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An Introduction to

Mathematical

Economics

Part 1

Q2

Loglinear Q1

Publishing

Michael Sampson

Copyright 2001 Michael Sampson.

Loglinear Publications: http://www.loglinear.com Email: mail@loglinear.com.

Terms of Use

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implied.

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Payment can be made either by cheque or money order and should be sent to the

author at:

Department of Economics

Concordia University

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Montreal, Quebec

Canada, H3G 1M8

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from the paper copies you make.

Contents

1.1 Proof by Contradiction . . . . . . . . . . . . . . . . . . . . . . . . 1

1.1.1 Proof by Induction . . . . . . . . . . . . . . . . . . . . . . 3

2 Univariate Calculus 9

2.1 Maximization,Minimization, Concavity, Convexity . . . . . . . . 9

2.2 The Perfectly Competitive Firm . . . . . . . . . . . . . . . . . . 18

2.3 Cost Minimization . . . . . . . . . . . . . . . . . . . . . . . . . . 31

2.4 Utility Maximization . . . . . . . . . . . . . . . . . . . . . . . . . 33

2.5 Mark Maximization . . . . . . . . . . . . . . . . . . . . . . . . . 39

2.6 Monopoly . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 42

2.7 Price Discrimination . . . . . . . . . . . . . . . . . . . . . . . . . 47

2.8 Inverse Functions . . . . . . . . . . . . . . . . . . . . . . . . . . . 49

2.9 Product, Quotient and Chain Rules . . . . . . . . . . . . . . . . 52

2.10 Polynomials and Taylor Series . . . . . . . . . . . . . . . . . . . . 54

2.11 Exponential Functions and Logarithms . . . . . . . . . . . . . . . 59

2.12 Linear Regression . . . . . . . . . . . . . . . . . . . . . . . . . . . 85

2.13 Maximum Likelihood . . . . . . . . . . . . . . . . . . . . . . . . . 87

3 Matrix Algebra 92

3.1 Multiplication, Transpose, Determinants and Inverse . . . . . . . 92

3.2 Applications to Econometrics . . . . . . . . . . . . . . . . . . . . 98

3.3 Systems of Equations, Cramers Rule . . . . . . . . . . . . . . . . 113

3.4 Quadratic Forms, Eigenvalues and Eigenvectors . . . . . . . . . . 119

4.1 Unconstrained Optimization . . . . . . . . . . . . . . . . . . . . . 133

4.2 Prot Maximization . . . . . . . . . . . . . . . . . . . . . . . . . 149

4.3 Linear Regression . . . . . . . . . . . . . . . . . . . . . . . . . . . 162

4.4 Maximum Likelihood . . . . . . . . . . . . . . . . . . . . . . . . . 166

4.5 Multivariate Chain Rule . . . . . . . . . . . . . . . . . . . . . . . 167

4.6 Lagrangians and Constrained Optimization . . . . . . . . . . . . 168

4.6.1 Utility Maximization . . . . . . . . . . . . . . . . . . . . . 168

4.6.2 Cost Minimization . . . . . . . . . . . . . . . . . . . . . . 178

i

CONTENTS ii

Chapter 1

p

Problem 1 Prove that p is irrational where p is any prime number (a prime

number has only one and itself as factors). Hint: it is a fact that any integer n

can be factored uniquely into r prime numbers; for example 60 = 2 2 3 5

where 2; 2; 3 and 5 are prime numbers.

Answer

p p a

Assume that p is rational so that: p = b where a and b are integers.

Then:

p a

p= =) a2 = b2 p:

b

Now if integer a has r prime factors (for example 30 has r = 3 factors; i:e:;

30 = 2 3 5 ) then a2 has 2r prime factors (for example 302 has r = 3 2

= 6 factors; i:e:; 302 = 2 2 3 3 5 5 ) and so a2 has an even number

of prime factors: 2r. The same argument applies to b2 ; that is b2 must have an

even number of prime factors; say 2s. From this it follows that b2 p has an odd

number of prime factors 2s + 1 since p is odd. But a2 = b2 p and so a2 has an

odd number of prime factors: 2s + 1. Thus we have shown that a2 has both an

even and an odd number of prime factors, which is a contradiction. Therefore

p

p is irrational.

Problem 2 Prove that there are an innite number of prime numbers. Hint:

suppose that pmax is the largest prime number so that the prime numbers are

2; 3; 5; 7; : : : pmax and consider the number:

n = 2 3 5 7 pmax + 1:

1

CHAPTER 1. THE MATHEMATICAL METHOD 2

Answer

Under the assumption that there are a nite number of primes: 2; 3; 5; 7; : : : pmax

construct the number:

n = 2 3 5 7 : : : pmax + 1:

If n prime then clearly n > pmax which contradicts the assumption that pmax is

the largest prime number. If n is not prime then it has at least one prime factor

say p^ > 1: Now p^ being a divisor of n implies that p^ 6= 2; 3; 5; 7; : : : pmax since

otherwise:

n 2 3 5 7 : : : pmax 1

= +

p^ p^ p^

|{z} | {z } |{z}

integer integer non-integer

which is not possible. Since 2; 3; 5; 7; : : : pmax is the list of all primes up to pmax

it must be that p^ > pmax ; which contradicts pmax being the largest prime. Thus

we derive a contradiction if either n is prime or not prime. It follows that there

is no largest prime number.

To make the proof a little more concrete, suppose that one thought that 5

was the largest prime number so that the primes are 2; 3; 4 and 5: Then:

n = 2 3 5 + 1 = 31:

But 31 itself is a prime number (no integer besides 31 and 1 divides 31) and is

greater than 5 which contradicts our belief that 5 was the largest prime number.

p

Problem 3 Consider the function y = x which is plotted below:

30

25

20

15

10

x :

p

y= x

Note that the function

p gets atter and atter as x increases. A natural

p conjec-

ture then is that x never gets p bigger than any number so that x c: Prove

that this is not the case; that x is in fact unbounded.

CHAPTER 1. THE MATHEMATICAL METHOD 3

Answer

p

Assume to the contrary that x is bounded so that

p

xc

for all x for some c < 1: Now we are free to choose any x we like so let

x = (c + 1)2 : The then have:

q

p

x = (c + 1)2

= c+1

> c

=) 1 > 0:

p

> 0 contradicts the fact that 0 < 1 the assumption that x c is false

Since 1 p

and so x is unbounded.

Problem 4 Use mathematical induction to prove that:

n3 n2 n

Sn = 12 + 22 + 32 + + n2 = + + :

3 2 6

Answer

Proof by Induction. Let Sn = 12 + 22 + 32 + + n2 : Clearly S1 = 12 = 1:

Now make the induction hypothesis so we assume that the result is true for

3 2

i < n; in particular for we can assume that: Sn1 = (n1) 3 + (n1)

2 + n1

6 :

Thus:

Sn = 12 + 22 + 32 + + (n 1)2 + n2

| {z }

=Sn1

3

(n 1) (n 1)2 n 1

= + + + n2

3 2 6

n3 3n2 + 3n 1 n2 2n + 12 n 1

= + + + n2

3 2 6

n3 n2 n 2 2

1 1 1

= + + + n + n + (n + n) + +

3 2 6 3 2 6

n3 n2 n

= + + :

3 2 6

Problem 5 Show that the sum of the rst n odd numbers is n2 : For example

the sum of the rst 4 odd numbers is 42 = 16 since:

1 + 3 + 5 + 7 = 16:

CHAPTER 1. THE MATHEMATICAL METHOD 4

13 + 23 + 33 + + n3 = (1 + 2 + 3 + : : : + n)2 :

2

14 + 24 + 34 + + n4 = 12 + 22 + 32 + : : : + n2 ?

n n1 n1

= +

k k k1

where

0

=1:

0

1

1 1

1 2 1

1 3 3 1

1 4 6 4 1

1 5 10 10 5 1

where the rst row gives 00 = 1 , the second gives 10 and 11 ; the third 20

2 2 n

, 1 and 2 and so on. To illustrate the generation k consider n = 5 and

k = 3: Going to the fth row we nd that:

5 4 4

10 = = + = 4 + 6:

3 3 2

n n!

= :

k k! (n k)!

5 5!

where for example 5! = 5 4 3 2 1 = 120 and 3 = 3!2! = 10: Recall as

well that 0! = 1:

Answer

For n = 0 and k = 0 we have:

0 0! 1

= = = 1:

0 0!0! 11

CHAPTER 1. THE MATHEMATICAL METHOD 5

n1 n1 (n 1)! (n 1)!

+ = +

k k1 k! (n 1 k)! (k 1)! (n k)!

(n 1)! (n 1)!

= +

k (k 1)! (n 1 k)! (k 1)! (n k) (n 1 k)!

(n 1)! 1 1

= +

(k 1)! (n 1 k)! k n k

(n 1)! nk+k

=

(k 1)! (n 1 k)! k (n k)

(n 1)! n

=

(k 1)! (n 1 k)! k (n k)

n (n 1)!

=

(k (k 1)!) ((n k) (n 1 k)!)

n!

= :

k! (n k)!

Problem 9 Use induction and the previous result to prove the binomial theo-

rem; that:

n n n 0 n n1 1 n n2 2 n 0 n

(x + y) = x y + x y + x y + + x y :

0 1 2 n

Answer

It is clearly true for n = 1 since:

1 1 1 0 1 0 1

(x + y) = x + y = x y + x y :

0 1

(x + y)n = (x + y) (x + y)n1

n 1 n1 0 n 1 n2 1 n 1 n3 2 n 1 0 n1

= (x + y) x y + x y + x y + + x y

0 1 2 n1

n1 n 0 n 1 n1 1 n 1 n2 2 n 1 1 n1

= x y + x y + x y ++ x y

0 1 2 n1

n 1 n1 1 n 1 n2 2 n 1 n3 3 n1 0 n

+ x y + x y + x y + + x y

0 1 2 n1

n1 n 0 n1 n1 n1 n1

= x y + + xn1 y 1 + + xn2 y2

0 1 0 2 1

n1 n1 n1 0 n

+ + + x1 yn1 + x y

n2 n1 n1

CHAPTER 1. THE MATHEMATICAL METHOD 6

By multiplying the two terms in brackets you will nd that the coecient on

xnj y j is

n1 n1 n

+ = :

j j 1 j

work as well since:

n1 n n1 n

=1= ; =1= :

0 0 n1 n

Thus:

n n 0 n n1 1 n n2 2 n 0 n

(x + y)n = x y + x y + x y + + x y :

0 1 2 n

fn = fn1 + fn2

with f1 = f2 = 1: Thus:

f3 = f2 + f1 = 1 + 1 = 2

f4 = f3 + f2 = 2 + 1 = 3

f5 = f4 + f3 = 3 + 2 = 5

..

.

p

There is a close link between these numbers and = 1+2 5 = 1:618: For example

the ratio of subsequent numbers approaches ; for example ff54 = 53 = 1:6 :

Use proof by induction to show that:

p n p n

1+ 5

2 12 5

fn = p

5

and from this show that:

p

fn 1+ 5

lim = :

n!1 fn1 2

Answer

For n = 1 we have:

p 1 p 1

1+ 5

12 5 p

2 5

p = p = 1 = f1

5 5

CHAPTER 1. THE MATHEMATICAL METHOD 7

and so the result is true for n = 1: Now we assume the result is true for

1; 2; : : : n 1 and attempt to show it is true for n: Thus:

fn = fn1 + fn2

p n1 p n1 p n2 p n2

1+ 5

2 12 5 1+ 5

2 12 5

= p + p

5 5

p p n2 p n1 p n2

n1

1+ 5

2 + 1+2 5 1 5

2 + 12 5

= p

5

p n2 p p n2 p

1+ 5 1+ 5 1 5 1 5

2 2 + 1 2 2 + 1

= p

5

p n2 p p n2 p

1+ 5 3+ 5

2 2 12 5 3 5

2

= p :

5

But since:

p !2 p p !2 p

1+ 5 3+ 5 1 5 3 5

= ; =

2 2 2 2

we have:

p n2 p 2 p n2 p 2

1+ 5 1+ 5

2 2 12 5 1 5

2

fn = p

5

p n p n

1+ 5

2 12 5

= p

5

and the result is proven.

Now we have:

p n p n

1+ 5 1 5

fn 2 2

= p n1 p n1 :

fn1 1+ 5

2 12 5

p p n p n1

Since 12 5 = 0:618 is a fraction, 12 5 ! 0 as n ! 1 and 12 5 !

CHAPTER 1. THE MATHEMATICAL METHOD 8

0 as n ! 1 so that:

p n p n

1+ 5 1 5

fn 2 2

lim = lim p n1

n!1 fn1 n!1 1+p5 n1 1 5

2 2

p n

1+ 5

2

= lim

n!1 1+p5 n1

2

p

1+ 5

= :

2

Chapter 2

Univariate Calculus

vexity

Problem 11 Consider the following function:

for x > 0: Find f 0 (x) and show that f (x) is globally concave. Find the global

maximum x explaining how you know it is a global maximum. Is f (x) globally

increasing or globally decreasing?

Answer

Since:

1 1 3 1

f 0 (x) = x 2 x2

2 2

1 12 3 12

=) f 0 (x ) = 0 =) (x ) (x ) = 0

2 2

1 1 12

=) (x ) 2 = (x )

3

1 1

=) x = (multipling both sides by (x ) 2 )

3

Similarly:

1 3 3 1

f 00 (x) = x 2 x 2 < 0

4 4

3 1

(since x 2 > 0 and x 2 > 0) so that f (x) is globally concave which in turn

implies that x = 13 is a global maximum. Note that f (x) is neither globally

9

CHAPTER 2. UNIVARIATE CALCULUS 10

1

increasing nor decreasing since f 0 (x) > 0 for x < 3 and f 0 (x) < 0 for x > 13 .

See the plot of f (x) = x1=2 x3=2 below:

0.3

0.2

0.1

x

-0.1

-0.2

:

1=2 3=2

f (x) = x x

f (x) = 5x4=5 2x

for x > 0: Find f 0 (x) and show that f (x) is globally concave. Find the global

maximum x explaining how you know it is a global maximum. If f (x) = 0

then what is x?

