of economic analysis
Adrianus T. de Hoop,
1
Laboratory of Electromagnetic Research,
Faculty of Electrical Engineering, Mathematics and Computer Science,
Delft University of Technology, 4 Mekelweg, 2628 CD Delft, the Netherlands
Copyright c 2008 Laboratory of Electromagnetic Research
All rights reserved.
No parts of this publication may be reproduced,
stored in a retrieval system, or transmitted,
in any form or by any means, electronic,
mechanical, photocopying, recording, or otherwise,
without the prior written permission of the
Laboratory of Electromagnetic Research.
1
E: a.t.dehoop@tudelft.nl
A.T.de Hoop Concise mathematics of economic analysis 1
Abstract
A concise introduction to the major (deterministic) mathematical methods of economic
analysis is presented, arranged as
aims and scopes
mathematical concepts
mathematical tools (dierential calculus)
mathematical tools (integral calculus)
mathematical tools (miscellaneous)
special functions
optimization techniques
examples and applications
A.T.de Hoop Concise mathematics of economic analysis 2
=01 ECONOMIC ANALYSIS  AIMS AND SCOPE =
01.01 ECONOMIC ANALYSIS  AIMS AND SCOPE
ECONOMIC ANALYSIS aims at developing tools for OPTIMIZING
(i.e. MAXIMIZING or MINIMIZING ) economic or business processes via
MATHEMATICAL MODELS that express the FUNCTIONAL DEPENDENCE
of the TARGETS on their ENDOGENOUS factors (variables) EXOGENOUS
(parameters). The OPTIMIZATION CRITERION usually takes the form of a
(sometimes large) number of STRUCTURAL EQUATIONS that interrelate the
OPTIMUM VALUES of the variables for a given set of parameters.
01.02 OPTIMIZATION PROCEDURE
The OPTIMIZATION PROCEDURE takes place via an analysis of the
LOCAL DIFFERENTIAL BEHAVIOR of the TARGET FUNCTION . This
behavior is produced with the TAYLOR EXPANSION of the target function. This
expansion is constructed with the aid of DIFFERENTIATION and INTEGRATION
operations on the target function.
01.03 MODEL TARGET FUNCTIONS
Simple MODEL TARGET FUNCTIONS are combinations of
ALGEBRAIC FUNCTIONS (sums, dierences, products, quotients, powers) and
SIMPLE TRANSCENDENTAL FUNCTIONS (exponentials, logarithms) of the
parameters and variables.
01.04 STRUCTURAL EQUATIONS
For a large number of variables the bookkeeping of the STRUCTURAL EQUATIONS
takes place via MATRIX or ARRAY ALGEBRA , for which ecient computer software
exists (e.g. Matlab
TM
).
A.T.de Hoop Concise mathematics of economic analysis 3
=02 MATHEMATICAL CONCEPTS =
02.01 ABSOLUTE VALUE
For any x R, the absolute value x of x is dened as
x = {x, 0, x} for {x < 0, x = 0, x > 0}
Property:
x + y x +y
02.02 INEQUALITIES
For any (a, b) R, either a < b or a = b or a > b holds. (The real numbers form an
ordered sequence.)
a < b = a b < 0 = b < a
a = b = a b = 0 = b = a
a > b = a b > 0 = b > a
02.03 POWERS
Powers (x = 0):
x
0
= 1
x
n
= x x
n1
for n = 1, 2, 3, . . .
_
x
m
y
n
_
p
=
_
x
m
y
n
_
p
= x
pm
y
pn
A.T.de Hoop Concise mathematics of economic analysis 4
02.04 FACTORIAL
Factorial {n!; n = 1, 2, 3, . . . }:
1! = 1
n! = n (n 1)! for n = 2, 3, . . .
0! = 1 by denition
02.05 SEQUENCES, SERIES
A sequence is an ordered set of numbers
{x
1
, . . . , x
N
; N 1}
or
{x
0
, . . . , x
N
; N 0}
Their (partial) sums are the series
S
n
1
=
n
k=1
x
k
for 1 n N
or
S
n
0
=
n
k=0
x
k
for 0 n N
Property:
S
n
1

n
k=1
x
k
 for 1 n N
n max
{1kn}
(x
k
)
Property:
S
n
0

n
k=0
x
k
 for 0 n N
(n + 1) max
{0kn}
(x
k
)
A.T.de Hoop Concise mathematics of economic analysis 5
02.06 ARITHMETIC PROGRESSION (ARITHMETIC SEQUENCE)
Arithmetic progression (arithmetic sequence) {a
n
; n = 0, . . . , N; d R}:
a
n
= a
n1
+ d for n = 1, . . . , N
a
0
= initial term
d = common dierence of successive members
=
a
n
= a
0
+ n d for n = 0, 1, 2, . . .
02.07 ARITHMETIC SERIES (SUM)
Arithmetic series (sum) {a
n
; n = 0, . . . , N; d R}:
S
N
=
N
n=0
a
n
=
N
n=0
(a
0
+n d)
=
N
n=0
(a
N
n d) (counting backwards)
=
2S
N
= (N + 1) (a
0
+ a
N
)
=
S
N
=
1
2
(N + 1) (a
0
+ a
N
)
02.08 GEOMETRIC PROGRESSION (GEOMETRIC SEQUENCE)
Geometric progression (geometric sequence) {a
n
; n = 0, . . . , N; r = 0}:
a
n
= a
n1
r for n = 1, . . . , N
a
0
= scale factor
r = common ratio of successive members
=
a
n
= a
0
r
n
for n = 1, 2, 3, . . .
A.T.de Hoop Concise mathematics of economic analysis 6
02.09 GEOMETRIC SERIES (SUM)
Geometric series (sum) {a
n
; n = 0, . . . , N; d R}:
S
N
=
N
n=0
a
n
=
N
n=0
a
0
r
n
= a
0
n=0
r
n
= a
0
+a
0
n=1
r
n
=
r S
N
= a
0
n=0
r
n+1
= a
0
n=1
r
n
+ a
0
r
N+1
=
(1 r)S
N
= a
0
(1 r
N+1
)
=
S
N
= a
0
1 r
N+1
1 r
for r = 1
Exercise: Show that
a
N+1
b
N+1
a b
=
N
n=0
a
Nn
b
n
for N = 0, 1, 2, . . .
(Hint: Use the sum formula for the geometric series with a
0
= 0 and r = b/a.)
Exercise: Show that
a
N+1
+b
N+1
a +b
=
N
n=0
(1)
n
a
Nn
b
n
for N = 0, 1, 2, . . .
(Hint: Use the sum formula for the geometric series with a
0
= 0 and r = b/a.)
A.T.de Hoop Concise mathematics of economic analysis 7
02.10 AVERAGES
Given is the sequence: {a
1
, . . . , a
N
}
Arithmetic average (Arithmetic mean):
m
A
=
1
N
N
n=1
a
n
Geometric average (Geometric mean):
m
G
=
_
N
n=1
a
n
_
1/N
Harmonic average (Harmonic mean):
1
m
H
=
1
N
N
n=1
1
a
n
Property: It can be shown (by induction) that
m
A
m
G
m
H
02.11 FUNCTIONS
y = f(x, p) : {x D
var
, p D
par
}
f(x,p)
{y R
fun
}
D
var
: domain of variables {x}
D
par
: domain of parameters {p}
R
fun
: range of function (operator) f
NOTE: In optimization theory, usually only the variable to be optimized is made explicit
in the list of function arguments
02.12 VENN DIAGRAM
D
var
D
par
f
R
fun
02.13 GRAPH
y = f(x, p) : x horizontal axis, y vertical axis, p in gure text
A.T.de Hoop Concise mathematics of economic analysis 8
02.14 LANDAU ORDER SYMBOLS O AND o
The Landau Order symbol O
If two functions f(x) and g(x) are dened on the same domain D
var
, the Landau Order
symbol O expresses that
f(x) = O[g(x)] for x D
var
if for some A > 0 the relation
f(x) < A g(x) for all x D
var
holds.
The Landau order symbol o
If two functions f(x) and g(x) are dened on the same domain D
var
and x
0
D
var
is an
interior point of D
var
, the Landau order symbol o expresses that
f(x) = o[g(x)] as x x
0
if for some m(x a) > 0 the relation
f(x) < m(x a) g(x) as x a
holds, where
m(x a) 0 as x a
02.15 LINEAR FUNCTION
The function
f(x) = a x + b with a = 0
is a linear function of x, dened on R. Its (single) zero x
1
follows from
f(x
1
) = 0
as
x
1
=
b
a
The graph of f(x) is a straight line.
A.T.de Hoop Concise mathematics of economic analysis 9
02.16 QUADRATIC FUNCTION
The function
f(x) = a x
2
+b x + c with a = 0
is a quadratic function of x, dened on R. Its two zeros x
1
and x
2
follow from
f(x) = a
_
_
x +
b
2 a
_
2
_
_
b
2 a
_
2
c
a
__
and
f(x
1
) = 0 ; f(x
2
) = 0
as
x
1
=
b
2 a
_
b
2
4 a
2
c
a
_
1/2
if
b
2
4 a
2
c
a
0
x
2
=
b
2 a
+
_
b
2
4 a
2
c
a
_
1/2
if
b
2
4 a
2
c
a
0
If b
2
/4 a
2
c/a < 0, f(x) has no (realvalued) zeros.
