slope of the production function equals MPL
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Diminishing marginal returns As a factor input is increased, its marginal product falls (other things equal).
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mankiw7e-chap03 - Chapter 3 - The Long-run Model National...

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