Answer

We have:

1

f 0 (x) = 4x 5 2

4 6

f 00 (x) = x 5 < 0:

5

To solve for x note that:

1

f 0 (x ) = 0 = 4 (x ) 5 2

1 1

=) (x ) 5 =

2

5

1

=) x = = 32:

2

enough to say that f 00 (32) < 0 since this only proves that x = 32 is a local

maximum. )

CHAPTER 2. UNIVARIATE CALCULUS 11

1

f 0 (x) = 4x 5 2

1 1

= 4 x 5

2

1 1

= 4 x 32 5

5

1 1

= 4 x 5 (x ) 5

1

so that f 0 (x) > 0 for x < 32 since: x 5 > (x ) 5 while f 0 (x) < 0 for x > 32

1

1

since x 5 < (x ) 5 :

1

f (r) 0 =) 5r4=5 2r = 0

=

2

=) r4=5 = r:

5

Since r > 0 we can divide both sides by x

~ to obtain:

2

r1=5 =

5

5

2

=) r = = 97:656:

5

The function f (x) is plotted below:

16

14

12

10

8

6

4

2

0 20 40 60 80 100

x

f (x) = 5x4=5 2x

Problem 13 Consider the following function:

f (x) = 3x2=3 5x;

for x > 0: Find f 0 (x) and show that f (x) is globally concave. Find the global

maximum x explaining how you know it is a global maximum. If g (x) =

1

1 + x1 and h (x) = g 3x2=3 5x ; then nd the x which solves the rst-

order conditions for h (x) :

CHAPTER 2. UNIVARIATE CALCULUS 12

Answer

Since:

1

f 0 (x) = 2x 3 5

1

=) f 0 (x ) = 0 =) 2 (x ) 3 5 = 0

1 5

=) (x ) 3 =

2

3

5 8

=) x = = :

2 125

Similarly:

2 4

f 00 (x) = x 3 < 0

3

4

(since x 3 > 0 ) so that f (x) is globally concave which in turn implies that

8

x = 125 is a global maximum. Note that f (x) is neither globally increasing

8 8

nor decreasing since f 0 (x) > 0 for x < 125 and f 0 (x) < 0 for x > 125 . See the

plot of f (x) below:

0.16

0.14

0.12

0.1

0.08

0.06

0.04

0.02

x :

f (x) = 3x2=3 5x

1

If g (x) = 1 + x1 then:

1

g0 (x) = 2 > 0:

1 + x1 x2

Therefore:

h0 (x ) = g 0 (f (x ))f 0 (x ) = 0

| {z }

+

1

=) g (f (x )) 2 (x ) 3 5 = 0

0

| {z }

f 0 (x )

8

=) x =

125

CHAPTER 2. UNIVARIATE CALCULUS 13

Alternatively working directly with h (x) we nd that:

h (x) = g 3x2=3 5x

1

1

= 1 + 2=3

3x 5x

3x2=3 5x

= :

3x2=3 5x + 1

Using the quotient rule it follows that:

2=3 1

1

3x 5x + 1 2x 3 5 3x2=3 5x 2x 3 5

h0 (x) = 2

3x2=3 5x + 1

1

2x 3 5 3x2=3 5x + 1 3x2=3 5x

= 2

3x2=3 5x + 1

1

2x 3 5

= 2

3x2=3 5x + 1

so that:

1

h0 (x ) = 0 =) 2 (x ) 3 5 = 0

8

=) x = :

125

Problem 14 Suppose f (x) is given by:

f (x) = x1=2 x

for x > 0: Find f 0 (x) and show that f (x) is globally concave. Determine the

rst-order conditions and use these to nd that x which maximizes f (x) :Prove

that x is a global

p maximum. Is f (x) globally increasing or globally decreasing?

If h (x) = g ( x x) where g (x) is monotonically increasing, nd the value of

x which maximizes h (x) :

Answer

We have:

1 1

f 0 (x) = x 2 1

2

and f (x) is globally concave since for all x:

1 3

f 00 (x) = x 2 < 0:

4

CHAPTER 2. UNIVARIATE CALCULUS 14

1 12

f 0 (x ) = 0= (x ) 1

2

1

=) (x ) 2 = 2

1

=) x = (2)2 = :

4

Since f (x) is globally concave

x = 14 is a global maximum. (Note it is not

enough to say that f 4 < 0 since this only proves that x = 14 is a local

00 1

f 0 (x) > 0 for x < 14 while f 0 (x) < 0 for x > 14 :

Now:

p 1 1

h0 (x) = g 0 x x x 2 1

2

p

using the chain rule. But since g 0 ( x x) > 0 it follows that if h0 (x ) = 0

1

then 12 (x ) 2 1 = 0 or x = 14 as above.

concave or convex? Using the rst order conditions nd any local maxima or

minima of f (x) : What is the global maximum of f (x)? Explain.

Answer

Since:

1

f 0 (x) = 6x 4 3

1

=) f 0 (x ) = 0 = 6 (x ) 4 3

1 3 1

=) (x ) 4 = =

6 2

4

1

=) x = = 16:

2

CHAPTER 2. UNIVARIATE CALCULUS 15

Since f 0 (x) > 0 for x < 16 and f 0 (x) < 0 for x > 16 as illustrated in the graph

below:

0 5 10 15 20 25

x

f 0 (x)

Since

+

z}|{z}|{

00 3 5

f (x) = x 4 < 0

2

the function f (x) is globally concave with a unique global maximum at x = 16:

This is illustrated in the graph below:

16

14

12

10

8

6

4

10 20 30 40 50

x

3=4

f (x) = 8x 3x

f (x) = xa xb

for x > 0 where 0 < a < 1 and b > 1: Show that f (x) has a unique global

maximum x , nd x ; and show that f (x) is globally concave.

CHAPTER 2. UNIVARIATE CALCULUS 16

Answer

We have:

f 0 (x ) = 0 =) a (x )a1 b (x )b1 = 0

=) a (x )a1 = b (x )b1

(x )a1 b

=) =

(x )b1 a

b

=) (x )ab =

a

ab

1

b

=) x = :

a

+ + +

z}|{z }| { z}|{z }| {

00

f (x) = a (a 1)xa2 b (b 1)xb2 < 0

where a 1 < 0 since a < 1 and b 1 > 0 since b > 1. Therefore f (x) is globally

b ab

1

concave so that x = a is a global maximum.

for x > 0 where 0 < a < 1; A > 0; B > 0 and b > 1: Show that f (x) has a

unique global maximum x , nd x ; and show that f (x) is globally concave.

Answer

We have:

f 0 (x ) = 0 =) A a (x )a1 B b (x )b1 = 0

a1

=) a (x ) = b (x )b1

(x )a1 Bb

=) =

(x )b1 Aa

Bb

=) (x )ab =

Aa

1

B b ab

=) x = :

Aa

CHAPTER 2. UNIVARIATE CALCULUS 17

+

+ z }| { + + +

z}|{z}|{ z}|{z}|{z }| {

00

f (x) = A a (a 1)xa2 B b (b 1)xb2 < 0

where a 1 < 0 since a < 1 and b 1 > 0 since b > 1. Therefore f (x) is globally

1

Bb ab

concave so that x = Aa is a global maximum.

Use rst order conditions to nd the possible local maxima or minima, Use

second order conditions to determine which are local maxima and which are

local minima. Is the function convex or concave and what are the global minima

and maxima?

Answers

We have:

f 0 (x) = 15x2 8x 2

=) f 0 (x ) = 0 = 15(x )2 8(x ) 2

4 1p

=) x = + 46 = 0:71882

15 15

4 1

p

since x = 15 15 46 = 0:18549 is ruled out by the requirement that x > 0:

Now:

f 00 (x) = 30x 8

so that:

8 8

concave nor convex since f 00 (x) < 0 for x < 30 and f 00 (x) > 0 for x > 30 with

8

x = 30 and inection point where f (x) changes from being concave to convex.

CHAPTER 2. UNIVARIATE CALCULUS 18

5.5

4.5

3.5

0 0.2 0.4 0.6 0.8 1 1.2

x :

3 2

f (x) = 5x 4x 2x + 5

4 1

p

From the graph it is clear that x = 15 + 15 46 is a global minimum and

4 1

p

that f (x) has no global maximum. To prove that x = 15 + 15 46 is a global

minimum note that:

f 0 (x) = 15x2 8x 2

4 1p 4 1p

= 15 x 46 x + 46

15 15 15 15

4 1

p

and that x 15 15 46 > 0 for x > 0: It follows that f 0 (x) < 0 for x <

4 1

p 0

4 1

p

4 1

p

15 + 15 46 and f (x) > 0 for x > 15 + 15 46 so that x = 15 + 15 46

is a global minimum.

The next two problems are based on the following information: Sup-

pose in the short-run a perfectly competitive rm faces a price P; a nominal

The rms

wage W; a rental cost of capital R; and a xed amount of capital K:

short-run production function relating Q output to L labour is given by:

Q = f (L) = L2=3 :

Problem 19 What is the marginal product of labour? Show that this production

function satises the assumption of a diminishing marginal product of labour.

Find prots as a function of L or (L) and show that (L) is globally concave.

Derive the rms demand curve for labour L and determine the elasticity of

demand.

CHAPTER 2. UNIVARIATE CALCULUS 19

Answer

We have a positive marginal product of labour since:

+

z}|{

2 1

M PL (L) = f 0 (L) = L 3 > 0

3

and a diminishing marginal product of labour since:

+

z}|{

2 4

M PL0 (L) = f (L) = L 3 < 0:

00

9

Prots as a function of L is found by replacing Q with L2=3 as:

2

(L) = P L 3 W L RK

so that:

2 1

0 (L) = P L 3 W

3

2 4

(L) = P L 3 < 0 =) (L) is globally concave:

00

9

From the rst-order conditions for prot maximization we have for real wage

w= WP :

2 1

0 (L ) = 0 = P (L ) 3 W

3

13 3W 3

=) (L ) = = w

2P 2

3 3

3 3

=) L = w = w3 :

2 2

Since L has the form: y = Axb the elasticity of demand is the exponent on w

or 3:

g (Q) ; then what is g (Q) given the rms production function above? Use this to

obtain the rms cost function and show that the cost function is convex. Derive

(Q) (prots as a function of Q) and Q ; the rms supply curve.

Answer

By solving for L from Q = L2=3 we have:

Q = L2=3 =) L = Q3=2 :

CHAPTER 2. UNIVARIATE CALCULUS 20

3

The cost function is then found by replacing L with Q 2 to obtain costs as a

function of Q :

3

= W Q 2 + RK:

C (Q) = W L + RK

3 1

MC (Q) = C 0 (Q) = W Q 2

2

+

z }| {

3 1

=) M C 0 (Q) = C 00 (Q) = W Q 2 > 0; =) C (Q) is globally convex.

4

Prots are found by replacing W L + RK with C (Q) as:

(Q) = P Q W L + RK

= P Q C (Q)

3

= P Q W Q 2 RK

P

so that letting p = W be the real price of Q :

3 1

0 (Q ) = 0 =) P W (Q ) 2 = 0

2

12 2P 2

=) (Q ) = = p

3W 3

2 2

2 2

=) Q = p = p2 :

3 3

Since Q has the form y = Axb with p the 0 x0 variable and Q the 0 y 0 variable,

the elasticity of supply is the exponent on p or 2:

P and nominal wage W: The rms short run production function relating Q

output to L labour is given by:

Q = f (L) = 9L1=3 :

What is the marginal product of labour? Show that this production function

satises the assumption of a diminishing marginal product of labour. If one

rewrote f (L) in the form: f (L) = ea+b ln(L) , then what are a and b? Derive

(L) (prots as a function of L) and show that it is concave. Derive the rms

demand curve for labour and determine the elasticity of the demand curve.

Answer

The marginal product of labour is

2

MPL (L) = f 0 (L) = 3L 3 :

CHAPTER 2. UNIVARIATE CALCULUS 21

Since

5

M PL0 (L) = f 00 (L) = 2L 3 < 0

This is illustrated in the graphs below

24

22

20

18

16

14

12

10

8

6

4

2 4 6 8 10 12 14 16 18 20

L

f (L)

2 4 6 8 10 12 14 16 18 20

L

M PL (L)

If

=) ea+b ln(L) = ea eb ln(L)

b

= ea eln(L)

= ea Lb

1

= 9L 3 :

CHAPTER 2. UNIVARIATE CALCULUS 22

(L) = P 9L1=3 W L

so that:

2

0 (L) = 3P L 3 W

5

00 (L) = 2P L 3 < 0 ) (L) is globally concave.

Now from

2

0 (L ) 0 = 3P (L ) 3 W

=

2 1W w

=) (L ) 3 = =

3P 3

W

where w = P is the real wage. It follows that:

2

32 w 32

(L ) 3 =

3

32

1

=) L (w) = w :

3

Q = f (L) = 9L1=3

when labour is the only factor of production and W is the nominal wage. Show

that for this rm that marginal cost: MC (Q) is positive, that M C 0 (Q) is also

positive and that the cost function is convex.

Answer

1

From Q = 9L 3 it follows that:

3

11 1

L = Q =) L (Q) =

3 Q3 :

9 9

1 3

Therefore cost as a function of Q is found by replacing W L with 9 Q3 as:

C (Q) = W L

3

1

= W Q3 :

9

CHAPTER 2. UNIVARIATE CALCULUS 23

Thus:

3

1

M C (Q) = C 0 (Q) = 3W Q2 > 0:

9

so that marginal cost is positive.

Since:

3

1

C 00 (Q) = MC 0 (Q) = 6W Q>0

9

for all Q it follows that C (Q) is globally convex and marginal cost is increasing.

The is illustrated in the plot below for

0.01

0.008

0.006

0.004

0.002

0 0.5 1 1.5 2

Q :

1 3

C (Q) = W 9 Q3

C (Q) = 5Q4 + 120:

Find the marginal cost function MC (Q) = C 0 (Q) and the average cost function

C (Q)

AC (Q) = :

Q

Show that the cost function is globally convex. Show that the average cost func-

tion AC (Q) is also globally convex and nd that Q at which average cost is at

a minimum. If P = 10 then what will the prot maximizing Q be?

Answer

Marginal MC (Q) and average cost AC (Q) are:

M C (Q) = C 0 (Q) = 20Q3

C (Q) 5Q4 + 120 120

AC (Q) = = = 5Q3 +

Q Q Q

CHAPTER 2. UNIVARIATE CALCULUS 24

and

Now:

120

AC 0 (Q) = 15Q2

Q2

240

AC 00 (Q) = 30Q + 3 > 0 for all Q

Q

1200

1000

800

600

400

200

1 2 3 4 5 :

Q

120

AC (Q) = 5Q3 + Q

120

AC 0 (Q ) = 0 = 15 (Q )2

(Q )2

120

=) (Q )4 = =8

15

1

=) Q = (8) 4 = 1:6818:

Now:

= 10Q 5Q4 + 120

=) 0 (Q ) = 0 = 10 20 (Q )3

10

=) (Q )3 =

20

13

1

=) Q = = 0:7937:

2

CHAPTER 2. UNIVARIATE CALCULUS 25

00 (Q) = 60Q2 < 0

1

so that (Q) is globally concave and Q = 12 3 is a global maximum. (Q) is

plotted below:

-114

-115

-116

-117

-118

-119

-120

3 0 0.2 0.4 0.6 0.8 1 1.2

Q

(Q) = 10Q 5Q4 + 120

Problem 24 Suppose that the rm has a production function Q = f (L) = L

where 0 < < 1: Derive the rms demand curve for labour L = L (w) and

1

show that the elasticity of demand is 1 while the elasticity of supply is 1 :

Answer

We have:

(L) = P L W L

=) (L ) = P (L )1 W = 0

W w

=) (L )1 = =

P

w 1

1 1

1

1 1

=) L = = w 1 :

1

The elasticity of labour demand is then the exponent on the real wage 1 <0

since < 1:

Now

Q = f (L ) = (L )

1

w 1

=

W 1

=

P

1

W

= P 1 :

CHAPTER 2. UNIVARIATE CALCULUS 26

The elasticity of supply is the exponent on P : 1 > 0 since 0 < < 1.