If b
2
/4 a
2
c/a = 0, the two zeros off(x) coincide.
The stationary point x
0
of f(x) follows from
x
f(x)
x=x
0
= 0
with
x
f(x) = 2 a x + b
as
x
0
=
b
2 a
The graph of f(x) is a parabola.
A.T.de Hoop Concise mathematics of economic analysis 10
02.17 CAUCHYSCHWARZ INEQUALITY
The quadratic function of
n=1
( a
n
+ b
n
)
2
=
2
_
N
N=1
a
2
n
_
+ 2
N
N=1
(a
n
b
n
) +
_
N
N=1
b
2
n
_
is nonnegative for any value of . This leads to (see Section 2.16):
_
N
N=1
(a
n
b
n
)
_
2
_
N
N=1
a
2
n
_
_
N
N=1
b
2
n
_
(CauchySchwarz inequality)
A.T.de Hoop Concise mathematics of economic analysis 11
=03 MATHEMATICAL TOOLS (DIFFERENTIAL CALCULUS) =
03.01 DERIVATIVE OF A LINEAR FUNCTION ON A BOUNDED INTERVAL
X : {x R; x
0
x x
1
}
f(x) =
x
1
x
x
1
x
0
f(x
0
) +
x x
0
x
1
x
0
f(x
1
) for x X (x
0
x x
1
)
=
f(x
1
) f(x
0
) =
f(x
1
) f(x
0
)
x
1
x
0
(x
1
x
0
)
df = f(x
1
) f(x
0
) = dierential of f
dx = x
1
x
0
= dierential of x
f(x
1
) f(x
0
)
x
1
x
0
=
x
f(x) = (rstorder) derivative of f for x X
=
df =
x
f(x) dx on X
03.02 DERIVATIVE OF A PIECEWISE LINEAR FUNCTION ON A BOUNDED
INTERVAL X =
N
n=1
X
n
; X
n
= {x R; x
n1
x x
n
; n = 1, . . . , N}
f(x) =
x
n
x
x
n
x
n1
f(x
n1
) +
x x
n1
x
n
x
n1
f(x
n
) for x X
n
(x
n1
x x
n
)
=
f(x
n
) f(x
n1
) =
f(x
n
) f(x
n1
)
x
n
x
n1
(x
n
x
n1
)
df
n
= f(x
n
) f(x
n1
) = dierential of f on X
n
dx
n
= x
n
x
n1
= dierential of x on X
n
f(x
n
) f(x
n1
)
x
n
x
n1
=
x
f(x)
n
= (rstorder) derivative of f on X
n
=
df
n
=
x
f(x)
n
dx
n
on X
n
A.T.de Hoop Concise mathematics of economic analysis 12
03.03 DERIVATIVE OF A DIFFERENTIABLE FUNCTION ON A BOUNDED
INTERVAL X
If for any x X
x
f
= lim
x0
f(x + x) f(x)
x
left derivative at x
and
x
f
+
= lim
x0
f(x + x) f(x)
x
right derivative at x
exist, and
x
f
=
x
f
+
f is dierentiable at x and
x
f
=
x
f
+
=
x
f (rstorder) derivative of f at x
03.04 LOCAL DIFFERENTIAL OF A DIFFERENTIABLE FUNCTION
If f(x) is dierentiable on X then
df =
x
f dx
df = dierential of f at x
dx = dierential of x at x
x
f = (rstorder) derivative of f at x
03.05 HIGHERORDER DERIVATIVES
0
x
f(x) = f(x)
n
x
f(x) =
x
[
n1
x
f(x)] for n = 1, . . .
n
x
f(x) = nth order derivative of f at x
A.T.de Hoop Concise mathematics of economic analysis 13
=04 MATHEMATICAL TOOLS (INTEGRAL CALCULUS) =
04.01 INTEGRAL OF A LINEAR FUNCTION OVER A BOUNDED INTERVAL
X : {x R; x
0
x x
1
}
f(x) =
x
1
x
x
1
x
0
f(x
0
) +
x x
0
x
1
x
0
f(x
1
) for x X (x
0
x x
1
)
=
1
2
[f(x
1
) +f(x
0
)] (x
1
x
0
) =
_
x
1
x=x
0
f(x)dx = integral of f over X
(area of trapezoid)
04.02 INTEGRAL OF A PIECEWISE LINEAR FUNCTION OVER A BOUNDED
INTERVAL X =
N
n=1
X
n
; X
n
= {x R; x
n1
x x
n
; n = 1, . . . , N}
f(x) =
x
n
x
x
n
x
n1
f(x
n1
) +
x x
n1
x
n
x
n1
f(x
n
) for x X
n
(x
n1
x x
n
)
_
x
N
x=x
0
f(x)dx =
N
n=1
_
x
n
x=x
n1
f(x)dx =
N
n=1
1
2
[f(x
n
) +f(x
n1
)] (x
x
x
n1
)
(trapezoidal integration rule)
04.03 INTEGRAL OF AN INTEGRABLE FUNCTION OVER A BOUNDED
INTERVAL X
If for all piecewise linear approximations to f(x) dened on the bounded interval
X =
N
n=1
X
n
; X
n
= {x R; x
n1
x x
n
; n = 1, . . . , N}
_
X
f(x)dx = lim
N,x
n
x
n1
0
N
n=1
1
2
[f(x
n
) + f(x
n1
)] (x
x
x
n1
)
exists, then
_
X
f(x)dx is the integral of f(x) over the interval X.
Property:
_
b
x=a
f(x)dx
_
b
x=a
f(x) dx
b a max
{axb}
f(x)
A.T.de Hoop Concise mathematics of economic analysis 14
04.04 FUNDAMENTAL THEOREM OF INTEGRAL CALCULUS FOR
PIECEWISE LINEAR FUNCTION ON BOUNDED INTERVAL
X =
N
n=1
X
n
; X
n
= {x R; x
n1
x x
n
; n = 1, . . . , N}
For any piecewise linear function dened on X
f(x) =
x
n
x
x
n
x
n1
f(x
n1
) +
x x
n1
x
n
x
n1
f(x
n
) for x X
n
(x
n1
x x
n
)
we have
x
f(x) =
x
f(x)
n
=
f(x
n
) f(x
n1
)
x
n
x
n1
for x X
n
Hence,
_
x
N
x=x
0
x
f(x)dx =
N
n=1
_
x
n
x=x
n1
x
f(x)
n
dx =
N
n=1
x
f(x)
n
(x
n
x
n1
)
=
N
n=1
f(x
n
) f(x
n1
)
x
n
x
n1
(x
n
x
n1
) =
N
n=1
[f(x
n
) f(x
n1
)]
= f(x
N
) f(x
0
)
04.05 FUNDAMENTAL THEOREM OF INTEGRAL CALCULUS FOR
FUNCTIONS WITH INTEGRABLE DERIVATIVE ON BOUNDED INTERVAL X
For any function f(x) dened on the bounded interval X = {x R; a x b}, with
integrable derivative
x
f(x) on X,
_
b
x=a
x
f(x)dx = f(b) f(a) = f(x)
x=b
x=a
A.T.de Hoop Concise mathematics of economic analysis 15
=05 MATHEMATICAL TOOLS (MISCELLANEOUS) =
05.01 BINOMIAL THEOREM
Binomial expansion ({B
N
n
; n = 0, . . . , N} = sequence of binomial coecients):
(x + y)
N
=
N
n=0
B
N
n
x
Nn
y
n
Evidently,
B
0
0
= 1
B
1
0
= 1 B
1
1
= 1
Recursion formula:
(x + y)
N+1
= (x +y) (x + y)
N
=
N+1
n=0
B
N+1
n
x
N+1n
y
n
= (x +y)
N
n=0
B
N
n
x
Nn
y
n
=
N
n=0
B
N
n
[x
Nn
y
n+1
+ x
N+1n
y
n
]
=
N+1
m=1
B
N
m1
x
N+1m
y
m
+
N
n=0
B
N
n
x
Nn+1
y
n
=
B
N+1
0
= B
N
0
= 1
B
N+1
N+1
= B
N
N
= 1
B
N+1
n
= B
N
n1
+ B
N
n
for n = 1, . . . , N
Pascals triangle:
PASCALS TRIANGLE
N B
N
n
0 1
1 1 1
2 1 2 1
3 1 3 3 1
4 1 4 6 4 1
5 1 5 10 10 5 1
A.T.de Hoop Concise mathematics of economic analysis 16
05.02 DERIVATIVE OF THE FUNCTION f(x) = x
N
; N = 0, 1, 2, . . .
Derivative of f(x) = x
N
; N = 0, 1, 2, . . . ,:
x
f(x) = lim
x0
f(x + x) f(x)
x
= lim
x0
(x + x)
N
x
N
x
= lim
x0
(
N
n=0
B
N
n
x
Nn
(x)
n
x
N
x
= B
N
1
x
N1
= N x
N1
=
x
x
N
= N x
N1
for N = 0, 1, 2, . . .
05.03 DERIVATIVE OF THE PRODUCT OF TWO LINEAR FUNCTIONS
ON A BOUNDED INTERVAL X : {x R; x
0
x x
1
}
f(x) =
x
1
x
x
1
x
0
f(x
0
) +
x x
0
x
1
x
0
f(x
1
) for x X (x
0
x x
1
)
=
x
f(x) =
f(x
1
) f(x
0
)
x
1
x
0
g(x) =
x
1
x
x
1
x
0
g(x
0
) +
x x
0
x
1
x
0
g(x
1
) for x X (x
0
x x
1
)
=
x
g(x) =
g(x
1
) g(x
0
)
x
1
x
0
= (via
x
(x x
0
)
2
= 2 (x x
0
)) :
x
[f(x) g(x)] = [
x
f(x)] g(x) + f(x) [
x
g(x)]
05.04 PRODUCT RULE IN DIFFERENTIATION ON A BOUNDED INTERVAL
BOUNDED INTERVAL X
x
[f(x) g(x)] = [
x
f(x)] g(x) + f(x) [
x
g(x)] for x X
A.T.de Hoop Concise mathematics of economic analysis 17
05.05 INTEGRATION BY PARTS ON A BOUNDED INTERVAL
X = {x R; a x b}
_
b
x=a
{[
x
f(x)] g(x) + f(x) [
x
g(x)]}dx =
_
b
x=a
x
[f(x) g(x)]
= f(b) g(b) f(a) g(a) = f(x) g(x)
x=b
x=a
Note: Often this result is applied in the form:
_
b
x=a
{[
x
f(x)] g(x) = f(x) g(x)
x=b
x=a
_
b
x=a
f(x) [
x
g(x)]}dx
A.T.de Hoop Concise mathematics of economic analysis 18
05.06 TAYLOR EXPANSION WITH GLOBAL REMAINDER
(FUNCTION OF A SINGLE VARIABLE)
Note: Use Taylors trick
(x )
n
n!
=
_
(x )
n+1
(n + 1)!
_
for n = 0, 1, 2, . . .
in:
f(x) f(a) =
_
x
=a
f()d
=
_
x
=a
f()
_
(x )
1!
_
d)
=
_
f()
_
(x )
1!
_ _
x
=a
+
_
x
=a
f()
_
(x )
1!
_
d
= [
f()]
=a
(x a)
1!
_
x
=a
f()
_
(x )
2
(2)!
_
d
=
f(x) = f(a) +
N1
n=1
[
n
f()]
=a
(x a)
n
n!
+
_
x
=a
f()
(x )
N1
(N 1)!
d
where the (global) remainder after N terms (counting from N = 0) is
R
N
=
_
x
=a
f()
(x )
N1
(N 1)!
d
Let
f() M for a x
then
R
N
 M
_
x
=a
(x )
N1
(N 1)!
d
= M
x a
N
N!
or, equivalently,
R
N
= O[(x a)
N
] for all x R
A.T.de Hoop Concise mathematics of economic analysis 19
05.07 TAYLOR EXPANSION WITH LOCAL REMAINDER
(FUNCTION OF A SINGLE VARIABLE)
Note: Use Taylors trick
(x )
n
n!
=
_
(x )
n+1
(n + 1)!
_
for n = 0, 1, 2, . . .
in:
f(x) f(a) =
_
x
=a
f()d
=
_
x
=a
f()
_
(x )
1!
_
d)
=
_
f()
_
(x )
1!
_ _
x
=a
+
_
x
=a
f()
(x )
1!
d
= [
f()]
=a
(x a)
1!
+
_
x
=a
f()
_
(x )
2
(2)!
_
d
=
f(x) = f(a) +
N1
n=1
[
n
f()]
=a
(x a)
n
n!
+
_
x
=a
f()
(x )
N1
(N 1)!
d
However,
_
x
=a
f()
(x )
N1
(N 1)!
d = [
n
f()]
=a
_
x
=a
(x )
N1
(N 1)!
d +
_
x
=a
{
N
f() [
n
f()]
=a
}
(x )
N1
(N 1)!
d
= [
n
f()]
=a
(x a)
N
N!
+ r
N
r
N
=
_
x
=a
{
N
f() [
N
f()]
=a
}
(x )
N1
(N 1)!
d
In view of the assumed continuity of
N
f() [
N
f()]
=a
_
x
=a
(x )
N1
(N 1)!
d
= m(x a)
x a
N
N!
or, equivalently,
r
N
= o[(x a)
N
] as x a
A.T.de Hoop Concise mathematics of economic analysis 20
05.08 CHAIN RULE FOR DIFFERENTIATION
Let f(g) be a dierentiable function of g and g(x) be a dierentiable function of x on some
interval {x D
var
R}. Then Taylors expansion gives
g(x + x)) = g(x) +
x
g(x)
1
1!
x + o(x) as x 0
f(g + g)) = f(g) +
g
f(g)
1
1!
g + o(g) as g 0
where
g = g(x + x) g(x)
=
_
via
1
1!
= 1, o(g) = o(x)
_
:
f[g(x + x)] = f[g(x)] +
g
f(g)
x
g(x) x + o(x)
Using the denition of derivative, it follows that (chain rule for dierentiation)
x
f[g(x)] = lim
x0
f[g(x + x)] f[g(x)]
x
=
g
f(g)
x
g(x) for x D
var
A.T.de Hoop Concise mathematics of economic analysis 21
05.09a TAYLOR EXPANSION (FUNCTION OF TWO VARIABLES)
Consider the function of two variables f(x, y). To construct the Taylor expansion of f(x, y)
about x = x
0
, y = y
0
, we set x = x
0
+ t, y = y
0
+ t, in which and are xed,
subject to the condition
2
+
2
= 1, and t is the (single) variable into which the function
f(x
0
+ t, y
0
+ t) is Taylor expanded about t = 0. The result is:
f(x
0
+ t, y
0
+ t) = f(x
0
, y
0
) +
N
n=1
n
t
f(x
0
+ t, y
0
+ t)
t=0
t
n
n!
+ O(t
N+1
)
(global remainder)
or
f(x
0
+ t, y
0
+ t) = f(x
0
, y
0
) +
N
n=1
n
t
f(x
0
+ t, y
0
+ t)
t=0
t
n
n!
+ 0(t
N
)
(local remainder)
Now,
t
f(x
0
+ t, y
0
+ t) =
x
f(x
0
+ t, y
0
+ t) +
y
f(x
0
+ t, y
0
+ t)
and hence,
t
f(x
0
+ t, y
0
+ t)
t=0
=
x
f(x
0
+ t, y
0
+ t)
t=0
+
y
f(x
0
+ t, y
0
+ t)
t=0
=
x
f(x, y)
x=x
0
,y=y
0
+
y
f(x, y)
x=x
0
,y=y
0
=
(
x
+
y
)f(x, y)
x=x
0
,y=y
0
Consequently, using Newtons binomial theorem,
n
t
f(x
0
+ t, y
0
+ t)
t=0
=
(
x
+
y
)
n
f(x, y)
x=x
0
,y=y
0
=
_
n
p=1
B
n
p
(
x
)
np
(
y
)
p
)
_
f(x, y)
x=x
0
,y=y
0
Continued in Section 05.09b
A.T.de Hoop Concise mathematics of economic analysis 22
05.09b TAYLOR EXPANSION (FUNCTION OF TWO VARIABLES) (CONTD)
With (
np
p
)t
n
= (xx
0
)
np
(yy
0
)
p
and d(xx
0
, yy
0
) = [(xx
0
)
2
+(yy
0
)
2
]
1/2
>
0 as the Euclidean distance from {x
0
, y
0
} to {x, y}, the nal result can be written as
f(x, y) = f(x
0
, y
0
) +
N
n=1
1
n!
_
n
p=1
B
n
p
(x x
0
)
np
(y y
0
)
p
np
x
p
y
f(x, y)
x=x
0
,y=y
0
_
+O[d(x x
0
, y y
0
)
N+1
] (global remainder)
or
f(x, y) = f(x
0
, y
0
) +
N
n=1
1
n!
_
n
p=1
B
n
p
(x x
0
)
np
(y y
0
)
p
np
x
p
y
f(x, y)
x=x
0
,y=y
0
_
+o[d(x x
0
, y y
0
)
N
] as d(x x
0
, y y
0
) 0 (local remainder)
05.10 TAYLOR EXPANSION (EXERCISES)
Exercise: The twice dierentiable function f(x) is dened on the domain D
var
R. Show
that its Taylor expansion with local remainder about x
0
D
var
is given by
f(x) = f(x
0
) +
x
f(x)
x=x
0
(x x
0
) +
1
2
2
x
f(x)
x=x
0
(x x
0
)
2
+
o(x x
0
) as x x
0
Exercise: The twice dierentiable function f(x, y) is dened on the domain D
var
R
2
.
Show that its Taylor expansion with local remainder about (x
0
, y
0
) D
var
is given by
f(x, y) = f(x
0
, y
0
) +
x
f(x, y)
x=x
0
,y=y
0
(x x
0
) +
y
f(x, y)
x=x
0
,y=y
0
(y y
0
) +
1
2
2
x
f(x, y)
x=x
0
,y=y0
(x x
0
)
2
+
y
f(x, y)
x=x
0
,y=y0
(x x
0
) (y y
0
) +
1
2
2
y
f(x, y)
x=x
0
,y=y0
(y y
0
)
2
+
o[d(x x
0
, y y
0
)] as x x
0
A.T.de Hoop Concise mathematics of economic analysis 23
05.11 SYSTEMS OF LINEAR ALGEBRAIC EQUATIONS
(GAUSSIAN ELIMINATION)
The method of Gaussian elimination to solve systems of linear algebraic equations consists
of two parts:
rearrange the system into an upper triangular form
solve for the unknowns by back substitution
Rearrangement into upper triangular form
Starting system:
a
1,1
x
1
+ a
1,2
x
2
+a
1,3
x
3
= u
1
(1)
a
2,1
x
1
+ a
2,2
x
2
+a
2,3
x
3
= u
2
(2)
a
3,1
x
1
+ a
3,2
x
2
+a
3,3
x
3
= u
3
(3)
First step:
a
1,1
x
1
+ a
1,2
x
2
+ a
1,3
x
3
= u
1
(4)
a
2,1
Eq.(1) a
1,1
Eq.(2) = 0 + b
2,2
x
2
+ b
2,3
x
3
= v
2
(5)
a
3,1
Eq.(1) a
1,1
Eq.(3) = 0 + b
3,2
x
2
+ b
3,3
x
3
= v
3
(6)
. . .