1

1

Q = f (L) = 1 + :

L

Show that this production function is globally increasing and concave. Show that

the marginal product of labour: M PL (L) is positive and diminishing. Find the

prot maximizing L when the price the rm receives is P and the nominal wage

is W: Find the rms labour demand curve and prove that the labour demand

curve is downward sloping. Is the elasticity constant?

Answer

We have:

2

1 1

f 0 (L) = 1 + 2

L L

1 2 2

= 1+L L

1

2

= 1+L L

1

= (1 + L)2 = > 0:

(1 + L)2

1

Since f 0 (L) = (1+L)2

it follows that:

3 2

f 00 (L) = 2 (1 + L) = < 0:

(1 + L)3

Therefore f (L) is globally concave. Since M PL (L) = f 0 (L) > 0 and M PL0 (L) =

f 00 (L) < 0 by above the marginal product of labour in positive and diminishing.

Since from prot maximization we know that MPL (L ) = w or

1

= w

(1 + L )2

=) (1 + L )2 = w

1

=) (1 + L ) = w 2

1

=) L = w 2 1:

Therefore:

dL 1 3

= w 2 < 0

dw 2

CHAPTER 2. UNIVARIATE CALCULUS 27

so the labour demand curve is downward sloping. The elasticity is not constant

since:

dL w 1 3 w

(!) = = w 2 1

dw L 2 w 2 1

1

1 w 2

=

2 w 12 1

or as illustrated in the plot below:

-2

-4

-6

-8

-10

-12

-14

-16

-18

-20

1.5 2 2.5 3

w

3.5 4 4.5 5 :

1

w 2

(w) = 1

w 2 1

pose the rms production function is given by:

Q = (L1=2 + K 1=2 )2

given by K = 16:

Problem 26 Find the short-run production function. Show that the marginal

product of labour is positive and that the diminishing marginal product of labour

assumption is satised.

Answer

The short-run production function is:

1

= L + 8L 2 + 16:

Therefore:

+

z}|{

1

MPL (L) = f (L) = 1 + 4L 2 > 0

0

CHAPTER 2. UNIVARIATE CALCULUS 28

and

+

z}|{

3

M PL0 (L) = f 00 (L) = 2L 2 < 0:

and the labour market. Derive the rms demand curve for labour from the prot

maximizing condition and show that it is downward sloping.

Answer

From the prot maximizing condition

W

MPL (L ) = w =

P

we have:

1

1 + 4 (L ) 2 = w

1 1

=) (L ) 2 = (w 1)

4

2

1 16

=) L = (w 1) = :

4 (w 1)2

dL 32

= < 0:

dw (w 1)3

| {z }

+

Problem 28 Find the rms cost function C(Q) , marginal cost and show that

C 00 (Q) > 0:

Answer

Solving Q = (L1=2 + 161=2 )2 for L we nd that:

1 2

Q = (L1=2 + 4)2 =) L = Q 2 4

1

=) L = Q 8Q 2 + 16:

1

with Q 8Q 2 + 16 we obtain:

Replacing L in C = W L + RK

1

C (Q) = W Q 8Q 2 + 16 + RK

1

=) M C (Q) = C 0 (Q) = W 1 4Q 2

3

=) M C 0 (Q) = C 00 (Q) = 2W Q 2 > 0:

CHAPTER 2. UNIVARIATE CALCULUS 29

2

1 ln L10 =80ln L 16 12 ln( 14 )

Q = f (L) = L 4 e ( )

where Q is output and L is the number of workers. Calculate the marginal

product of labour and show that there is a diminishing marginal product of labour.

Find the rms demand curve for labour and the elasticity of labour demand.

Answer

Simplifying (in excruciating detail) we have:

2

1 ln L10 =80ln L 16 12 ln( 14 )

f (L) = L 4 e ( )

p

= L 4 e10 ln(L)=80+ 16 ln(L)+ln( 4)

1 2

1 1

= L 4 e 4 ln(L)+ln(2)

1 1

= L 4 e 4 ln(L) eln(2)

1

14

= L 4 eln(L) 2

1 1

= 2L 4 L 4

1

= 2L 2 :

Thus f (L) is a disguised Cobb-Douglas production function. Therefore:

1

M PL (L) = f 0 (L) = L 2

and

1 3

M PL0 (L) = f 00 (L) = L 2 < 0

2

so there is a diminishing marginal product of labour. From the prot maximizing

condition:

MPL (L ) = w

we have:

1

(L ) 2 = w

1

=) L = w2 =

w2

so that the elasticity of demand is 2:

Problem 30 Suppose in the short-run a perfectly competitive rm faces a price

P; a nominal wage W; a rental cost of capital R; and a xed amount of capital

The rms short-run production function relating Q output to L labour is

K:

given by:

1

2

Q = f (L) = 1 + L 2 :

CHAPTER 2. UNIVARIATE CALCULUS 30

What is the marginal product of labour? Show that this production function

satises the assumption of a diminishing marginal product of labour. Derive the

rms demand curve for labour L and show that the demand curve for labour

is downward sloping if W > P . Find the rms cost function C (Q), calculate

MC (Q) and show that C (Q) is globally convex. Would the rm ever produce

where Q < 1?

Answer

The derivations are a little easier if f (L) is rst simplied as:

1

2

Q = f (L) = 1 + L 2

1

= 1 + 2L 2 + L:

The marginal product of labour is then given by:

1

MPL (L) = f 0 (L) = 1 + L 2

and the assumption of a diminishing marginal product of labour is satised

since:

+

z}|{

1 3

M PL0 (L) = f 00 (L) = L 2 < 0:

2

1

To nd prots as a function of L replace Q with 1 + 2L 2 + L as:

1

(L) = P 1 + 2L 2 + L W L RK

1

=) 0 (L ) = 0 = P 1 + (L ) 2 W

W

1

=) (L ) 2 = 1 =w1

P

1

=) L = (w 1)2 = :

(w 1)2

Therefore assuming w > 1:

dL 2

= < 0:

dw (w 1)3

To obtain C (Q) note that:

1

2 1 2

Q = 1 + L 2 =) L = Q 2 1

1 2

so that replacing L with Q 2 1 yields cost as a function of Q as:

C (Q) = W L + +RK

1 2

= W Q 2 1 + RK

1

= W Q 2Q 2 + 1 + RK:

CHAPTER 2. UNIVARIATE CALCULUS 31

Thus:

1

M C (Q) = W 1 Q 2

and

1 3

C 00 (Q) = W Q 2 > 0 =) C (Q) is globally convex.

2

Note that M C (Q) < 0 for Q < 1 and since M C (Q) = P > 0 the rm would

always produce at Q > 1:

Problem 31 Suppose that a rm has a Cobb-Douglas production function:

1 1

Q = L2 K 2

and is faced with the problem of choosing L and K (we are in the long-run now!)

to minimize cost of producing a xed Q or:

W L + RK:

1 1 1 1

Q = L 2 K 2 =) K 2 = QL 2

=) K = Q2 L1

C (L) = W L + RK

= W L + RQ2 L1 :

Thus:

C 0 (L ) = W RQ2 (L )2 = 0

W

=) (L )2 = Q2

R

1 1

=) L = QW 2 R 2 :

calculate the required K need to produce Q as:

K = Q2 (L )1

1 1

1

= Q2 QW 2 R 2

1 1

= QW 2 R 2 :

CHAPTER 2. UNIVARIATE CALCULUS 32

C = W L + RK

1 1 1 1

= W QW 2 R 2 + RQW 2 R 2

1 1 1 1

= QW 2 R 2 + QW 2 R 2

1 1

= 2QW 2 R 2 :

Note that

dC 1 1

= QW 2 R 2 = L

dW

dC 1 1

= QW 2 R 2 = K

dR

which illustrates Shephards lemma.

Q = L K

and is faced with the problem of choosing L and K (we are in the long-run) to

minimize cost of producing a xed Q or:

W L + RK:

Q = L K =) K = QL

1

=) K = Q L

C (L) = W L + RK

1

= W L + RQ L :

Thus:

1

C 0 (L ) = W RQ (L ) 1 = 0

1 W

=) (L ) 1 = Q

R

(+) 1 W

=) (L ) = Q

R

+ +

W 1

=) L = Q +

R

+

1

=) L = W + R + Q + :

CHAPTER 2. UNIVARIATE CALCULUS 33

calculate the required K needed to produce Q as:

1

K = Q (L )

!

1 + 1

= Q W + R + Q +

+

1 1

= W + R + Q +

+

W + R + Q (1 + )

1

=

+

W + R + Q ( + )

1

=

+

1

= W + R + Q + :

Problem 33 Suppose that a household consuming apples Q1 and oranges Q2

gets utility:

The household has income Y = 10; the price of Q1 is P1 and the price of Q2 is

P2 = 5 so that the budget constraint is:

10 = P1 Q1 + 5Q2 :

f (Q1 ) : Find the utility maximizing Q1 from the rst-order conditions and show

that Q1 is a global maximum. What is the elasticity of demand?

Answer

From the budget constraint:

10 P1 Q1 P1

Q2 = =2 Q1

5 5

so that

P1

U (Q1 ) = 0:4 ln (Q1 ) + 0:6 ln 2 Q1

5

CHAPTER 2. UNIVARIATE CALCULUS 34

0:4 P1 0:6

U 0 (Q1 ) =

Q1 5 2 P51 Q1

0:4 P1 0:6

=) U 0 (Q1 ) = 0 =

Q1 5 2 P51 Q1

0:4 0:6

=) = P1

Q1 10 P1 Q1

=) 0:4 (10 P1 Q1 ) = 0:6 P1 Q1

=) 4 = P1 Q1

4

=) Q1 = = 4P11 :

P1

The elasticity of demand is the exponent on P1 which is 1:

Taking the second derivative we nd that:

2

00 0:4 P1 0:6

U (Q1 ) = 2 2 <0

Q1 5 2 P1

5 Q1

gets utility:

that the income constraint is:

Y = P1 Q1 + P2 Q2 :

Find the utility maximizing Q1 . What is the elasticity of demand for Q1 and

the income elasticity of demand for Q1 ?

Answer

First solve for Q2 as a function of Q1 as:

Y P1 Q1 Y P1

Q2 = = Q1

P2 P2 P2

and use this to write U as a function of Q1 only as:

Y P1

U (Q1 ) = 0:3 ln (Q1 ) + 0:7 ln Q1 :

P2 P2

CHAPTER 2. UNIVARIATE CALCULUS 35

Dierentiating U (Q1 ) with respect to Q1 and using the chain rule for the second

term yields:

0:3 P1 0:7

U 0 (Q1 ) =

Q1 P2 Y

P2 PP2 Q1

1

0:3 P1 0:7

U 0 (Q1 ) = 0=

Q1 P2 Y

P2 P

P2 Q1

1

0:3 P1 0:7

=) =

Q1 P2 P

Y

P2

P2 Q1

1

0:3 0:7

=) = P1

Q1 Y P1 Q1

=) 0:3 (Y P1 Q1 ) = 0:7P1 Q1

=) 0:3Y = P1 Q1

0:3Y

=) Q1 = = 0:3Y 1 P11 :

P1

The income elasticity is the exponent on Y or 1 while the own price elasticity

is the exponent on P1 or 1:

gets utility:

U = ln (Q1 ) + (1 ) ln (Q2 ) :

where: 0 < < 1: The household has income Y; the price of Q1 is P1 and the

price of Q2 is P2 so that the income constraint is:

Y = P1 Q1 + P2 Q2 :

Find the utility maximizing Q1 . What is the elasticity of demand for Q1 and

the income elasticity of demand for Q1 ? What does the taste parameter de-

termine?

Answer

First solve for Q2 as a function of Q1 as:

Y P1 Q1 Y P1

Q2 = = Q1

P2 P2 P2

and use this to write U as a function of Q1 only as:

Y P1

U (Q1 ) = ln (Q1 ) + (1 ) ln Q1 :

P2 P2

CHAPTER 2. UNIVARIATE CALCULUS 36

Dierentiating U (Q1 ) with respect to Q1 and using the chain rule for the second

term yields:

P1 (1 )

U 0 (Q1 ) =

Q1 P2 Y

P2 P P2 Q1

1

P1 (1 )

U 0 (Q1 ) = 0=

Q1 P2 Y

P2P

P2 Q1

1

P1 (1 )

=) =

Q1 P2 Y

P2 P

P2 Q1

1

(1 )

=) = P1

Q1 Y P1 Q1

=) (Y P1 Q1 ) = (1 ) P1 Q1

=) Y = P1 Q1

Y

=) Q1 = = Y 1 P11 :

P1

The income elasticity is the exponent on Y or 1 while the own price elasticity

is the exponent on P1 or 1: Since:

P1 Q1

=

Y

the taste parameter determines the budget share of good 1: Thus if = 0:4

then the household always spends 40% of its income on good 1:

gets utility:

p p

U = 0:3 Q1 + 0:7 Q2 :

that the income constraint is:

Y = P1 Q1 + P2 Q2 :

Find the utility maximizing Q1 . What is the elasticity of demand for Q1 and

the income elasticity of demand for Q1 ?