Final step:
a
1,1
x
1
+a
1,2
x
2
+ a
1,3
x
3
= u
1
(7)
0 + b
2,2
x
2
+ b
2,3
x
3
= v
2
(8)
b
3,2
Eq.(6) b
2,2
Eq.(5) = 0 + 0 + c
3,3
x
3
= w
3
(9)
Back substitution:
Eq.(9) = x
3
=
1
c
3,3
w
3
(10)
Eq.(8) = x
2
=
1
b
2,2
v
2
b
2,3
b
2,2
x
3
(11)
Eq.(7) = x
1
=
1
a
1,1
u
1
a
1,2
a
1,1
x
2
a
1,3
a
1,1
x
3
(12)
A.T.de Hoop Concise mathematics of economic analysis 24
=06 SPECIAL FUNCTIONS =
06.01 EXPONENTIAL FUNCTION
The exponential function f(x) = exp(x) is dened through the relations
x
f(x) = f(x) and f(0) = 1
Evidently,
n
x
f(x) = f(x) =
n
x
f(x)
x=0
= 1
Taylor series (Taylor expansion can be proved to converge as N ):
exp(x) =
n=0
x
n
n!
for all x R
06.02 EXPONENTIAL FUNCTION (EXERCISES)
Exercise: Show that f(x) = A exp(B x) satises the relations
x
f(x) = B f(x) and
f(0) = A. (Hint: Apply the chain rule for dierentiation.)
Exercise: Show that f(x) = exp(a +x) satises the relations
x
f(x) = f(x) and f(0) =
exp(a). (Hint: Apply the chain rule for dierentiation.) Corollary:
exp(a +x) = exp(a) exp(x)
Exercise: Show that f(x) = B exp[
_
x
=0
()d] satises the relations
x
f(x) = (x)
f(x) and f(0) = B. (Hint: Apply the chain rule for dierentiation and the main theorem
of integral calculus.)
Exercise:
exp(x) <
N!
x
N
for any N = 0, 1, 2, . . . and x > 0
(Hint: Use the property exp(x) = 1/ exp(x) and the Taylor expansion for exp(x).)
Corollary:
x
N
exp(x) 0 as x for any N = 0, 1, 2, . . .
A.T.de Hoop Concise mathematics of economic analysis 25
06.03 COSINE AND SINE FUNCTIONS
The cosine function f(x) = cos(x) and the sine function g(x) = sin(x) are dened
through the relations
x
f(x) = g(x);
x
g(x) = f(x); f(0) = 1, ; g(0) = 0
Evidently,
2
x
f(x) = f(x),
2
x
g(x) = g(x)
2n
x
f(x)
x=0
= (1)
n
,
2n+1
x
f(x)
x=0
= 0 for n = 0, 1, 2, . . .
2n+1
x
g(x)
x=0
= (1)
n
,
2n
x
g(x)
x=0
= 0, for n = 0, 1, 2, . . .
Taylor series (Taylor expansion can be proved to converge as N ):
cos(x) =
n=0
(1)
2n
x
2n
(2n)!
for all x R
sin(x) =
n=0
(1)
2n+1
x
2n+1
(2n + 1)!
for all x R
06.04 COSINE AND SINE FUNCTIONS (EXERCISES)
Exercise: Show that cos(x) = cos(x) and sin(x) = sin(x)
Exercise: Show that f(x) = cos(a + x) and g(x) = sin(a + x) satisfy the relations
x
f(x) = g(x) and
x
g(x) = f(x), together with f(0) = cos(a) and g(0) = sin(a).
(Hint: Apply the chain rule for dierentiation.) Show that these relations lead to
cos(a + x) = cos(a) cos(x) sin(a) sin(x)
sin(a + x) = sin(a) cos(x) + cos(a) sin(x)
Exercise: Let
f(x) = cos
2
(x) + sin
2
(x)
Show that
x
f(x) = 0
and conclude that
cos
2
(x) + sin
2
(x) = 1
A.T.de Hoop Concise mathematics of economic analysis 26
06.05 (NATURAL) LOGARITHM
The (natural) logarithmic function u = ln(x) is (implicitly) dened through the relation
exp(u) = x for x R, x > 0
i.e.,
exp[ln(x)] = x for x R, x > 0
Properties:
exp[ln(1)] = 1 = exp(0) = ln(1) = 0
exp[ln(e)] = e = exp(1) = ln(e) = 1
exp[ln(x y)] = x y =
exp[ln(x)] exp[ln(y)] = exp[ln(x) + ln(y)] = ln(x y) = ln(x) + ln(y)
x
exp[ln(x)] = 1 = exp[ln(x)]
x
ln(x) = 1
= x
x
ln(x) = 1
=
x
ln(x) =
1
x
for x R, x > 0
exp
_
ln
_
1
x
__
=
1
x
=
1
exp[ln(x)]
= exp[ln(x)] = ln
_
1
x
_
= ln(x)
exp[ln(x
p
)] = x
p
= {exp[ln(x)]}
p
= exp[p ln(x)] = ln(x
p
) = p ln(x)
The number e = exp(1)
x
[ln(x)]
x=1
= lim
h0
ln(x + h) ln(1)
h
= lim
h0
ln
_
(1 + h)
1/h
_
= ln
_
lim
h0
(1 + h)
1/h
_
or
1 = ln
_
lim
h0
(1 + h)
1/h
_
=
lim
h0
(1 + h)
1/h
= exp(1) = e
A.T.de Hoop Concise mathematics of economic analysis 27
06.06 (NATURAL) LOGARITHM (EXERCISES)
Exercise: Show that
ln
_
x
p
y
q
_
= p ln(x) q ln(y) for x R, x > 0 and y R, y > 0
Exercise: Show that
ln(x) =
_
x
=1
1
d for x R, x > 0
(Hint: Use the property 1/ =
n=1
x
n
n
+ O(x
N+1
) (global remainder)
or
ln(1 x) =
N
n=1
x
n
n
+ o(x
N
) as x 0 (local remainder)
(Hint: Observe that f(0) = 0 and that
n
x
f(x) = (n 1)!/(1 x)
n
for n = 1, 2, 3, . . . .)
Note: The expansion can be shown to converge as N for x < 1.
A.T.de Hoop Concise mathematics of economic analysis 28
06.07 DOUBLE LOGARITHMIC DERIVATIVE, (ECONOMIC) ELASTICITY
For wildly varying functions, the graph is often plotted on a logarithmic scale, i.e., the
graph of y = f(x) is represented with ln(x) along the horizontal axis and ln(y) along the
vertical axis. Of course, this can only be done if both x > 0 and y > 0. In the relevant
graph, the local variations are characterized by the variations in slope, i.e., by
ln(x)
ln(y).
With
x = exp(u)
y = exp(v)
this slope can be rewritten as:
ln(x)
ln(y) =
u
v(u)
Now, dierentiation of
exp(v) = f[exp(u)]
with respect to u yields
exp(v)
u
v(u) =
x
f[exp(u)] exp(u)
which leads to
u
v(u) =
x
f(x)
x
f(x)
Note: In Mathematical Economics the resulting righthand side is used as the denition of
the elasticity of f(x) with respect to x :
El
x
f(x) =
x
f(x)
x
f(x)
The latter denition makes no reference to the logarithmic scale and therefore the quantities
x and f(x) need not be positive!
A.T.de Hoop Concise mathematics of economic analysis 29
06.08 LAPLACE INTEGRALS
Integrals of the type
L
f
(s) =
_
t=0
exp(s t) f(t)dt
where f(t) is an integrable function of t on the interval {t R, 0 < t < } and s
R, s > 0 are known as Laplace integrals. For
f(t) =
t
n
n!
(n = 0, 1, 2, . . .)
they can easily be evaluated. Note in this respect that
_
t=0
exp(s t)
t
n
n!
dt =
1
s
_
t=0
t
n
n!
d[exp(s t)]
=
1
s
_
t
n
n!
exp(s t)
_
t=0
+
1
s
_
t=0
exp(s t)
t
n1
(n 1)!
dt
=
1
s
_
t=0
exp(s t)
t
n1
(n 1)!
dt for s > 0, n = 1, 2, 3, . . .
while
_
t=0
exp(s t)dt =
1
s
for s > 0
Consequently,
_
t=0
exp(s t)
t
n
n!
dt =
1
s
n+1
for s > 0, n = 0, 1, 2, . . .
A.T.de Hoop Concise mathematics of economic analysis 30
=07 OPTIMIZATION TECHNIQUES =
07.01 INTERIOR AND BOUNDARY EXTREMA OF TARGET FUNCTION
A dierentiable economical target function dened on the bounded domain D
var
can have
interior extrema (i.e., extrema (maxima or minima) at a number of interior points of
D
var
)
boundary extrema (i.e., extrema (maxima or minima) at a number of points on the
boundary D
var
of D
var
)
Extrema belong to the set of stationary points of the target function, i.e.,the points that are
found upon putting equal to zero the rst derivative(s) of the target function. Stationary
points on D
var
are found upon putting equal to zero the rst derivative(s) of the target
function, subject to the constraint that the points are points on D
var
A stationary point is a minimum if in its entire neighborhood the function value is larger than
that in the stationary point. A stationary point is a maximum if in its entire neighborhood
the function value is smaller than that in the stationary point. If neither of these two
criteria holds, the stationary point in neither a minimum or a maximum. Which one of these
possibilities is the case, is usually tested via the Taylor expansion with local remainder.
07.02 INTERIOR EXTREMA OF AN EXPLICIT TARGET FUNCTION OF
A SINGLE VARIABLE
Let f(x) be an explicit, twice dierentiable target function dened on D
var
. Let x
0
D
var
be an interior stationary point, i.e.,
x
f(x)
x=x
0
= 0
then the Taylor expansion about x
0
with local remainder becomes
f(x) = f(x
0
) +
1
2
(x x
0
)
2
2
x
f(x)
x=x
0
+o(x x
0

2
) as x x
0
Evidently, the following conclusion holds:
2
x
f(x)
x=x
0
> 0 = f(x
0
) is a (local) minimum of f(x)
2
x
f(x)
x=x
0
< 0 = f(x
0
) is a (local) maximum of f(x)
If
2
x
f(x)
x=x
0
= 0, further information is needed to decide upon the nature of f(x
0
)
A.T.de Hoop Concise mathematics of economic analysis 31
07.03 INTERIOR EXTREMA OF AN IMPLICIT TARGET FUNCTION OF
A SINGLE VARIABLE
Let f(x) be an implicit, twice dierentiable target function dened on D
var
via the target
functional equation
[f(x), x] = 0 for x D
var
where is a twice dierentiable functional acting on its arguments f(x) and x. To arrive
at the stationary points of f(x) we dierentiate the functional equation with respect to x,
put
x
f(x) = 0 and solve for x. To facilitate the implicit dierentiation involved, we put
u = f(x) and use the chain rule for dierentiation to obtain
u
[u, x]
u=f(x)
x
f(x) +
x
[u, x]
u=f(x)
= 0
With
x
f(x)
x=x
0
= 0, x
0
follows from the system of equations
[u, x]
u=f(x)
= 0 for x = x
0
x
[u, x]
u=f(x)
= 0 for x = x
0
To extract information about
2
x
f(x)
x=x
0
the once dierentiated expression is dierentiated
once more to yield
2
u
[u, x]
u=f(x)
[
x
f(x)]
2
+
u
[u, x]
u=f(x)
2
x
f(x)] +
x
[u, x]
u=f(x)
x
f(x) +
2
x
[u, x]
u=f(x)
= 0
with the result that
2
x
f(x)]
x=x
0
=
2
x
[u, x]
u=f(x),x=x
0
u
[u, x]
u=f(x
0
),x=x
0
For the rest as to x
0
being a minimum or a maximum, the same conditions as in Section
07.02 apply.
A.T.de Hoop Concise mathematics of economic analysis 32
07.04a INTERIOR EXTREMA OF AN EXPLICIT TARGET FUNCTION OF
TWO VARIABLES
Let f(x, y) be an explicit, twice dierentiable target function dened on D
var
. Let (x
0
, y
0
)
D
var
be an interior stationary point, i.e.,
x
f(x, y)
x=x
0
,y=y
0
= 0 and
y
f(x, y)
x=x
0
,y=y
0
= 0
then the Taylor expansion about (x
0
, y
0
) with local remainder becomes
f(x, y) = f(x
0
, y
0
) +
1
2
_
(x x
0
)
2
2
x
f(x, y)
x=x
0
,y=y
0
+
2 (x x
0
) (y y
0
)
x
y
f(x, y)
x=x
0
,y=y
0
+
(y y
0
)
2
2
y
f(x, y)
x=x
0
,y=y
0
_
+
o[d(x x
0
, y y
0
)
2
] as (x, y) (x
0
, y
0
)
Evidently, the following conclusions hold:
2
x
f(x, y)
x=x
0
,yy
0
> 0 = necessary condition for f(x
0
, y y
0
) to be
a (local) minimum of f(x, y)( take y = y
0
)
2
y
f(x, y)
x=x
0
,yy
0
> 0 = necessary condition for f(x
0
, y y
0
) to be
a (local) minimum of f(x, y)( take x = x
0
)
and
2
x
f(x, y)
x=x
0
,yy
0
< 0 = necessary condition for f(x
0
, y y
0
) to be
a (local) maximum of f(x, y)( take y = y
0
)
2
y
f(x, y)
x=x
0
,yy
0
< 0 = necessary condition for f(x
0
, y y
0
) to be
a (local) maximum of f(x, y)( take x = x
0
)
Continued in Section 07.04b
A.T.de Hoop Concise mathematics of economic analysis 33
07.04b INTERIOR EXTREMA OF AN EXPLICIT TARGET FUNCTION OF
TWO VARIABLES (CONTD)
The necessary conditions are to be supplemented with the suciency condition
2
x
f(x, y)
x=x
0
,yy
0
2
y
f(x, y)
x=x
0
,yy
0
y
f(x, y)
x=x
0
,y=y
0
_
2
> 0
which follows from the consideration that the quadratic Taylor expansion terms can be
rewritten as
A (x x
0
)
2
+ 2 B (x x
0
) (y y
0
) + C (y y
0
)
2
=
A
_
_
(x x
0
) +
B
A
(y y
0
)
_
2
+
_
C
A
B
2
A
2
_
(y y
0
)
2
_
If
2
x
f(x, y)
x=x
0
,y=y
0
= 0 and
2
y
f(x, y)
x=x
0
,y=y
0
= 0, further information is needed to
decide upon the nature of f(x
0
)
A.T.de Hoop Concise mathematics of economic analysis 34
07.05a INTERIOR EXTREMA OF AN IMPLICIT TARGET FUNCTION OF
TWO VARIABLES
Let f(x, y) be an implicit, twice dierentiable target function dened on D
var
via the target
functional equation
[f(x, y), x, y] = 0 for x D
var
where is a twice dierentiable functional acting on its arguments f(x, y), x and y. To
arrive at the stationary points of f(x, y) we dierentiate the functional equation with respect
to x and y, put
x
f(x, y) = 0 and
y
f(x, y) = 0 and solve for (x, y). To facilitate the
implicit dierentiation involved, we put u = f(x, y) and use the chain rule for dierentiation
to obtain
u
[u, x, y]
u=f(x,y)
x
f(x, y) +
x
[u, x, y]
u=f(x,y)
= 0
u
[u, x, y]
u=f(x,y)
y
f(x, y) +
y
[u, x, y]
u=f(x,y)
= 0
With
x
f(x, y)
x=x
0
,y=y
0
= 0 and
y
f(x, y)
x=x
0
,y=y
0
= 0, x
0
, y
0
follows from the
system of equations
[u, x, y]
u=f(x,y)
= 0 for (x, y) = (x
0
, y
0
)
x
[u, x]
u=f(x,y)
= 0 for (x, y) = (x
0
, y
0
)
y
[u, x]
u=f(x,y)
= 0 for (x, y) = (x
0
, y
0
)
To extract information about
2
x
f(x, y)
x=x
0
,y=y
0
,
2
y
f(x, y)
x=x
0
,y=y
0
and
y
f(x, y)
x=x
0
,y=y
0
, the once dierentiated expressions are dierentiated once more with
respect to x and y to yield
2
u
[u, x, y]
u=f(x,y)
[
x
f(x, y)]
2
+
u
[u, x, y]
u=f(x,y)
2
x
f(x, y)] +
2
x
[u, x, y]
u=f(x,y)
= 0
2
u
[u, x, y]
u=f(x,y)
[
y
f(x, y)]
2
+
u
[u, x, y]
u=f(x,y)
2
y
f(x, y)] +
2
y
[u, x, y]
u=f(x,y)
= 0
2
u
[u, x, y]
u=f(x,y)
x
f(x, y)
y
f(x, y) +
u
[u, x, y]
u=f(x,y)
x
y
f(x, y)] +
y
[u, x, y]
u=f(x,y)
= 0
Continued in Section 07.05b
A.T.de Hoop Concise mathematics of economic analysis 35
07.05b INTERIOR EXTREMA OF AN IMPLICIT TARGET FUNCTION OF
TWO VARIABLES (CONTD)
with the result that
2
x
f(x, y)]
x=x
0
,yy
0
=
2
x
[u, x, y]
u=f(x,y),x=x
0
,y=y
0
u
[u, x, y]
u=f(x
0
),x=x
0
,y=y
0
2
y
f(x, y)]
x=x
0
,yy
0
=
2
y
[u, x, y]
u=f(x,y),x=x
0
,y=y
0
u
[u, x, y]
u=f(x
0
),x=x
0
,y=y
0
x
y
f(x, y)]
x=x
0
,yy
0
=
y
[u, x, y]
u=f(x,y),x=x
0
,y=y
0
u
[u, x, y]
u=f(x
0
),x=x
0
,y=y
0
For the rest as to (x
0
, y
0
) being a minimum or a maximum, the same conditions as in
Section 07.04 apply.