Answer

First solve for Q2 as a function of Q1 as:

Y P1 Q1 Y P1

Q2 = = Q1

P2 P2 P2

CHAPTER 2. UNIVARIATE CALCULUS 37

r

p Y P1

U (Q1 ) = 0:3 Q1 + 0:7 Q1 :

P2 P2

Dierentiating U (Q1 ) with respect to Q1 and using the chain rule for the second

term yields:

1 0:3 1 P1 0:7

U 0 (Q1 ) = p q

2 Q1 2 P2 Y P1

P2 P2 Q1

1 0:3 1 P1 0:7

U 0 (Q1 ) = 0= p q

2 Q1 2 P2 Y P1

P2 P2 Q1

0:3 P 0:7

=) p = 1q

Q1 P2 Y P1

P2 P2 Q1

2

(0:3)2 P1 (0:7)2

=) =

Q1 P2 Y P1

P2 P2 Q1

2

Y P1 P1

=) (0:3)2 Q1 = (0:7)2 Q1

P2 P2 P2

2 Y

(0:3) P2

=) Q1 = 2

(0:3)2 P1

P2 + (0:7)2 P1

P2

2 P2

(0:3) P1 Y

=) Q1 =

(0:3)2 P2 + (0:7)2 P1

The income elasticity is the exponent on Y or 1:

Problem 37 Suppose that a household consuming apples Q1 and oranges Q2

gets utility:

U = U1 (Q1 ) + U2 (Q2 ) :

where U100 (Q1 ) < 0 and U200 (Q2 ) < 0: The household has income Y; the price of

Q1 is P1 and the price of Q2 is P2 so that the income constraint is:

Y = P1 Q1 + P2 Q2 :

Find the rule for utility maximization. Show that Q1 and Q2 are normal goods.

Answer

First solve for Q2 as a function of Q1 as:

Y P1 Q1 Y P1

Q2 = = Q1

P2 P2 P2

CHAPTER 2. UNIVARIATE CALCULUS 38

Y P1

U (Q1 ) = U1 (Q1 ) + U2 Q1 :

P2 P2

Dierentiating U (Q1 ) with respect to Q1 and using the chain rule for the second

term yields:

0 0 P1 0 Y P1

U (Q1 ) = U1 (Q1 ) U Q1

P2 2 P2 P2

P1 0 Y P1

U 0 (Q1 ) = 0 = U10 (Q1 ) U2 Q1

P2 P2 P2

P1 0 Y P1

=) U10 (Q1 ) = U2 Q1

P2 P2 P2

P 1 0

=) U10 (Q1 ) = U (Q )

P2 2 2

Y P1

since Q2 = P2 P2 Q1 : We can write this in turn as:

U10 (Q1 ) U 0 (Q )

= 2 2

P1 P2

or the household allocates goods so that the marginal utility of each good divided

by its price is the same for both goods.

To show that both goods are normal write Q1 (Y ); that is the demand for

good 1 as a function of income Y: From the rst-order condition then we have:

0 P1 0 Y P1

U1 (Q1 (Y )) = U Q (Y ) :

P2 2 P2 P2 1

Dierentiating both sides with respect to Y and using the chain rule yields:

dQ1 (Y ) P1 00 Y P1 1 P1 dQ1 (Y )

U100 (Q1 (Y )) = U2 Q1 (Y )

dY P2 P2 P2 P2 P2 dY

P1 00 Y P1

dQ1 (Y ) (P2 )2 U2 P2 P2 Q1 (Y )

=) = 2

dY

U100 (Q1 (Y )) + P12 U200 PY2 P

P

P2 Q1 (Y )

1

P1 U200 PY2 P P2

1

Q

1 (Y )

= >0

P2 U1 (Q1 (Y )) + P1 U200 PY2 P

2 00 2 1

P2 1Q (Y )

since U100 < 0 and U200 < 0 implies that both the numerator and denominator are

CHAPTER 2. UNIVARIATE CALCULUS 39

dQ2 (Y ) d Y P1

= Q (Y )

dY dY P2 P2 1

1 P1 dQ1 (Y )

=

P2 P2 dY

P2 U100 PY2 P

P2 Q1 (Y )

1

= > 0:

P22 U100 (Q1 (Y )) + P12 U200 PY2 P

P2 Q1 (Y )

1

Problem 38 Suppose you are writing an exam with two questions. The mark

you receive on question 1 is M1 (t1 ) where: M1 (t1 ) = 60 (1 et1 ) and t1 is

the time spent on question 1: Similarly the mark on question 2 is: M2 (t2 ) =

40 (1 et2 ) where t2 is the time spent on question 2: Show for question 1 that

the marginal mark is positive and diminishing. If the exam is 1 hour long so

that t1 + t2 = 1; nd the optimal amount of time t1 and t2 that you would spend

on each question. What grade would you receive?

Answer

For question 1:

+

z}|{

M10 (t1 ) = 60et1 > 0 =) marginal mark is positive

+

z}|{

M100 (t1 ) = 60et1 < 0 =) diminishing marginal mark.

M (t1 ) = M1 (t1 ) + M2 (1 t1 )

= 60 1 et1 + 40 1 e(1t1 )

so that:

=) M 0 (t1 ) = 0 = 60et1 40e(1t1 )

=) 60et1 = 40e(1t1 )

60 3

=) = = e(1t1 ) e(t1 ) = e2t1 1

40 2

3

=) 2t1 1 = ln

2

1 1 3

=) t1 = + ln = 0:702:

2 2 2

CHAPTER 2. UNIVARIATE CALCULUS 40

Thus t2 = 1 t1 = 1 0:702 = 0:297: Thus the student spends about 70% of the

time on question 1 (about 42 minutes) and about 30% of the time on question

2 (about 18 minutes). The student receives a grade of:

M (t1 ) = 60 1 e0:702 + 40 1 e(10:702)

= 40:572

40

38

36

34

32

30

28

26

0 0.2 0.4 0.6 0.8 1

M (t1 ) = 60 (1 et1 ) + 40 1 e(1t1 )

Problem 39 Suppose you are writing an exam with two questions. Let t1 be

the amount of time you spend on question 1 and t2 the amount of time your

spend on question 2: Let M1 (t1 ) = 0:6 ln (t1 ) be the mark you get on question 1

and let M2 (t2 ) = 0:4 ln (t2 ) be the mark you get on question 2 so that your total

grade is:

Let

T = t1 + t2

be the total time you have to write the exam. Find t1 and t2 ; the optimal

amount of time to spend on each question, and prove that what you nd is a

global maximum.

Answer

By replacing t2 with T t1 we have:

CHAPTER 2. UNIVARIATE CALCULUS 41

so that:

0:6 0:4

M 0 (t1 ) =

t1 T t1

0:6 0:4

=) M 0 (t1 ) = 0 =

t1 T t1

0:6 0:4

=) =

t1 T t1

=) 0:6 (T t1 ) = 0:4t1

=) t1 = 0:6T:

Since t2 = T t1 we have:

t2 = 0:4T

so that it optimal to spend 60% of the time on question 1 and 40% on question

2:

t1 = 0:6T is a global maximum since:

0:6 0:4

M 00 (t1 ) = 2 <0

t1 (T t1 )2

Problem 40 Suppose you are writing an exam with two questions. The mark

you receive on question 1 is M1 (t1 ) and the mark on question 2 is: M2 (t2 )

where t2 is the time spent on question 2: Find rule the optimal amount of time

t1 and t2 that you would spend on each question. Show that the solution to the

rst-order conditions is a global maximum if M1 (t1 ) and M2 (t2 ) are concave.

Show that t1 and t2 are normal goods, that is if T increases (the instructor gives

you more time) then both t1 and t2 increase.

Answer

We have:

t2 = T t1

M (t1 ) = M1 (t1 ) + M2 (T t1 )

=) M 0 (t1 ) = M20 (T t1 )

=) M 0 (t1 ) = M20 (t2 )

CHAPTER 2. UNIVARIATE CALCULUS 42

student should allocate his or her time so as to equate the marginal mark in

each question.

Given that M100 (t1 ) < 0 and M200 (t2 ) < 0 we have:

=) M 00 (t1 ) = M100 (t1 ) + M200 (T t1 ) < 0

so that M (t1 ) is globally concave and the solution to the rst-order conditions

is a global maximum.

We can write t1 (T ) ; that is the optimal amount of time spent on question

1 will depend on the amount of time available. This satises:

Dierentiating both sides with respect to T and using the chain rule we nd

that:

00 dt1 (T ) 00 dt1 (T )

M1 (t1 (T )) = M2 (T t1 (T )) 1

dT dT

dt1 (T ) M200 (T t1 (T ))

=) = 00 >0

dT M1 (t1 (T )) + M200 (T t1 (T ))

since given M100 (t1 ) < 0 and M200 (t2 ) < 0 both the numerator and denominator

dt

1 (T )

are negative. Furthermore since t2 (T ) = T dT we have:

dt2 (T ) dt1 (T )

= 1

dT dT

M200 (T t1 (T ))

= 1

M100 (t1 (T )) + M200 (T t1 (T ))

M100 (T t1 (T ))

= > 0:

M1 (t1 (T )) + M200 (T t1 (T ))

00

2.6 Monopoly

The next two problems are based on the following information: Con-

sider a monopolist who faces an inverse demand function of the form:

so that unlike the perfectly competitive rm a monopolist must reckon with the

fact that selling more will cause the price he receives to drop. Revenue for the

monopolist is given by:

R (Q) = P (Q) Q;

CHAPTER 2. UNIVARIATE CALCULUS 43

MR (Q) = R0 (Q) :

Suppose that the cost function of the monopolist is of the form:

C (Q)

which is increasing and convex so that:

M C (Q) = C 0 (Q) > 0

M C 0 (Q) = C 00 (Q) > 0:

Problem 41 What rule should the rm use to decide how much of Q to produce.

Answer

Prots are given by:

(Q) = R (Q) C (Q)

= P (Q) Q C (Q)

so that the rst-order condition for prot maximization is:

0 (Q ) = R0 (Q ) C 0 (Q )

= MR (Q ) MC (Q )

=) MR (Q ) = MC (Q ) :

Problem 42 Use proof by contradiction to show that if P 0 (Q) < 0 then the

monopolist who equates marginal revenue with marginal cost will produce less

output than a perfectly competitive industry where price equals marginal cost.

Answer

Let PM and QM be the monopolists price and output and let PC and QC

be the competitive level of output.

Assume for the sake of argument that QM QC . Since P 0 (Q) < 0 we have:

P (QM ) P (QC )

=) P (QC ) P (QM ) 0:

Since M C 0 (Q) > 0 we have:

QM QC =) M C (QM ) M C (QC ) :

Therefore:

M R (QM ) = M C (QM ) MC (QC ) = P (QC )

=) M R (QM ) = P (QM ) + P 0 (QM ) QM P (QC )

=) P 0 (QM ) QM P (QC ) P (QM ) 0

=) P 0 (QM ) 0:

CHAPTER 2. UNIVARIATE CALCULUS 44

Therefore QM < QC and since P 0 (Q) < 0 we have: PM = P (QM ) >

P (QC ) = PC :

Problem 43 If the inverse demand is P (Q) = AQ for 0 < < 1 and the

monopolists technology is Q = f (L) = BL for 0 < < 1: Find the prot

maximizing level of output.

Answer

We have:

(L) = P (Q) Q W L

= A (BL )1 W L

AB 1 L(1) W L

=) 0 (L ) = 0 = (1 ) AB 1 (L )(1)1 W

W

=) (L )(1)1 =

(1 ) AB 1

1(1)

1

W

=) L =

(1 ) AB 1

so that:

Q = B (L )

1(1)

1 !

W

= B :

(1 ) AB 1

1

Problem 44 If the inverse demand is P (Q) = Q 2 ; W = 2 and the monopo-

1

lists technology is Q = f (L) = L 3 nd the prot maximizing level of output.

Answer

We have:

(L) = P (Q) Q W L

1

= L 6 2L

1 56

=) 0 (L ) = 0 = (L ) 2

6

5

=) (L ) 6 = 12

6

=) L = (12) 5

so that:

1

6

13

Q = (L ) 3 = (12) 5

2

= (12) 5 :

CHAPTER 2. UNIVARIATE CALCULUS 45

Problem 45 Given the demand curve: Q = P105 what is the elasticity of de-

mand? Is demand elastic or inelastic? If Q (P ) = P105 + 5 then what is the

elasticity of demand when P = 1? Prove that if revenue is given by: R (P ) =

P Q (P ) then for any demand curve R0 (P ) = Q (P ) (1 + (P )) where (P )

is the elasticity of demand. If a rm maximizes sales (instead of prots) at P ;

then what will the elasticity of demand be?

Answer

The elasticity of demand is = 5: Demand is elastic since < 1:

If Q (P ) = P105 + 5 Solution: then Q0 (P ) = P506 so that:

Q0 (P ) P 50P 5

(P ) = =

Q (P ) 10P 5 + 5

and hence:

50

(1) = = 3:33:

10 + 5

In general (P ) varies with P as shown below:

P

1 2 3 4 5

0

-1

-2

-3

-4

-5

50P 5

Plot of (P ) = 10P 5 +5

1

2Q 4 and cost function C (Q) = 5Q3 + 10: What are the marginal revenue,

marginal cost and average cost functions? Determine Q ; the prot maximizing

level of output for the monopolist and P ; the resulting price.

Answer

Revenue and marginal revenue are given by:

3

R (Q) = P (Q) Q = 2Q 4

3 1

=) MR (Q) = R0 (Q) = Q 4 :

2

CHAPTER 2. UNIVARIATE CALCULUS 46

The inverse demand curve P (Q) and marginal revenue curve M R (Q) are plot-

ted below:

2.4

2.2

2

1.8

1.6

1.4

1.2

1

0.8

5 10 15 20 25

Q

C (Q) 5Q3 + 10 10

AC (Q) = = = 5Q2 +

Q Q Q

and are plotted below:

30

25

20

15

10

5

0.6 0.8 1 1.2 1.4

Q

From M R (Q ) = MC (Q ) we have:

3 14

(Q ) = 15 (Q )2

2

3 1

=) (Q )2+ 4 =

2 15

49

1

=) Q = = 0:36:

10

CHAPTER 2. UNIVARIATE CALCULUS 47

Therefore:

49 ! 14

14 1 1

P = 2 (Q ) =2 = 2 10 9 = 2:5831:

10

Consider a rm (a monopolist) who is able to price discriminate between two

markets; for example an airline which can charge one price for an economy fare

to a tourist and another price for business class.

Let P1 and Q1 be the price and quantity sold to the rst market and let

P2 and Q2 be the price and quantity sold to the second market. The inverse

demand curves are given respectively by:

P2 = P2 (Q2 ) ; P20 (Q2 ) < 0

R1 (Q1 ) = P1 (Q1 ) Q1 ;

R2 (Q2 ) = P2 (Q2 ) Q2

Q1

= P1 (Q1 ) + P10 (Q1 ) Q1 = P1 (Q1 ) 1 + P10 (Q1 )

P1 (Q1 )

= P1 (Q1 ) (1 + 1 (Q1 ))

1

= P1 (Q1 ) 1 +

~1

where 1 (Q1 ) = ~1 < 0 is the elasticity of the inverse demand curve which is

1

the inverse of the elasticity of the demand curve ~1 : Similarly for market 2:

1

= P2 (Q2 ) 1 +

~2

where 2 (Q2 ) = ~1 < 0 is the elasticity of the inverse demand curve which is

2

the inverse of the elasticity of the demand curve ~2 : Suppose that the rm has

already chosen the prot maximizing total level of output Q = Q1 + Q2 :

Problem 47 What rule should the rm use to decide how much of Q to allocate

to the two markets; for example with an airline, how many seats should be

economy and how many should be business class.