A.T.de Hoop Concise mathematics of economic analysis 36
=08 MATRICES =
08.01 MATRICES
M N matrix [a]: rectangular (or square) array of
elements {a
m,n
; m = 1, . . . , M; n = 1, . . . N}:
_
_
a
1,1
. . . a
1,N
. . . . . . . . .
a
M,1
. . . a
M,N
_
_
= [a
row index,column index
] = [a
m,n
] = [a]
1 N matrix = row matrix (row vector)
M 1 matrix = column matrix (column vector)
1 1 matrix = scalar
Linear combination of two M N matrices:
[c] = [a] + [b] = c
m,n
= a
m,n
+ b
m,n
Product matrix [c] of an M P matrix [a] and an P N matrix [b]:
[c] = [a] [b] = c
m,n
=
P
p=1
a
m,p
b
p,n
for m = 1, . . . , M; n = 1, . . . N
Identity matrix (Unit matrix) [I]:
[a] = [I] if a
m,n
= 1 for m = n and a
m,n
= 0 for m = n
Zero matrix [0]:
[a] = [0] if a
m,n
= 0 for all (m, n)
A.T.de Hoop Concise mathematics of economic analysis 37
=09 ECONOMIC EXAMPLES AND APPLICATIONS =
09.01 COMPOUND INTEREST
Compound interest: = Each time interest is paid, its amount is added to (or com
pounded with) the principal.
Periodic compound interest needs specication through:
the rate of interest per period
the number of periods of compounding
= FV = PV (1 + r
per
)
n
with
FV = Future Value
PV = Present Value
r
per
= periodic interest rate
n = number of periods of compounding (n = 0, 1, 2, . . .)
Equivalent formulas:
PV =
FV
(1 + r
per
)
n
r
per
=
_
FV
PV
_
1/n
1
n =
ln(FV ) ln(PV )
ln(1 + r
per
)
Continuous compound interest needs specication through:
the force of interest
= A(t) = A(0) exp
_
_
t
=0
()d
_
with
A(t) = Amount at time t
A(0) = Amount at t = 0
(t) =
t
A(t)
A(t)
= Force of interest at time t
Equivalent formula:
(t) =
t
ln[A(t)]
A.T.de Hoop Concise mathematics of economic analysis 38
09.02 EQUIVALENT RATES OF COMPOUND INTEREST
Equivalence of compound interest rates for accumulated amount over a xed period of
time T.
Periodic compound interest:
= A
per
(T) = A(0)
_
1 +
r
per
n
_
n
with
T = term of of comparison
A
per
(T) = amount at time T
A(0) = initial amount
r
per
= periodic interest rate
n = number of periods in term T (n = 0, 1, 2, . . .)
Continuous compound interest:
= A
(T) = A
per
(T)
if
=
n
T
ln
_
1 +
r
per
n
_
or
r
per
= n
_
exp
_
T
n
_
1
_
Exercise. The periodic compound interest rate r
1
payed in n
1
periods during the term T
and the periodic compound interest rate r
2
payed in n
2
periods during the same term T
are equivalent if
_
1 +
r
1
n
1
_
n
1
=
_
1 +
r
2
n
2
_
n
2
Show that (conversion formula)
r
2
= n
2
_
_
1 +
r
1
n
1
_
n
1
/n
2
_
1
A.T.de Hoop Concise mathematics of economic analysis 39
09.03 TIME VALUE OF MONEY, ANNUITY
Present value: money value at a specied time of a sequence of future payments
Future value: value at a specied time in the future assuming a given sequence of
payments
Annuity: any recurring periodic sequence of payments.
TIME VALUE OF MONEY (NOMENCLATURE)
symbol name
PV present value
PV A present value of an annuity
PV P present value of a perpetuity (perpetual annuity)
FV future value
FV A future value of an annuity
FV P future value of a perpetuity (perpetual annuity)
With
A = amount of annuity payment
r
per
= interest rate per period of payment
N = number of payments
we have
PV A = A
N
n=1
1
(1 + r
per
)
n
= A
_
N
n=0
1
(1 + r
per
)
n
1
_
= A
1
r
per
_
1
1
(1 + r
per
)
N
_
FV A = A
N1
n=0
(1 +r
per
)
n
= A
1
r
per
_
(1 +r
per
)
N
1
_
PV P = lim
N
PV A = A
1
r
per
FV P = lim
N
FV A =
A.T.de Hoop Concise mathematics of economic analysis 40
09.04 COBBDOUGLAS PRODUCTION COST FUNCTION
CobbDouglas production cost function for a dened production process:
C(N) =
P
p=1
X
p
/
p
(N) with =
P
p=1
p
N = number of items produced in the process
C(N) = total production costs
{X
p
(N); p = 1, . . . , P} = sequence of production factors
(X
p
(N) > 0 for N 0, p = 1, . . . , P)
p
/ = relative weighting exponent of X
p
(N) on C(N)
(0
p
/ 1)
Note: Evidently, C(N) > 0 for N 0
Note: ln[C(N)] =
P
p=1
(
p
/) ln[X
p
(N)]
Minimum costs per produced unit =minimization of C(N)/N =
N
[C(N)/N] = 0 and
2
N
[C(N)/N] > 0 at
N
[C(N)/N] = 0
N
C(N) = F
{X
p
}
(N) C(N) with F
{X
p
}
(N) =
P
p=1
N
X
p
(N)
X
p
(N)
2
N
C(N) =
N
F
{X
p
}
(N) C(N) + F
{X
p
}
(N)
N
C(N)
with
N
F
{X
p
}
(N) =
P
p=1
2
N
X
p
(N)
X
p
(N)
[
N
X
p
(N)]
2
X
p
(N)
2
_
N
_
C(N)
N
_
=
N
C(N)
N
C(N)
N
2
=
1
N
_
N
C(N)
C(N)
N
_
2
N
_
C(N)
N
_
=
2
N
C(N)
N
2
N
C(N)
N
2
+ 2
C(N)
N
3
=
2
N
C(N)
N
2
N
2
_
N
C(N)
C(N)
N
_
Stationary points: F
{X
p
}
(N) =
P
p=1
N
X
p
(N)
X
p
(N)
=
1
N
Linear factors model: X
p
(N) = a
p
+ b
p
N (a
p
> 0, b
p
> 0, p = 1, . . . , P) =
2
N
_
C(N)
N
_
N
[C(N)/N]=0
=
_
p=1
_
b
p
a
p
+ b
p
N
_
2
+
1
N
2
_
C(N)
N
> 0
since
P
p=1
_
b
p
a
p
+ b
p
N
_
2
<
1
N
2
P
p=1
=
1
N
2
=The (single) stationary point of C(N)/N is a minimum
A.T.de Hoop Concise mathematics of economic analysis 41
A.T.de Hoop Concise mathematics of economic analysis 42
=10 MISCELLANEOUS EXERCISES =
10.01 EXERCISE
Let
f(x) =
_
x
a
_
p
1 with a > 0, p = integer, for 0 x < .
Investigate in which of the dierent domains of the parameters a and p and the variable x
we have (a) f(x) < 0, (b) f(x) = 0, (c) f(x) > 0. (See, the table below).
f(x) = (x/a)
p
1
x = 0 0 < x < a x = a a < x <
p < 0
p = 0
p > 0
10.02 EXERCISE
Let
f(x) =
_
x
a
_
p
1
10
n=0
2
n
10
n=0
(2)
n
n=0
_
1
2
_
n
n=0
_
1
2
_
n
(Hint: Use the expression for the sum of a geometric sequence, see Section 02.09.)
10.07 EXERCISE
Derive the Taylor expansions of the following functions
f(x) = x
2
+ x + 1
g(x) = 2 x
2
+ 4 x + 2
about (a) x = 1, (b) x = 1, and check the result.
(Hint: Use the expression for the Taylor expansion, see Section 05.06.)
A.T.de Hoop Concise mathematics of economic analysis 44
10.08 EXERCISE
Derive the Taylor expansion of the function
f(x) = a x
2
+ b x +c
about (a) x = and check the result.
(Hint: Use the expression for the Taylor expansion, see Section 05.06.)
10.09 EXERCISE
Show that for any x
(b a)
N
=
N
n=0
N!
n! (N n)!
(x a)
Nn
(b x)
n
.
(Hint: Use Newtons binomial theorem, Section 05.01, and the result of Exercise 10.04.)
Note: This result can be used to establish a number of relationships between expressions
containing factorial functions.
10.10 EXERCISE
Let
f(x) =
N
n=0
N!
n! (N n)!
(x a)
Nn
(b x)
n
.
Show that
x
f(x) = 0. (Hint: Apply the product rule for dierentiation to each of the
terms in the summation and use Newtons binomial theorem (Section 05.01) to rewrite the
result. See also Exercise 10.09.)
10.11 EXERCISE
Check the product rule for dierentiation for the product f(x) g(x), with
f(x) = a x + b
g(x) = c x + d
A.T.de Hoop Concise mathematics of economic analysis 45
10.12 EXERCISE
Check the chain rule for dierentiation for
f(x) = (a x + b)
N
N = 0, 1, 2, . . .
against dierentiating each term of Newtons binomial expansion of the righthand side.
10.13 EXERCISE
Show that (x
0
, y
0
) is a stationary point of
f(x, y) = A (x x
0
)
2
+ 2 B (x x
0
) (y y
0
) + C (y y
0
)
2
+ F
Under what conditions to be laid upon A, B and C is (x
0
, y
0
) (a) a minimum, (b) a
maximum?
10.13 EXERCISE
Determine the stationary point (x
0
, y
0
) of
f(x, y) = A x
2
+ 2 B x y + C y
2
+ D x + E y + F
Under what conditions to be laid upon A, B and C is (x
0
, y
0
) (a) a minimum, (b) a
maximum?
10.15 EXERCISE
Evaluate
I(s, n) =
_
t=0
exp(s t) t
n
dt with s > 0 and n = 0, 1, 2, . . .
by integration by parts and recursion.
A.T.de Hoop Concise mathematics of economic analysis 46
10.15 EXERCISE
Evaluate
I(s, n) =
_
t=0
exp(s t) t
n
dt with s > 0 and n = 0, 1, 2, . . .
by dierentiating
I(s, 0) =
_
t=0
exp(s t)dt =
1
s
with s > 0
n times with respect to the parameter s.
10.17 EXERCISE
Evaluate
I =
_
ln(b)
x=ln(a)
exp(x)dx with a > 0, b > 0
10.18 EXERCISE
Evaluate
I =
_
ln(b)
x=ln(a)
exp(x)dx with a > 0, b > 0
10.19 EXERCISE
Evaluate
I =
_
ln(b)
x=ln(a)
exp(x
2
) xdx with a > 0, b > 0
10.20 EXERCISE
Evaluate
I =
_
ln(b)
x=ln(a)
exp(x
2
) xdx with a > 0, b > 0
A.T.de Hoop Concise mathematics of economic analysis 47
10.21 EXERCISE
Evaluate
I =
_
b
x=a
ln(x + p)dx with a > 0, b > 0, p > 0
10.22 EXERCISE
Evaluate
I =
_
b
x=a
ln(x
2
+ p
2
) xdx with a > 0, b > 0, p > 0
10.23 EXERCISE
Evaluate
I =
_
b
x=a
x
(x
2
+p
2
)
1/2
dx with a > 0, b > 0, p > 0
10.24 EXERCISE
Evaluate
I =
_
b
x=a
1
(x
2
+p
2
)
1/2
dx with a > 0, b > 0, p > 0
(Hint: Observe (and verify) that
x
ln[x + (x
2
+ p
2
)
1/2
] = (x
2
+ p
2
)
1/2
.)
A.T.de Hoop Concise mathematics of economic analysis 48
10.25 EXERCISE
For a closed economy, the following conservation equation holds:
Y (I) = I + C(Y )
where
Y = national income
I = investment
C = consumption
The consumption function has the properties
C(Y ) 0 for Y 0
C(Y ) Y for Y 0
lim
Y
C(Y ) = C
<
Y
C(Y ) 1 for Y 0
2
Y
C(Y ) < 0 for Y 0
(a) Make a graph with Y along the horizontal axis, C along the vertical axis and I as a
parameter. (b) Determine an expression for
I
Y . (c) Determine an expression for
2
I
Y .
(d) Discuss the results.
A.T.de Hoop Concise mathematics of economic analysis 49
10.26 EXERCISE
A prot function of a production process is characterized by
(N) = P N C(N)
where
= prot
P = sales price per item
N = number of produced items
C = production cost function
The production cost function per item has the properties
C(N) 0 for N 0
N
C(N) > 0 for N 0
2
N
C(N) > 0 for N 0
(a) Make a graph with N along the horizontal axis and C along the vertical axis. (b)
Determine an expression for
N
. (c) Determine an expression for
2
N
. (d) Give the
equations for the optimum value N
of N. (e) Is (N
n=0
2
n
= 1
1 2
10+1
1 2
=
1 2
11
1 2
=
1 2048
1 2
=
2047
1
= 2047
10
n=0
(2)
n
=
1
n=0
0
_
1
2
_
n
= 1
1 (1/2)
10+1
1 (1/2)
=
1 (1/2)
11
1 + 1/2
=
1 + 1/2048
1 + 1/2
=
2048 + 1
2048
2
3
=
683
1024
n=0
_
1
2
_
n
= 1
1
1 (1/2)
= 2
n=0
_
1
2
_
n
= 1
1
1 (1/2)
=
2
3
A.T.de Hoop Concise mathematics of economic analysis 53
10.07 EXERCISE (ANSWER)
Answer:
f(x) = x
2
+ x + 1,
x
f(x) = 2 x + 1,
2
x
f(x) = 2,
n
x
f(x) = 0 for n = 3, 4, 5, . . .
g(x) = 2 x
2
+ 4 x + 2,
x
g(x) = 2 2 x + 4 = 4 x + 4,
2
x
g(x) = 4,
n
x
g(x) = 0 for n = 3, 4, 5, . . .
(a) Taylor expansion about x = 1:
f(x) = f(x)
x=1
+
x + 1
1!
x
f(x)
x=1
+
(x + 1)
2
2!
2
x
f(x)
x=1
= 1 (x + 1) + 2
(x + 1)
2
2
= 1 (x + 1) + (x + 1)
2
= x
2
+ x + 1 = f(x) as given
g(x) = g(x)
x=1
+
x + 1
1!
x
g(x)
x=1
+
(x + 1)
2
2!
2
x
g(x)
x=1
= 0 0 (x + 1) + 4
(x + 1)
2
2
= 2 (x + 1)
2
= 2 x
2
+ 4 x + 2 = g(x) as given
(b) Taylor expansion about x = 1:
f(x) = f(x)
x=1
+
x 1
1!
x
f(x)
x=1
+
(x 1)
2
2!
2
x
f(x)
x=1
= 3 + 3 (x 1) + 2
(x 1)
2
2
= 3 + 3 (x 1) + (x 1)
2
= x
2
+ x + 1 = f(x) as given
g(x) = g(x)
x=1
+
x 1
1!
x
g(x)
x=1
+
(x 1)
2
2!
2
x
g(x)
x=1
= 8 + 8 (x 1) + 4
(x 1)
2
2
= 8 + 8 (x 1) + 2 (x 1)
2
=
= 2 x
2
+ 4 x + 2 = g(x) as given
A.T.de Hoop Concise mathematics of economic analysis 54
10.08 EXERCISE (ANSWER)
Answer:
f(x) = a x
2
+ b x + c,
x
f(x) = 2 a x + b,
2
x
f(x) = 2 a,
n
x
f(x) = 0 for n = 3, 4, 5, . . .
Taylor expansion about x = :
f(x) = f(x)
x=
+
x
1!
x
f(x)
x=
+
(x )
2
2!
2
x
f(x)
x=
= a
2
+ b + c + (2 a + b) (x ) + 2 a
(x )
2
2!
= a
2
+ b + c + 2 a x 2 a
2
+ b x b +
a x
2
2 a x +a
2
= a x
2
+ b x + c = f(x) as given
10.09 EXERCISE (ANSWER)
Answer:
(b a)
N
= [(x a) + (b x)]
N
=
N
n=0
N!
n! (N n)!
(x a)
Nn
(b x)
n
.
10.10 EXERCISE (ANSWER)
Answer:
x
f(x) =
N1
n=0
N!
n! (N n)!
(N n) (x a)
Nn1
(b x)
n
n=1
N!
n! (N n)!
(x a)
Nn
n (b x)
n1
=
N1
n=0
N!
n! (N n 1)!
(x a)
Nn1
(b x)
n
N1
m=0
N!
m! (N m1)!
(x a)
Nm1
(b x)
m
= 0
A.T.de Hoop Concise mathematics of economic analysis 55
10.11 EXERCISE (ANSWER)
Answer:
f(x) = a x + b =
x
f(x) = a
g(x) = c x + d =
x
g(x) = c
f(x) g(x) = (a x +b) (c x + d)
= a c x
2
+ (b c + a d) x +b d
x
[f(x) g(x)] = 2 a c x +b c + a d ()
On the other hand:
x
f(x) g(x) + f(x)
x
f(x) = a (c x + d) + (a x + b) c
= 2 a c x + a d + b c ()
() = () (Product rule for dierentiation)
A.T.de Hoop Concise mathematics of economic analysis 56
10.12 EXERCISE (ANSWER)
Answer:
f(x) = (a x + b)
N
=
x
f(x) = N (a x +b)
N1
x
(a x + b)
= N (a x +b)
N1
a ()
On the other hand:
f(x) =
N
n=0
N!
n! (N n)!
(a x)
Nn
b
n
=
x
f(x) =
N
n=0
N!
n! (N n)!
x
(a x)
Nn
b
n
=
N1
n=0
N!
n! (N n)!
(N n) (a x)
Nn1
x
(a x) b
n
=
N1
n=0
N!
n! (N n)!
(N n) a
Nn
x
Nn1
b
n
=
N1
n=0
N!
n! (N n 1)!
a
Nn
x
Nn1
b
n
=
N1
n=0
N
(N 1)!
n! (N n 1)!
a
Nn
x
Nn1
b
n
=
N1
n=0
N a
(N 1)!
n! (N n 1)!
a
Nn1
x
Nn1
b
n
= N a
N1
n=0
(N 1)!
n! (N n 1)!