CHAPTER 2. UNIVARIATE CALCULUS 48

Answer

Since Q is xed so too are costs. The rm therefore needs to allocate Q

amongst Q1 and Q2 so as to maximize the revenue it makes given by:

R = R1 (Q1 ) + R2 (Q2 ) :

We can write R as a function of Q1 alone using:

Q2 = Q Q1

so that:

R (Q1 ) = R1 (Q1 ) + R2 (Q Q1 ) :

Dierentiating with respect to Q1 and using the chain rule to dierentiate

R2 (Q Q1 ) with respect to Q1 we nd that :

R0 (Q1 ) = R01 (Q1 ) R02 (Q Q1 )

= MR1 (Q1 ) M R2 (Q Q1 )

=) R0 (Q1 ) = 0 = MR1 (Q1 ) M R2 (Q Q1 )

=) MR1 (Q1 ) = M R2 (Q2 )

where: Q2 = Q Q1 : Thus the rst should allocate Q1 and Q2 between the two

markets so as to equate marginal revenue in each market.

This in turn implies that:

P1 (Q1 ) (1 + 1 (Q1 )) = M R1 (Q1 ) = M R2 (Q2 ) = P2 (Q2 ) (1 + 2 (Q2 ))

or:

P1 (Q1 ) (1 + 1 (Q1 )) = P2 (Q2 ) (1 + 2 (Q2 ))

or:

1

P1 (Q1 ) (1 + 2 (Q2 )) 1+

~2

= = :

P2 (Q2 ) (1 + 1 (Q1 )) 1+ 1

~1

From this it follows that if ~2 < ~1 so that demand is more elastic in market

2 than market 1; or equivalently if 1 (Q1 ) > 2 (Q2 ) ; then P2 < P1 : Thus the

rm charges the higher price to the market where demand is more inelastic or

more price insensitive.

Problem 48 Suppose that the inverse demand for economy seats and business

class seats is given respectively by:

14 1

P1 = A1 Q1 , P2 = A2 Q2 2 :

What will P

P2 ; the ratio of the price of economy seats to business class seats be?

1

CHAPTER 2. UNIVARIATE CALCULUS 49

Answer

Here since the demand curves take the form y = Axb the elasticity of

demand is constant for both markets with ~1 = 4 and ~2 = 2: We therefore

have:

1 1

P1 1 +

~2 1 + 2 2

= = =

P2 1+ 1

1+ 1 3

~1 4

2

so that P1 = 3 P2 :

Thus economy seats will be two-thirds the price of business

class seats.

To calculate Q1 and Q2 we use:

1

A1 Q1 (1 1 ) = A2 (Q Q1 )2 (1 2 )

1

12 A1 (1 1 ) 2

=) (Q1 ) = (Q Q1 )

A2 (1 2 )

1 1

12 A1 (1 1 ) 2 A1 (1 1 ) 2

=) (Q1 ) + Q1 Q=0

A2 (1 2 ) A2 (1 2 )

so that:

1 1

A1 (1 1 ) 2 A1 (1 1 ) 2

(Q1 )2 + Q1 Q = 0:

A2 (1 2 ) A2 (1 2 )

Problem 49 If f 0 (x) > 0 and f 00 (x) < 0 so that f (x) is concave prove that

the inverse function g (x) will be convex or g 00 (x) > 0:

Answer

Dierentiating both sides of f (g (x)) = x with respect to x and using the

chain rule leads to:

f 0 (g (x)) g 0 (x) = 1:

Since f 0 (g (x)) > 0 it follows that

1

g 0 (x) = > 0:

f 0 (g (x))

Dierentiating both sides of f 0 (g (x)) g0 (x) = 1 with respect to x and using

the chain and product rules leads to:

f 00 (g (x)) g 0 (x)2 + f 0 (g (x)) g 00 (x) = 0

+

z }| {z }| {

f 00 (g (x))g 0 (x)2

=) g 00 (x) = > 0:

f 0 (g (x))

| {z }

+

CHAPTER 2. UNIVARIATE CALCULUS 50

Problem 50 If

3

1

f (x) = p

x

then what is the inverse function and what is the elasticity of the inverse func-

tion?

Answer

If

3

1 3

f (x) = p = x 2

x

2

=) g (x) = x 3

since:

3 23 3 2

g (f (x)) = x 2 = x 2 3 = x1 = x

2 32 2 3

f (g (x)) = x 3 = x 3 2 = x1 = x:

Q = Q (P ) = AP

and what is the elasticity of P (Q) and how are the two elasticities related?

Answer

Here:

1 1

P (Q) = A Q :

Since both Q (P ) and P (Q) have the form Axb the elasticity of Q (P ) is

while the elasticity of P (Q) is 1 :

show that it has an inverse demand curve P = P (Q) : If (P ) is the elasticity

of the demand curve and ~ (Q) is the elasticity of the inverse demand curve,

show that:

1

(P ) =

~ (Q (P ))

1

~ (Q) = :

~ (P (Q))

CHAPTER 2. UNIVARIATE CALCULUS 51

Answer

Problem 53 If g (x) and f (x) are two functions, then what does the chain rule

give as the derivative of h (x) = f (g (x)) is? If g (x) is the inverse function of

f (x) then what is f (g (x)) equal to? Under what conditions does an inverse

function exist? What is the inverse function of f (x) = x2 for 1 < x < 1?

What is the inverse function of f (x) = x2 for 0 < x < 1? Show that f (x) =

x2 + 3x + 5 for x > 0 has an inverse function. Show that if f (x) is a globally

decreasing and convex function then its inverse function g (x) is convex.

Answer

We have using the chain rule:

and if f (x) and g (x) are inverses then f (g (x)) = x: To have an inverse we

require f 0 (x) > 0 or f 0 (x) < 0 for all x in the domain of f (x) : If f (x) = x2

for 1 < x < 1 then f (x) does not have an inverse since f 0 (x) = 2x > 0 for

x > 0 and f 0 (x) = 2x < 0 for x < 0: For f (x) = x2 with 0 < x < 1 the inverse

1

function is f (x) = x 2 since f 0 (x) > 0 for x > 0:

Now dierentiating both sides of f (g (x)) = x with respect to x we obtain:

f 0 (g (x)) g 0 (x) = 1:

1

Since f 0 (g (x)) < 0 it follows that g0 (x) = f 0 (g(x)) < 0: Again dierentiating

with respect to x we obtain:

+ +

z }| {z }| {

f (g (x))g 0 (x)2

00

=) g 00 (x) = >0

f 0 (g (x))

| {z }

f (x) = x2 + 2x + 1:

Answer

Since:

CHAPTER 2. UNIVARIATE CALCULUS 52

it follows that f (x) has an inverse function. If y = g (x) then f (g (x)) = x or:

f (y) = y 2 + 2y + 1 = x

=) (y + 1)2 = x

1

=) y + 1 = x 2

1

=) g (x) = y = x 2 1:

A more careful analysis would explain why we take the positive and not the

negative square root of x in the third line.

f (x) = x2 2x + 1:

Show that f (x) does not have an inverse function. Show how by restricting the

domain of f (x) further you can allow for the existence of an inverse function.

Answer

Since:

f 0 (x) = 2x 2

so that f 0 (x) < 0 for x < 12 and f 0 (x) > 0 for x > 12 it follows that f (x) is not

monotonic and hence has no inverse function.

If we restrict the domain of f (x) so that x > 12 (or 0 < x < 12 will do too)

then f 0 (x) < 0 and so f (x) is monotonic. If we dene y = g (x) then:

f (y) = y 2 2y + 1 = x

=) (y 1)2 = x

1

=) y 1 = x 2

1

=) g (x) = y = x 2 + 1:

Problem 56 Suppose that f (x) and g(x) are two monotonically increasing con-

vex functions so that for all x; f 0 (x) > 0; g 0 (x) > 0; f 00 (x) > 0 and g 00 (x) > 0.

Construct a new function h(x) = g(f (x)): Show that h (x) is monotonically

increasing and convex.

Answer

We have from the chain rule that:

CHAPTER 2. UNIVARIATE CALCULUS 53

that:

2

h00 (x) = g 00 (f (x)) (f 0 (x)) + g0 (f (x)) f 00 (x) > 0

2

since: g 00 (f (x)) > 0; (f 0 (x)) > 0; g 0 (f (x)) > 0 and f 00 (x) > 0:

Problem 57 If C (Q) is the cost function and AC(Q) = C(Q)=Q is the aver-

age cost function, show that average cost is increasing whenever marginal cost

exceeds average cost.

Answer

Dierentiating AC(Q) and using the quotient rule we nd that:

dAC(Q) QC 0 (Q) C (Q)

=

dQ Q2

0 C(Q)

Q C (Q) Q

=

Q Q

M C (Q) AC (Q)

= :

Q

Since the denominator Q is positive we have:

dAC(Q)

> 0 , MC (Q) > AC (Q)

dQ

dAC(Q)

< 0 , MC (Q) < AC (Q) :

dQ

Problem 58 If h (x) = f (g (x)) then what does the chain rule say h0 (x) is?

If h (x) = F (g1 (x) ; g2 (x)) then what is h0 (x)? Suppose Q = f (L) where

f 0 (L) > 0 and f 00 (L) < 0: If the demand for labour is: L = g (w) dened

by: f 0 (g (w)) = w; then show that g0 (w) < 0:

Problem 59 Suppose that W (t) is the nominal wage at time t and P (t) is the

price level at time t so that the real wage at time t is:

W (t)

w (t) = :

P (t)

w0 (t) W 0 (t)

The growth rate of w (t) is ! (t) = w(t) ; the growth rate of W (t) is (t) = W (t)

P 0 (t)

and the growth rate of P (t) (i.e., the rate of ination) is (t) = P (t) : Prove

that:

! (t) = (t) (t) :

using 1) the quotient rule 2) the product rule, and 3) the chain rule. For example

if nominal wages increase by 10% and ination is 4% then real wages increase

by 10% 4% = 6%:

CHAPTER 2. UNIVARIATE CALCULUS 54

Answer

Using the quotient rule we have:

P (t) W 0 (t) W (t) P 0 (t)

w0 (t) =

P (t)2

w0 (t)

=) ! (t) =

w (t)

P (t)W 0 (t)W (t)P 0 (t)

P (t)2

= W (t)

P (t)

0 0

W (t) P (t)

=

W (t) P (t)

= (t) (t) :

To use the product rule write W (t) = w (t) P (t) and apply the product rule.

To use the chain rule apply ln () to both sides of w (t) = W (t)

P (t) to obtain:

and dierentiate both sides with respect to t using the chain rule.

Problem 60 Suppose f 0 (x) > 0, f 00 (x) < 0; g 0 (x) > 0 and g00 (x) < 0: If

h (x) = g (f (x)) then show that h0 (x) > 0 and determine if h (x) is concave or

convex.

Answer

We have using the chain rule that:

+ +

z }| {z }| {

h0 (x) = g0 (f (x))f 0 (x) > 0:

Dierentiating again with respect to x we obtain:

+ +

z }| {z }| { z }| {z }| {

2

h00 (x) = g00 (f (x))f 0 (x) + g 0 (f (x))f 00 (x) < 0:

Problem 61 Consider the following functions dened on x > 0:

f(x) = 5x3 4x2 2x + 5:

Use the rst order conditions to nd the possible local maxima or minima. Use

the second order conditions to determine which are local maxima and which are

local minima. Is the function globally convex or globally concave. Is x a global

maximum or minimum?

CHAPTER 2. UNIVARIATE CALCULUS 55

Answer

We have:

f 0 (x) = 15x2 8x 2

=) f 0 (x ) = 0 = 15 (x )2 8x 2

q

(8) (8)2 4 (15) (2)

=) x =

2 (15)

4 1 p

=) x = + 46 = 0:719:

15 15

4 1

p

The other root: 15 15 46 is negative and hence is not in the domain of f (x) :

Now:

f 00 (x) = 30x 8:

Since:

The function f (x) is neither globally concave nor convex since f 00 (x) < 0

8 8 8

for x < 30 and f 00 (x) > 0 for x > 30 with x = 30 an inection point. This is

illustrated in the graph below:

5.5

4.5

3.5

0 0.2 0.4 0.6 0.8 1 1.2

x :

3 2

f (x) = 5x 4x 2x + 5

From the graph it appears that x is in fact a global minimum even though

f (x) is not globally convex. We can prove this by factoring f 0 (x) as:

f 0 (x) = 15x2 8x 2

4 1p 4 1p

= 15 x + 46 x 46 :

15 15 15 15

CHAPTER 2. UNIVARIATE CALCULUS 56

From this you can show that f 0 (x) < 0 for 0 < x < x since this implies that:

4 1p 4 1p

x + 46 < 0; x 46 >0

15 15 15 15

=) f 0 (x) < 0:

Similarly for x > x we have:

4 1p 4 1p

x + 46 >0; x 46 >0

15 15 15 15

=) f 0 (x) > 0:

4 1

p

Thus x = 15 + 15 46 is a global minimum. (This would not be the case if

the domain were not restricted to x > 0 ):

3

Problem 62 If f (x) = x3 2x2 + 3x + 7 nd the solutions to the rst-order

conditions (i.e., any local maxima or minima). Given any function f (x) what

is the formula for f~ (x): the second order Taylor series approximation of f (x)

around x = xo ? What kind of function is f~ (x)? If f (x) = x2 ex nd the second

order Taylor series approximation f~ (x) around xo = 1:

Answer

Since:

f 0 (x) = x2 4x + 3

=) f 0 (x ) = 0 = (x )2 4x + 3

q

(4) (4)2 4 3

=) x =

2

=) x1 = 1; x2 = 3:

The formula for the second order Taylor series, which is a quadratic or a

second degree polynomial, around x0 is:

f 00 (x0 )

f~ (x) = f (x0 ) + f 0 (x0 ) (x x0 ) + (x x0 )2 :

2

For f (x) = x2 ex and x0 = 1 we have:

f (1) = 12 e1 = e1

f 0 (x) = 2xex x2 ex =) f 0 (1) = 2 1 e1 12 e1 = e1

f 00 (x) = 2ex 4xex + x2 ex =) f 00 (1) = 2 e1 4 e1 + 12 e1 = e1

so that the Taylor series is:

1

e

f~ (x) = e1 + e1 (x 1) (x 1)2

! 2

2

(x 1)

= e1 x :

2

CHAPTER 2. UNIVARIATE CALCULUS 57

The actual function f (x) = x2 ex and the Taylor series around x0 = 1 are

plotted below:

0.4

0.2

x

1 2 3 4 5

0

-0.2

-0.4

-0.6

-0.8

-1

conditions (i.e., any local maxima or minima) and determine which is a local

maximum and which a local minimum. Given any function f (x) what is the

formula for f~ (x): the second order Taylor series approximation of f (x)around

x = xo ? What kind of function is f~ (x)? For the function f (x) = ln 1 x2

calculate the second-order Taylor series around xo = 0:

Answer

Since for f (x) = x3 6x2 + 9x + 7

=) f 0 (x ) = 0 = 3 (x )2 12x + 9

q

(12) (12)2 4 3 9

=) x =

23

=) x1 = 1; x2 = 3:

Since:

f 00 (x) = 6x 12

and

f 00 (1) = 6 1 12 = 6 < 0

f 00 (3) = 6 3 12 = 6 > 0

CHAPTER 2. UNIVARIATE CALCULUS 58

is illustrated in the plot below:

11

10

7

0 1 2 3 4

x

f (x) = x3 6x2 + 9x + 7

The formula for the second order Taylor series, which is a quadratic or a

second degree polynomial, around x0 is:

f 00 (x0 )

f~ (x) = f (x0 ) + f 0 (x0 ) (x x0 ) + (x x0 )2 :

2

For f (x) = ln 1 x2 and x0 = 0 we have:

0

f (0) = ln 1 =0

2

1 1 1

f 0 (x) = =) f 0 (0) = =

2 1 12 x 2 1 12 0 2

1 1 1

f 00 (x) = 00

2 =) f (0) = =

1 1 2 4

4 1 2x 4 1 20

1 1

f~ (x) = x x2 :

2 8

The actual function f (x) = ln 1 x2 and the Taylor series around x0 = 0 are

CHAPTER 2. UNIVARIATE CALCULUS 59

plotted below:

0.4

0.2 x

-1.5 -1 -0.5 0.5 1 1.5

0

-0.2

-0.4

-0.6

-0.8

-1

-1.2

-1.4

f (x) = ln 1 x2 and f~ (x)

Problem 64 Consider the following function dened on x > 0:

3

x

f (x) = ln 4x:

2

Use the rst order conditions to nd the possible local maxima or minima. Use

the second order conditions to determine which are local maxima and which are

local minima. Is the function globally convex or globally concave. Is x a global

maximum or minimum?

Answer

We have that f (x) can be simplied since:

3

x

f (x) = ln 4x = 3 ln (x) 4x ln (2) :

2

Therefore:

3

f 0 (x) = 4

x

3

=) f 0 (x ) = 0 = 4

x

3

=) x = = 0:75:

4

Now:

3

f 00 (x) = <0

x2

CHAPTER 2. UNIVARIATE CALCULUS 60

3

so that f (x) is globally concave. It follows that x = 4 is a global maximum.

This is illustrated in the graph below:

-4.6

-4.8

-5

-5.2

-5.4

-5.6

-5.8

-6

-6.2

-6.4

-6.6

0.2 0.4 0.6 0.8 1

x

1.2 1.4 1.6 1.8 2 :

3

x

f (x) = ln 2 4x

f (x) = (3x 1)e2x :

Use the rst order conditions to nd the possible local maxima or minima. Use

the second order conditions to determine which are local maxima and which are

local minima. Is the function globally convex or globally concave. Is x a global

maximum or minimum?

Answer

We have:

f 0 (x) = 3e2x 2 (3x 1) e2x

= e2x (5 6x) :

=) f 0 (x ) = 0 = e2x (5 6x )

=) 5 6x = 0

since e2x > 0: Therefore:

5

x = :

6

Now:

f 00 (x) = 12e2x + 4 (3x 1) e2x

= e2x (12x 16)

Since:

5

00

f = e2x (12x 16) jx= 56

6

5

= 6e 3 < 0

CHAPTER 2. UNIVARIATE CALCULUS 61

concave nor convex since f 00 (x) < 0 for x < 43 and f 00 (x) > 0 for x > 43 with

x = 43 an inection point. This is illustrated in the graph below:

0.2

x

1 2 3 4

0

-0.2

-0.4

-0.6

-0.8

-1

:

f (x) = (3x 1)e2x

f (x) is not globally concave.

We can prove that x = 56 is a global maximum by noting that:

5

= 6e2x x

6

5

so that f 0 (x) > 0 for x < 6 and f 0 (x) < 0 for x > 56 :

Problem 66 Consider the function:

2

f (x) = x3 ex =2

for x > 0: Calculate f 0 (x) and the local maxima or minima of f (x) : Calculate

h (x) = ln (f (x)) ; and h0 (x) : What are the local maxima and minima of h (x) :

Is h (x) concave or convex? Explain. Can this be used to determine which of

the local maxima or minima of f (x) and h (x) are global maxima or minima?

Explain.

Answer

Since:

1 2 1 2

f 0 (x) = 3x2 e 2 x x4 e 2 x

1 2

= x2 e 2 x 3 x2

1 2

=) f 0 (x ) = 0 = (x )2 e 2 (x )

3 (x )2

=) 3 (x )2 = 0

CHAPTER 2. UNIVARIATE CALCULUS 62

2

since (x )2 > 0 and e 2 (x

1

)

> 0 (because x > 0 and ex > 0 for all x): Therefore:

p

x = 3 = 1:7321:

p

Note we exclude x = 3 since the domain is restricted to x > 0: Note that

f (x) is not globally concave since:

1 2 1 2 1 2

f 00 (x) = 6xe 2 x 7x3 e 2 x + x5 e 2 x

1 2

= e 2 x x 6 7x2 + x4

1 2

= e 2 x x x2 1 x2 6 :

1 2

2x

2 x >

Since 20 and e > 0 it follows that the sign of f 00 (x) will depend on

x 1 x 6 : We have:

z }| {z }| {

for 0 < x < 1 =) x2 1 x2 6 > 0 =) f 00 (x) > 0 =) f (x) is convex

+

p z }| {z }| {

for 1 < x < 6 =) x2 1 x2 6 < 0 =) f 00 (x) < 0 =) f (x) is concave

+ +

p z }| {z }| {

for x > 6 =) x2 1 x2 6 > 0 =) f 00 (x) > 0 =) f (x) is convex.

p p

Thus fp(x) is convex for 0 < x < 1 and x > 6 but concave for 1 < x < 6

(note 6 = 2:4495) and hence is neither globally concave nor globally convex.

This is illustrated in the plot below:

0.8

0.6

0.4

0.2

0 1 2 3 4

x

2

f (x) = x3 ex =2

2

Since f (x) = x3 ex =2 is neither

p globally concave nor globally convex, we

dont know at this stage if x = 3 is a global maximum although it certainly

appears so from the graph. We can show that it is a local maximum since:

p 1 2 1 2 1 2

f 00 3 = 6xe 2 x 7x3 e 2 x + x5 e 2 x jx=p3

p 3

= 6 3e 2 < 0:

CHAPTER 2. UNIVARIATE CALCULUS 63

p

We now show that x = 3 is a global maximum for f (x) since it is a global

maximum of h (x) = ln (f (x)) : We have:

h (x) = ln (f (x))

2

= ln x3 ex =2

2

= ln x3 + ln ex =2

x2

= 3 ln (x) :

2

Therefore:

3

h0 (x) = x

x

3

=) h0 (x ) = 0 = x

x

3

=) = x

x

=) 3 = (x )2

p

=) x = 3:

The function h (x) is globally concave since:

3

h00 (x) =

1<0

x2

p

so h (x) is globally concave and hence x = 3 is a global maximum of h (x) :

Since h (x) = ln (f (x)) and since ln (x) is monotonically increasing, that is

d ln(x) p

dx = x1 > 0 for x > 0 it follows that x = 3 is a global maximum of

2

f (x) too. Alternatively, while f (x) = x3 ex =2 is not globally concave it is

globally quasi-concave and so the solution to the rst-order conditions yields

2

a global maximum. This is illustrated in the plots of f (x) = x3 ex =2 and

2 p

h (x) = 3 ln (x) x2 where both curves reach a maximum at x = 3 :

0.5

01 1.5 2 2.5 3

x

-0.5

-1

CHAPTER 2. UNIVARIATE CALCULUS 64

perfectly competitive rm faces price P; nominal wage W; rental cost of capital

R; and xed capital K: The rms short run production function relating Q

output to L labour is given by:

Q = f (L) = eln(L)+ln(A) ; 0 < < 1:

Problem 67 Show that in order for the marginal product of labour to be positive

and diminishing, it must be the case that 0 < < 1: What is the inverse function

L (Q)? Show that L0 (Q) > 0 and that L (Q) is convex.

Answer

This is just an ordinary Cobb-Douglas production function since:

f (L) = eln(L)+ln(A)

= eln(A) ln(L)

e

= A eln(L)

= AL :

Therefore:

f 0 (L) = AL1 > 0

=) > 0 since A > 0 and L1 > 0:

Similarly:

f 00 (L) = ( 1) AL2 < 0

=) 1 < 0 since A > 0; > 0 and L2 > 0

=) < 1:

Alternatively you could work directly with f (L) = eln(L)+ln(A) using the

chain rule as:

f 0 (L) = eln(L)+ln(A) > 0

L

=) > 0

since eln(L)+ln(A) > 0 and L > 0: Similarly:

2

f 00 (L) = eln(L)+ln(A) eln(L)+ln(A) 2

L L

eln(L)+ln(A)

= ( 1) < 0

L2

=) < 1:

Problem 68 Derive (L) (prots as a function of L) and show that it is con-

cave. Derive the rms demand curve for labour, show that it is downward

sloping, and determine the elasticity of the demand curve.

CHAPTER 2. UNIVARIATE CALCULUS 65

Answer

W

We have with real wage w = P :

(L) =

P AL W L RK

=) 0 (L ) = 0 = P A (L )1 W

1 W 1

=) (L )1 = = w

A P A

1

1

1 1

=) L = (w) 1

A

1

so the elasticity of labour demand is 1 < 0 since < 1: Since the elasticity

is negative the labour demand curve is downward sloping. Alternatively:

1

1

dL 1 1 1

= (w) 1 1 < 0:

dw 1 A

Problem 69 Suppose a function f (x) has the property that

f (x)

f (x) = x:

Show that

1

1 ln (x)

f 0 (x) = 1+ :

x f (x)

Answer

f (x)

Take the ln ( ) of both sides of f (x) = x to yield:

1 0 1

ln (f (x)) f 0 (x) + f (x) f (x) =

f (x) x

1

=) (1 + ln (f (x))) f 0 (x) =

x

1

=) f 0 (x) = 0 1:

B C

xB C

@1 + |ln (f{z(x))}A

ln(x)

= f (x)

ln(x)

since from ln (f (x)) f (x) = ln (x) we have: ln (f (x)) = f (x) :

Problem 70 Prove that f (x) = ln x7 for x > 0 is globally increasing and

concave.

CHAPTER 2. UNIVARIATE CALCULUS 66

Answer

The calculations are easier if you rst simplify as

f (x) = ln x7 = 7 ln (x) :

Thus:

7

f 0 (x) = >0

x

since x > 0: Similarly:

7

f 00 (x) = <0

x2

so that f (x) = ln x7 is globally concave. This is illustrated in the plot below:

10

5

x

1 2 3 4 5

0

-5

-10

-15

:

f (x) = ln x7

Answer

For f (x) = e3x we have using the chain rule:

+

z}|{

f (x) = 3e3x > 0

0

+

z}|{

f 00 (x) = 9e3x > 0

CHAPTER 2. UNIVARIATE CALCULUS 67

x :

3x

f (x) = e

Answer

Problem 73 If f (x) is globally increasing and convex, and g (x) is globally

increasing and convex, prove that h (x) = f (g (x)) is globally increasing and

convex.

Answer

Problem 74 Suppose that f (x) is given by:

!

10000xx x3 + 3 e0 ln e2

f (x) = ln :

e3 ln(x)

Calculate f 0 (x) , nd x ; the global maximum and show that f (x) is globally

convex.

CHAPTER 2. UNIVARIATE CALCULUS 68

Answer

Here things are much easier if you simplify rst. We have:

0 0 11

1 2

z}|{ z }|

{

B 10000xx B @x3 + 3 e0 ln e2 A C

C

B C

B C

B C

f (x) = ln BB C

3 ln(x)

e| {z } C

B C

B C

@ x3 A

10000xx x3

= ln

x3

= ln (10000) + ln (xx )

= ln (10000) + x ln (x) :

Therefore:

f 0 (x) = 1 + ln (x)

=) f 0 (x ) = 0 = 1 + ln (x )

=) ln (x ) = 1

=) x = e1 :

Furthermore:

1

f 00 (x) = > 0 since x > 0

x

so that f (x) is globally convex and x = e1 is a global minimum. This is

illustrated in the plot below:

10.6

10.4

10.2

10

9.8

9.6

9.4

9.2

9

x

1 2

Problem 75 Consider the function f (x) = x4 e 2 x for x > 0: Calculate

f 0 (x) ; and from f 0 (x) nd the global maximum of this function x and prove

CHAPTER 2. UNIVARIATE CALCULUS 69

nd h0 (x), the global maximum: x ; and prove that x is a global maximum

using h00 (x) :

Answer

1 2

de 2 x 1 2

Using the product and chain rules (note that dx = xe 2 x ) we have:

1 2 1 2

f 0 (x) = 4x3 e 2 x x5 e 2 x

1 2

= x3 e 2 x 4 x2 :

Therefore:

1 2

f 0 (x ) = 0 =) (x )3 e 2 (x )

4 (x )2 = 0

1 2

=) 4 (x )2 = 0; since (x )3 > 0 and e 2 (x )

>0

2

=) (x ) = 4

=) x = 2; since x = 2 is ruled out by the domain restriction x > 0:

Note that since 4 x2 > 0 for x < 2 and 4 x2 < 0 for x > 2 it follows that

x = 2 is a global maximum.

If h (x) = ln (f (x)) then:

1 2

h (x) = ln x4 e 2 x

1 2

= ln x4 + ln e 2 x

1

= 4 ln (x) x2

2

then:

4 4

h0 (x) = x =) h0 (x ) = 0 = x

x x

=) x = 2:

Furthermore

4

h00 (x) = 1<0

x2

so that h (x) is globally concave. It follows that x = 2 is a global maximum of

h (x) and since h (x) = ln (f (x)) and ln (x) is monotonically increasing ( d ln(x)

dx =

1 4 12 x2

x > 0) that x = 2 is a global maximum of f (x) = x e (or that f (x) is

CHAPTER 2. UNIVARIATE CALCULUS 70

1.5

0.5

01 1.5 2 2.5 3

x

-0.5

:

12 x2 1 2

f (x) = x4 e ; h (x) = ln x4 e 2 x

Problem 76 Prove that f (x) = ln 3x2 20x is globally concave. Find x ;

the global maximum of f (x) :

Answer

First simplify as:

f (x) = ln 3x2 20x

= ln (3) + ln x2 20x

= ln (3) + 2 ln (x) 20x:

Thus:

2

f 0 (x) = 20

x

2

=) f 0 (x ) = 0 = 20

x

2

=) = 20

x

2 1

=) x = = :

20 10

Also since for all x

2

f 00 (x) = <0

x2

1

it follows that f (x) = ln 3x2 20x is globally concave and hence x = 10 is

a global maximum. This is illustrated in the plot of f (x) below:

CHAPTER 2. UNIVARIATE CALCULUS 71

-6

-8

-10

-12

-14

-16

x

f (x) = ln 3x2 20x

Find x the global minimum of f (x) :

Answer

For f (x) = e3x 2x we have :

f 0 (x) = 3e|{z}

3x

2 <0

+

f 00 (x) = 9e|{z}

3x

>0

+

so that f (x) is globally convex. It does not have a global minimum since

f 0 (x) < 0 implies that f 0 (x ) has no solution. This is illustrated in the plot

below:

1

x

0.5 1 1.5 2 2.5 3

0

-1

-2

-3

-4

-5

-6

f (x) = e3x 2x

CHAPTER 2. UNIVARIATE CALCULUS 72

2

Problem 78 Consider the function f (x) = x4 ex+3 ln(x ) for x > 0: Calculate

f 0 (x) ; and from f 0 (x) nd x ; the global maximum of f (x). Prove that x is

a global maximum. If h (x) = ln (f (x)) where f (x) is given above, nd h0 (x),

the global maximum: x ; and prove that x is a global maximum using h00 (x) :

Answer

Simplifying f (x) we nd that:

6

= x4 ex eln(x)

= x4 x6 ex

= x10 ex :

Thus:

= x9 ex (10 x)

=) f 0 (x ) = 0 =) (x )9 ex (10 x ) = 0

=) 10 x = 0

=) x = 10

x = 10 is a global maximum either since f 0 (x) > 0 for x < 10 and f 0 (x) < 0

for x > 10 or because given:

with a global maximum at x = 10 since:

10

h0 (x ) = 0 =) 1 =) x = 10

x

and for all x :

10

h00 (x) = < 0:

x2

Problem 79 Consider the following function dened on x > 0:

3

x

f (x) = ln 5x:

2ex

Use rst order conditions to nd the possible local maxima or minima. Use

second order conditions to determine which are local maxima and which are

local minima. Is the function convex or concave and what are the global minima

and maxima?

CHAPTER 2. UNIVARIATE CALCULUS 73

Answer

Simplifying we have:

x3

f (x) = ln 5x

2ex

= ln x3 ln 2ex 5x

= 3 ln (x) ln (2) ln ex 5x

= 3 ln (x) 5x + x ln (2)

= 3 ln (x) 4x ln (2) :

Therefore:

3

f 0 (x) = 4

x

3

=) f 0 (x ) = 0 = 4

x

3

=) x = :

4

Now:

3

f 00 (x) =

<0

x2

so clearly f 00 34 < 0 and x = 34 is a local maximum. We can say much more

though since f (x) is globally concave and hence x = 34 is a global maximum.

This is illustrated in the plot below:

-4.6

-4.8

-5

-5.2

-5.4

-5.6

-5.8

-6

-6.2

-6.4

-6.6

0.2 0.4 0.6 0.8 1 1.2 1.4 1.6 1.8 2

x

x3

f (x) = ln 2ex 5x

Problem 80 Consider the following function dened on x > 0:

f (x) = (3x 1)e2x

Use rst order conditions to nd the possible local maxima or minima. Use

second order conditions to determine which are local maxima and which are

local minima. Is the function convex or concave and what are the global minima

and maxima?

CHAPTER 2. UNIVARIATE CALCULUS 74

Answer:

Using the chain and product rules we have:

f 0 (x) = 3e2x 2 (3x 1) e2x

= e2x (5 6x)

=) f 0 (x ) = 0 = e2x (5 6x )

=) 5 6x = 0 since e2x > 0

5

=) x = :

6

Now:

f 00 (x) = 2e2x (5 6x) 6e2x

= e2x (12x 16)

so that:

5 5 5

f 00 = e2 6 12 16

6 6

5

= 6e 3 < 0

so that x = 56 is a local maximum.

The function is neither globally concave nor convex since f 00 (x) < 0 for

x < 16 4 00 4 4

12 = 3 and f (x) > 0 for x > 3 with x = 3 and inection point where

f (x) changes from being concave to convex. This is illustrated in the plot below:

0.25

0.2

0.15

0.1

0.05

x

-0.05

Problem 81 Consider the following functions dened on x > 0:

f (x) = xx :

Use rst order conditions to nd the possible local maxima or minima. Use

second order conditions to determine which are local maxima and which are

local minima. Is the function convex or concave and what are the global minima

and maxima?

CHAPTER 2. UNIVARIATE CALCULUS 75

Answer

Changing from base x to base e we have:

x

f (x) = xx = eln(x) = ex ln(x) :

=) f 0 (x ) = 0 = (1 + ln (x )) ex ln(x )

=) 1 + ln (x ) = 0 since ex ln(x ) > 0

=) ln (x ) = 1

=) x = e1 = 0:36788:

Now:

+

{z }| { z}|{z }| {

+ + +

z }|

1 x ln(x)

f (x) = (1 + ln (x))2 ex ln(x) +

00

e >0

x

so clearly f 00 e1 > 0 and x = e1 is a local minimum. We can say much more

though since f (x) is globally convex and hence x = e1 is a global maximum.

This is illustrated in the plot below:

0.95

0.9

0.85

0.8

0.75

0.7

0 0.2 0.4 0.6 0.8 1

x

f (x) = xx

Suppose Y (t) is the population of the world at time t; where t is measured in

years. Lets dene today as t = 0 and suppose that the population of the world

today is six billion: Assume that the world population grows at a constant rate

so that Y (t) = Aet :

Problem 82 If population grows at 1:8% per year, then what are A and ?

How long will it take for the worlds population to double? When will the worlds

CHAPTER 2. UNIVARIATE CALCULUS 76

population reach twenty billion (using the conventional dating system, e.g. 1998

etc. ). Suppose you wanted to, by say introducing family planning measures,

reduce the population growth rate so that in the year 2100 there were no more

than ten billion people on the earth. What population growth rates would be

consistent with this objective?

Answer

Here A = 6 (billion) and = 0:018 so that Y (t) = 6e0:018t : If Y (t) = 12

then:

12 = 6e0:018t

12

=) e0:018t = =2

6

=) 0:018t = ln (2)

ln (2)

=) t = = 38:508

0:018

or it will take 38:5 years for the population to double. If Y (t) = 20 then:

20 = 6e0:018t

20

=) e0:018t =

6

20

=) 0:018t = ln

6

ln 20

6

=) t = = 66:887

0:018

or it will take 67 years for the population to reach 20 billion. double.

If t = 100 and

Y (100) 10 = 6e100

=

10 5

=) e100 = =

6 3

5

=) 100 = ln

3

5

ln 3

=) = = 0:0051

100

Problem 83 How long ago was it that the rst person appeared on the earth?

The second person?

CHAPTER 2. UNIVARIATE CALCULUS 77

Answer

If Y (t) = 6e0:018t and then:

1

Y (t) = = 6e0:018t

6000000000

1

=) e0:018t =

6 6000000000

1

=) 0:018t = ln

6 6000000000

1

ln 66000000000

=) t = = 1350

0:018

or about 1350 years ago. Similarly if there were 2 people then

2

Y (t) = = 6e0:018t

6000000000

2

=) e0:018t =

6 6000000000

2

=) 0:018t = ln

6 6000000000

2

ln 66000000000

=) t = = 1312:

0:018

The fact that we historically that people have been around much longer than

1300 years illustrates the grave problems with project exponential growth too

far into either the past or future.

Problem 84 Prove that f (x) = ln (x) is globally increasing and concave

while

1

y = e3x globally decreasing and convex. Prove that f (x)

= ln x2 is globally

decreasing and convex. Prove that f (x) = exp 13 ln (x) is globally increasing

2

and concave. If f (x) = x8 ex show that f (x) is quasi-concave. Find x ; the

global maximum of f (x) and prove that x is a global maximum.

Answer

For f (x) = ln (x) with x > 0

1

f 0 (x) = > 0 =) f (x) is globally increasing

x

1

f 00 (x) = 2 < 0 =) f (x) is globally concave.

x

1

For f (x) = ln x2 = 2 ln (x) and with x > 0

2

f 0 (x) = > 0 =) f (x) is globally decreasing

x

2

f 00 (x) = < 0 =) f (x) is globally convex.:

x2

CHAPTER 2. UNIVARIATE CALCULUS 78

1 1

For f (x) = exp 3 ln (x) = x 3

1 2

f 0 (x) = x 3 > 0 =) f (x) is globally increasing

3

2 5

f 00 (x) = x 3 < 0 =) f (x) is globally concave. :

9

2

For f (x) = x8 ex we have:

with

8

h00 (x) = 2 < 0:

x2

Since ln (x) is globally increasing and h (x) is globally concave it follows that

2

f (x) = x8 ex is quasi-concave.

2

f (x) = ex +2x4

; for 1 < x < 1:

Using the appropriate rst order conditions nd any local maxima or minima.

From the appropriate second order conditions determine whether these solutions

are local maxima or minima. Determine whether if the function is convex or

concave.

Answer

Using the chain rule:

2

f 0 (x) = (2x + 2) ex +2x4

2

) +2x 4

=) f 0 (x ) = (2x + 2) e(x

2

) +2x 4

=) 2x + 2 = 0 since: e(x >0

=) x = 1:

Furthermore:

2 2

f 00 (x) = 2ex + (2x + 2)2 ex +2x4

+2x4

2

= ex +2x4 (2x + 2)2 2

2

=) f 00 (1) = ex +2x4 (2x + 2)2 2 jx=1 = 2e3 < 0

It turns out that f (x) is not globally concave. We can nevertheless show

that x = 1 is a global maximum in at least three dierent ways.

CHAPTER 2. UNIVARIATE CALCULUS 79

x2 + 2x 4 = (x 1)2 3

so that:

2

f (x) = ex +2x4

2

= e(x1) 3

2

= e(x1) e3 :

2

The term e(x1) 1 with equality only when x = 1 since for x 6= 1 it is the

2

case that (x 1) < 0 and the exponent is negative and ex for any negative x

is always less than 1: Thus x = 1 is a global maximum.

The second approach is to show that ln (f (x)) is globally concave and hence

f (x) is quasi-concave. Thus:

h (x) = ln (f (x)) = x2 + 2x 4

=) h0 (x ) = 0 = 2x + 2 =) x = 1

=) h00 (x) = 2 < 0

so that x = 1 is the global maximum for h (x) and f (x) as illustrated in the

CHAPTER 2. UNIVARIATE CALCULUS 80

graph below:

0.05

0.04

0.03

0.02

0.01

-1 0 1 2 3

x

2

f (x) = ex +2x4

-3

-4

-5

-6

-7

-1 0 1 2 3

x

h (x) = x2 + 2x 4

Finally note that:

2

f 0 (x) = (2x + 2) ex +2x4

+

z }| {

2

= 2 (x 1) ex +2x4

so that f 0 (x) > 0 for x < 1, f 0 (x) < 0 for x > 1 so that x = 1 is a global

maximum.

Problem 86 Prove that f (x) = ln 5x2 + 5 for x > 0 is globally increasing

and concave. If

0vu !1

u x3 ln (x2 ) eln(x5 ) + 7 e0 ln (e6 )

f (x) = ln @texp A

ln ex7

calculate f 0 (x) and f 00 (x) : Find x , the solution to the rst-order conditions,

and show that x is a global maximum.

CHAPTER 2. UNIVARIATE CALCULUS 81

Answer

For f (x) = ln 5x2 + 5 we have:

so that:

2

f 0 (x) = > 0:

x

so that f (x) is globally increasing and

2

f 00 (x) = <0

x2

so that f (x) is globally concave. (Alternatively, if we work directly with the

original form then using the chain rule we have:

1 2

f 0 (x) = 10x = ):

5x2 x

For the complicated expression we obviously need to simplify. We have:

7 5

ln ex = x7 ; ln x2 = 2 ln (x) ; eln(x ) = x5

e0 = 1; ln e6 = 6

so that:

0vu !1

u x 3 ln (x2 ) eln(x5 ) + 7 e0 ln (e6 )

f (x) = ln @texp A

ln ex7

0 !! 12 1

x3 ln (x) x5 + 7 1 6

= ln @ exp 2 A

x7

!!

1 x3 ln (x) x5 + 7 1 6

= ln exp 2

2 x7

1 ln (x) x3 x5

= 2

2 x7

= x ln (x) :

Therefore:

f 0 (x) = 1 + ln (x)

=) f 0 (x ) = 0 = 1 + ln (x )

=) ln (x ) = 1

=) x = e1 :

CHAPTER 2. UNIVARIATE CALCULUS 82

small probability but which occur many times; for example when many cars pass

through an intersection each has a small probability of having an accident and

given that many cars pass through an intersection there may be say 2 accidents

a month. Suppose then that Y is the number of accidents in an intersection and

is the average number of accidents in an intersection which unknown. Then

the probability of there being k accidents is given by:

k

Pr [Y = k] = e :

k!

If = 2 calculate the probability that there will be 0; 1; 2; 3 and 4 accidents in the

intersection. Show that the sum of the probabilities is 1 (Hint: use the Taylor

series for ex ):

Answer

We have

20 2

Pr [Y = 0] = e = 0:135

0!

1

2 2

Pr [Y = 1] = e = 0:271

1!

22 2

Pr [Y = 2] = e = 0:271

2!

23 2

Pr [Y = 3] = e = 0:180

3!

24 2

Pr [Y = 4] = e = 0:090:

4!

Note that these probabilities do not sum to 1 since:

We can prove that the probabilities really do sum to 1 using the Taylor series

for ex which is:

x x2

ex = 1 + + +

1! 2!

CHAPTER 2. UNIVARIATE CALCULUS 83

as follows. We have:

0 1 2

Pr [Y = 0] + Pr [Y = 1] + Pr [Y = 2] + = e + e + e +

0! 1! 2!