(a x)
Nn1
b
n
= N a (a x + b)
N1
()
() = () Chain rule for dierentiation)
A.T.de Hoop Concise mathematics of economic analysis 57
10.13 EXERCISE (ANSWER)
Answer:
f(x, y) = A (x x
0
)
2
+ 2 B (x x
0
) (y y
0
) + C (y y
0
)
2
+ F =
x
f(x, y) = 2 A (x x
0
) + 2 B (y y
0
),
2
x
f(x, y) = 2 A,
y
x
f(x, y) = 2 B
y
f(x, y) = 2 B (x x
0
) + 2 C (y y
0
),
2
y
f(x, y) = 2 C,
x
y
f(x, y) = 2 B
=
x
f(x, y)
x=x
0
,y=y
0
= 0,
y
f(x, y)
x=x
0
,y=y
0
= 0
=(x
0
, y
0
) = stationary point
(a) Minimum if
A > 0, C > 0, A C B
2
> 0
(b) Maximum if
A < 0, C < 0, A C B
2
> 0
10.14 EXERCISE (ANSWER)
Answer:
f(x, y) = A x
2
+ 2 B x y +C y
2
+ D x + e y + F =
x
f(x, y) = 2 A x + 2 B y +D,
2
x
f(x, y) = 2 A,
y
x
f(x, y) = 2 B
y
f(x, y) = 2 B x + 2 C y + E,
2
y
f(x, y) = 2 C,
x
y
f(x, y) = 2 B
Stationary point:
x
f(x, y)
x=x
0
,y=y
0
= 0 =2 A x
0
+ 2 B y
0
+ D = 0
y
f(x, y)
x=x
0
,y=y
0
= 0 =2 B x
0
+ 2 C y
0
+ E = 0
=
x
0
=
B E C D
2 (A C B
2
)
, y
0
=
B D A E
2 (A C B
2
)
(a) Minimum if
A > 0, C > 0, A C B
2
> 0
(b) Maximum if
A < 0, C < 0, A C B
2
> 0
A.T.de Hoop Concise mathematics of economic analysis 58
10.15 EXERCISE (ANSWER)
Answer:
I(s, n) =
_
t=0
exp(s t) t
n
dt
=
1
s
_
t=0
t
exp(s t) t
n
dt
=
1
s
[exp(s t) t
n
]
t=0
dt
+
1
s
_
t=0
exp(s t)
t
t
n
dt for n = 1, 2, 3, . . .
=
n
s
_
t=0
exp(s t) t
n1
dt for n = 1, 2, 3, . . .
=
n
s
I(s, n 1) for n = 1, 2, 3, . . .
I(s, 0) =
_
t=0
exp(s t)dt
I(s, 0) =
1
s
_
t=0
t
exp(s t)dt
=
1
s
[exp(s t)]
t=0
dt
=
1
s
=
I(s, n) =
n!
s
n+1
A.T.de Hoop Concise mathematics of economic analysis 59
10.16 EXERCISE (ANSWER)
Answer:
I(s, n) =
_
t=0
exp(s t) t
n
dt
I(s, 0) =
_
t=0
exp(s t)dt
=
1
s
_
t=0
t
exp(s t)dt
=
1
s
[exp(s t)]
t=0
dt
=
1
s
s
I(s, 0) =
_
t=0
s
exp(s t)dt =
s
_
1
s
2
_
=
_
t=0
exp(s t) tdt =
1
s
2
=
I(s, n) =
n!
s
n+1
for n = 0, 1, 2, . . .
10.17 EXERCISE (ANSWER)
Answer:
I =
_
ln(b)
x=ln(a)
exp(x)dx
=
_
ln(b)
x=ln(a)
x
exp(x) dx
= exp(x)
ln(b)
x=ln(a)
= exp[ln(b)] exp[ln(a)]
= b a
A.T.de Hoop Concise mathematics of economic analysis 60
10.18 EXERCISE (ANSWER)
Answer:
I =
_
ln(b)
x=ln(a)
exp(x)dx
=
_
ln(b)
x=ln(a)
x
exp(x) dx
= exp(x)
ln(b)
x=ln(a)
= exp[ln(b)] + exp[ln(a)]
=
1
b
+
1
a
10.19 EXERCISE (ANSWER)
Answer:
I =
_
ln(b)
x=ln(a)
exp(x
2
) x dx
=
1
2
_
ln(b)
x=ln(a)
exp(x
2
)
x
x
2
dx
x
2
u
=
1
2
_
[ln(b)]
2
u=[ln(a)]
2
exp(u) du
=
1
2
exp(u)
[ln(b)]
2
u=[ln(a)]
2
=
1
2
_
exp{[ln(b)]
2
} exp{[ln(a)]
2
}
[ln(b)]
2
u=[ln(a)]
2
=
1
2
_
exp{[ln(b)]
2
} + exp{[ln(a)]
2
}
b
x=a
_
b
x=a
x
[ln(x + p)] (x + p) dx
= [ln(x + p) (x + p)]
b
x=a
_
b
x=a
1
x + p
(x + p) dx
= [ln(x + p) (x + p)]
b
x=a
_
b
x=a
1 dx
= [ln(x + p) (x + p)]
b
x=a
x
b
x=a
= ln(b + p) (b + p) ln(a + p) (a + p) (b a)
A.T.de Hoop Concise mathematics of economic analysis 62
10.22 EXERCISE (ANSWER)
Answer:
I =
_
b
x=a
ln(x
2
+ p
2
) xdx
=
1
2
_
b
x=a
ln(x
2
+p
2
)
x
(x
2
+ p
2
) dx
x
2
u
=
1
2
_
ln(u + p
2
) (u + p
2
)
b
2
u=a
2
1
2
_
b
2
u=a
2
u
[ln(u + p
2
)] (u + p
2
) du
=
_
ln(u +p
2
) (u + p
2
)
b
2
u=a
2
_
b
2
u=a
2
1
u + p
p
(u +p
2
) dx
=
1
2
_
ln(u + p
2
) (u + p
2
)
b
2
u=a
2
1
2
_
b
2
u=a
2
1 du
=
1
2
_
ln(u + p
2
) (u + p
2
)
b
2
u=a
2
1
2
u
b
2
u=a
2
=
1
2
ln(b
2
+p
2
) (b
2
+ p
2
)
1
2
ln(a
2
+ p
2
) (a
2
+ p
2
)
1
2
(b
2
a
2
)
10.23 EXERCISE (ANSWER)
Answer:
I =
_
b
x=a
x
(x
2
+p
2
)
1/2
dx
=
1
2
_
b
x=a
x
_
(x
2
+ p
2
)
1/2
dx
=
1
2
_
(x
2
+ p
2
)
1/2
b
x=a
=
1
2
_
(b
2
+ p
2
)
1/2
(a
2
+ p
2
)
1/2
x
ln[x + (x
2
+ p
2
)
1/2
] dx
= ln[x + (x
2
+ p
2
)
1/2
]
b
x=a
= ln[b + (b
2
+ p
2
)
1/2
] ln[a + (a
2
+ p
2
)
1/2
]
= ln
_
b + (b
2
+ p
2
)
1/2
a + (a
2
+ p
2
)
1/2
_
10.25 EXERCISE (ANSWER)
Answer:
Y (I) = I + C(Y )
I
Y (I) = 1 +
Y
C(Y )
I
Y (I)
=
I
Y (I) =
1
1 +
Y
C(Y )
.
2
I
Y (I) =
2
Y
C(Y ) [
I
Y (I)]
2
+
Y
C(Y )
2
I
Y (I)
=
2
I
Y (I) =
2
Y
C(Y ) [
I
Y (I)]
2
1 +
Y
C(Y )
=
2
Y
C(Y
[1 +
Y
C(Y )]
3
.
A.T.de Hoop Concise mathematics of economic analysis 64
10.26 EXERCISE (ANSWER)
Answer:
(N) = P N C(N)
N
(N) = P
N
C(N)
2
N
(N) =
2
N
C(N)
Stationary point N = N
:
(N
) = P N
C(N
N
(N)
N=N
= 0
=
0 = P
N
C(N)
N=N
Since
2
N
C(N) > 0, N = N
is a maximum 0f (N).
10.27 EXERCISE (ANSWER)
Answer:
PV =
A
P
(1 + r
e
)
N
+
N
n=1
P
(1 + r
e
)
n
=
A
P
(1 + r
e
)
N
+
P
1 +r
e
N1
m=0
1
(1 + r
e
)
m
=
A
P
(1 + r
e
)
N
+
P
1 +r
e
1 (1 + r
e
)
N
1 (1 + r
e
)
1
PV
1
=
A
P
(1 + r
e
)
N
+
P
1
1 +r
e
1 (1 + r
e
)
N
1 (1 + r
e
)
1
PV
2
=
A
P,2
(1 + r
e
)
N
+
P
1 +r
e
1 (1 + r
e
)
N
1 (1 + r
e
)
1
=
PV
1
= PV
2
for
A
P
(1 + r
e
)
N
+
P
1
1 +r
e
1 (1 + r
e
)
N
1 (1 + r
e
)
1
=
A
P,2
(1 + r
e
)
N
+
P
1 +r
e
1 (1 + r
e
)
N
1 (1 + r
e
)
1
or
A
P
, 2 = A
P
+ (P
1
P)
(1 + r
e
)
N
1
r
e
A.T.de Hoop Concise mathematics of economic analysis 65
Date: 2008 January 11
Revised: 2008 March 16
A.T.de Hoop Concise mathematics of economic analysis 66
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