1 2

= e 1 + + +

1! 2!

| {z }

=e

= e e

= e+

= e0

= 1:

lim xx :

x!0

Answer

This is not directly in the form with which we can use LHpitals rule.

Consider though rewriting it xx as:

ln(x)x ln (x)

e = exp 1

x

so that:

ln (x)

lim xx = exp lim 1 :

x!0 x!0

x

1

Since limx!0 ln (x) = 1 and limx!0 x = 1 we can apply LHpitals rule as:

1

ln (x) x

lim 1 = lim = lim x = 0

x!0 x!0 12 x!0

x x

so that:

x ln (x)

lim x = exp lim 1 = e0 = 1:

x!0 x!0

x

CHAPTER 2. UNIVARIATE CALCULUS 84

0.95

0.9

0.85

0.8

0.75

0.7

0.2 0.4 0.6 0.8 1

x :

x

f (x) = x as x ! 0

lim xex = 0:

x!1

Answer

Since

x

lim xex = lim ;

x!1 x!1 ex

limx!1 x = 1 and limx!1 ex = 1; we can use LHpitals rules as:

x 1

lim xex = lim = lim = 0:

x!1 x!1 ex x!1 ex

Problem 90 Show that for all n:

lim xn ex = 0:

x!1

lim xn ln (x) = 0:

x!0

x 1

lim = ln (x) :

!0

This is the basis for the Box-Cox transformation often used in econometrics.

CHAPTER 2. UNIVARIATE CALCULUS 85

Answer

Note that it is that approaches 0 here and not x: We have: f () =

eln(x) 1 and g () = since:

x 1 eln(x) 1

lim = lim :

!0 !0

Using the chain rule: f 0 () = ln (x) eln(x) and g0 () = 1 so that:

x 1 eln(x) 1

lim = lim

!0 !0

ln (x) eln(x)

= lim

!0 1

= ln (x)

since lim!0 eln(x) = 1:

Problem 93 Consider the simple linear regression model without a constant:

Yi = + ei ; i = 1; 2; : : : n:

The least squares estimator

^ minimizes:

n

X

S () = (Yi )2

i=1

Find the rst-order conditions for minimizing S () : Show from the rst-order

conditions that

n

1X

^= Yi = Y :

n i=1

2

Using the chain rule to dierentiate (Yi ) with respect to we have:

S 0 () = 2 (Y1 ) 2 (Y2 ) 2 (Yn )

so that the rst-order conditions require:

S 0 (^

) = 0 = 2 (Y1 ^ ) 2 (Y2 ^ ) 2 (Yn

^)

=) (Y1

^ ) + (Y2 ^ ) + + (Yn ^) = 0

=) n^

= Y1 + Y2 + + Yn

Y1 + Y2 + + Yn

=) = = Y :

n

CHAPTER 2. UNIVARIATE CALCULUS 86

S 00 () = 2 + 2 + + 2

| {z }

n times

= 2n > 0:

It follows that S 00 () > 0 for all and hence S () is globally convex and is

a global minimum.

more than an ordinary quadratic and hence can be minimized by completing

the square. Show that ^ = Y minimizes S () without using calculus. Hint:

Replace all occurrences of with

^ + (

^ ), keep the brackets around (

^) ;

manipulate and show that:

^ )2 + (Y2

S () = (Y1 ^ )2 + + (Yn

^ )2

^ )2 :

+n (

) for all with equality only when =

^:

Yi = Xi + ei ; i = 1; 2; : : : n:

^ minimizes:

The least squares estimator

n

X

S () = (Yi Xi )2

i=1

Find the rst-order conditions for minimizing S () : Show from the rst-order

conditions that

Pn

^ Xi Yi X1 Y1 + X2 Y2 + + Xn Yn

= Pi=1

n 2 = :

X

i=1 i X12 + X22 + + Xn2

Show that S () is globally convex as long as one Xi is not equal to zero and

^ is a global minimum.

that

Answer

Using the chain rule to dierentiate (Yi Xi )2 with respect to we have:

CHAPTER 2. UNIVARIATE CALCULUS 87

S0 ^ = 0 = 2X1 Y1 X ^ 1 2X2 Y2 X^ 2 2Xn Yn X

^ n

=) X1 Y1 X ^ 1 + X2 Y2 X ^ 2 + + Xn Yn X

^ n =0

^ 1 + X

=) X1 Y1 + X2 Y2 + + Xn Yn = X ^ 2 + + X

^ n

^ (X1 + X2 + + Xn ) = X1 Y1 + X2 Y2 + + Xn Yn

=)

^ = X1 Y1 + X2 Y2 + + Xn Yn :

=)

X12 + X22 + + Xn2

one Xi 6= 0 it follows that S 00 () > 0 for all and hence S () is globally convex

^ is a global minimum.

and

more than an ordinary quadratic and hence can be minimized by completing the

^ minimizes S () without using calculus. Hint: Replace all

square. Show that

occurrences of with ^ + ^ , keep the brackets around

^ ; manip-

ulate and show that:

2 2 2

S () = ^ 1 + Y2 X

Y1 X ^ 2 + + Yn X

^ n

2

+ ^ X12 + X22 + + Xn2 :

^ for all with equality only when = :

Use this to show that S () S ^

Problem 97 Suppose that Yi N [; 1] so that Yi has a mean of and a

standard deviation of 1: Here instead of we are using the traditional notation :

We wish to estimate using maximum likelihood from a sample Y1 ; Y2 ; : : : ; Yn :

The likelihood function is:

n 2

+(Y2 )2 ++(Yn )2 )

L () = (2) 2 e 2 ((Y1 )

1

:

Find

^ and show how you can construct a 95% condence interval for : If

Y1 = 5:5; Y2 = 3:3; Y3 = 7:1; Y4 = 9:2 and Y5 = 4:1; nd

^ and construct a

95% condence interval for :

CHAPTER 2. UNIVARIATE CALCULUS 88

Answer

The log-likelihood is given by:

n 1

l () = ln (L ()) = ln (2) (Y1 )2 + (Y2 )2 + + (Yn )2

2 2

so that:

dl ()

= (Y1 ) + (Y2 ) + + (Yn )

d

dl (^

)

=) = 0 = (Y1 ^ ) + (Y2

^ ) + + (Yn

^)

d

=) Y1 + Y2 + + Yn = n^

Y1 + Y2 + + Yn

=)

^= = Y :

n

To calculate a condence interval we have:

d2 l ()

= 1 + 1 + + 1

d2

= n

so that:

= ( (n))1

1

= :

n

Thus a 95 % condence interval takes the form:

r

1

^ 1:96 :

n

In the example n = 5 and

5:5 + 3:3 + 7:1 + 9:2 + 4:1

^ =

5

= 5:84

1

5:84 1:96 p

5

or:

6:213 0:877:

CHAPTER 2. UNIVARIATE CALCULUS 89

Problem 98 Suppose that Yi N 0; 2 so that Yi has a mean of zero and

a standard deviation of : (Here we use the traditional notation: which is

the standard deviation, instead of : ) We wish to estimate using maximum

likelihood from a sample Y1 ; Y2 ; : : : ; Yn : The likelihood function is:

n 2 2 2

L () = (2) 2 n e 22 (Y1 +Y2 ++Yn ) :

1

Find ^ and show how you can construct a 95% condence interval for the un-

known : If Y1 = 5:5; Y2 = 3:3; Y3 = 7:1; Y4 = 9:2 and Y5 = 4:1; nd ^ and

construct a 95% condence interval for :

Answer

The log-likelihood is given by:

n 1

l () = ln (L ()) = ln (2) n ln () 2 Y12 + Y22 + + Yn2

2 2

so that:

dl () n 1

= + 3 Y12 + Y22 + + Yn2

d

dl (^

) n 1

=) = 0 = + 3 Y12 + Y22 + + Yn2

d ^

^

1 2 2 2

n

=) 3 Y1 + Y2 + + Yn =

^ ^

2 2 2

Y + Y2 + + Yn

=) ^2 = 1

r n

2 2

Y1 + Y2 + + Yn2

=) ^= :

n

To calculate a condence interval we have:

d2 l () n 1

2

= 2 3 4 Y12 + Y22 + + Yn2

d

so that:

2 1

d l (^

)

=

d 2

0 11

B n 1 C

= @ 2 + 3 4 Y12 + Y22 + + Yn2 A

^ ^ |

{z }

2

=n^

1

n 2

n^

= 2 +3 4

^ ^

12

n

= 2 2

^

^2

= :

2n

CHAPTER 2. UNIVARIATE CALCULUS 90

s

^2

^ 1:96 :

2n

In the example n = 5 and

s

(5:5)2 + (3:3)2 + (7:1)2 + (9:2)2 + (4:1)2

^ =

5

= 6:213

and a 95% condence interval for the unknown is:

r

6:2132

6:213 1:96

25

or:

6:213 3:85:

Problem 99 The Poisson distribution is used to model events which have a

small probability but which occur many times; for example when many cars pass

through an intersection each has a small probability of having an accident and

given that many cars pass through an intersection there may be say 2 accidents

a month. Suppose then that Yi is the number of accidents in an intersection

and is the average number of accidents in an intersection which unknown.

deviation of : We wish to estimate using maximum likelihood from a sample

Y1 ; Y2 ; : : : ; Yn : The likelihood function is:

L () = (Y1 +Y2 ++Yn ) en :

Find

^ and show how you can construct a 95% condence interval for : Suppose

the number of accidents in 5 consecutive months is Y1 = 5; Y2 = 3; Y3 = 7;

Y4 = 2 and Y5 = 4 . Find ^ and construct a 95% condence interval for the

unknown :

Answer

The log-likelihood is given by:

l () = ln (L ()) = (Y1 + Y2 + + Yn ) ln () n

so that:

dl () (Y1 + Y2 + + Yn )

= n

d

dl (^

) (Y1 + Y2 + + Yn )

=) =0= n

d ^

(Y1 + Y2 + + Yn )

=) =n

^

Y1 + Y2 + + Yn

=)

^= = Y

n

CHAPTER 2. UNIVARIATE CALCULUS 91

d2 l () (Y1 + Y2 + + Yn )

=

d2 2

so that:

2 1

d l (^

)

=

d2

0 11

=n^

z }| {

B (Y + Y + + Y ) C

B 1 2 n C

= B C

@ ^2

A

^2

= :

n

Thus a 95 % condence interval takes the form:

s

^2

^ 1:96 :

n

5+3+7+2+4

^ =

5

= 4:2

r

4:22

4:2 1:96

5

or:

4:2 3:68:

Chapter 3

Matrix Algebra

Inverse

Problem 100 Consider the matrices:

2 3 2 3

3 2 6 4

A = 4 1 3 5;B = 4 2 6 5

1 2 2 4

What is AB? What is AT B? What is AB T ? What is det [A]? What are det AT B

1 1

and det B T A ? What are A1 ; AT B and AB T :

Answer

AB is not dened since A is 3 2 and B is also 3 2:

2 3

6 4

T 3 1 1 4 5 22 22

A B = 2 6 = :

2 3 2 22 34

2 4

2 3 2 3

6 4 26 18 14

3 1 1

AB T = 4 2 6 5 = 4 18 20 14 5 :

2 3 2

2 4 14 14 10

22 22

det AT B = det = 264

22 34

2 3

26 18 14

det BAT = det 4 18 20 14 5 = 0:

14 14 10

92

CHAPTER 3. MATRIX ALGEBRA 93

T 1 1 34 22

A B = :

264 22 22

1

The matrix AB T does not exist since det AB T = 0:

2 3

1 1

A=4 1 2 5

1 3

1

calculate AT A; AAT and AT AT : Find AT A if it exists.

Answer

We have:

2 3

1 1

T 1 1 1 4 5 3 6

A A = 1 2 = :

1 2 3 6 14

1 3

2 3 2 3

1 1 2 3 4

1 1 1

AAT = 4 1 2 5 = 4 3 5 7 5:

1 2 3

1 3 4 7 10

1 7

T 1 3 6 1 14 6 1

A A = = = 3 :

1

6 14 3 14 6 6 6 3 1 2

2 3

1 1

4 5 1 1 1

A= 2 0 ; B=

1 2 3

3 1

1

calculate AB; B T AT and AT A: Find AT A if it exists.

CHAPTER 3. MATRIX ALGEBRA 94

Answer

We have:

2 3 2 3

1 1 2 1 4

1 1 1

AB = 4 2 0 5 = 4 2 2 2 5

1 2 3

3 1 4 1 6

2 3T 2 3

2 1 4 2 2 4

B T AT = (AB)T = 4 2 2 2 5 = 4 1 2 1 5

4 1 6 4 2 6

2 3

1 1

1 2 3 4 14 4

AT A = 2 0 5=

1 0 1 4 2

3 1

1 1

T

1 14 4 13

A A = = 6 :

4 2 13 7

6

2 3

2

X = 4 2 5; Y = 1 2 3

2

(XY )1 and (Y X)1 . Calculate A1 where:

3 2

A=

1 5

1

and calculate AT :

Answer

2 3 2 3

2 2 4 6

XY = 4 2 5 1 2 3 =4 2 4 6 5

2 2 4 6

2 3

2

YX = 1 2 3 4 2 5 = 12

2

Y X T is not dened. X 1 is not dened since only square matrices have inverses.

2 3

2 4 6

det [XY ] = det 4 2 4 6 5 = 0

2 4 6

det [Y X] = det [12] = 12:

CHAPTER 3. MATRIX ALGEBRA 95

Since det [XY ] = 0 it follows that (XY )1 does not exist. (Y X)1 = 121 = 1

12 .

1 5 2

1 3 2 13 13

A = = 1 3

1 5 13 13

T

T 1 T 5 2

13 5 1

13

A = A1 = 13

1 3 = 13

2 3 :

13 13 13 13

Problem 104 Given the two matrices A and B and the vector x:

2 3 2 3

1 1 1

2 2 2

A= ; B = 4 1 2 5 ; x = 4 2 5

2 4 6

1 3 1

T T T 1

calculate

h i A B; BA and B A : What is (AB) : Calculate: det [AB] ;

AB,

det (AB)1 ; and det [A] : Calculate: BAx = 0 and use this result to calculate

det [BA] : Calculate Ax and use this result to calculate det [BA] :

Answer

3 2

1 1

4 2 2 2

5 6 12

AB = 1 2 =

2 4 6 12 28

1 3

T

T T T 6 12 6 12

B A = (AB) = =

12 28 12 28

2 3 2 3

1 1 4 6 8

2 2 2

BA = 4 1 2 5 =4 6 10 14 5 :

2 4 6

1 3 8 14 20

AT B is not dened.

1 7

6 12 1 28 12 12

(AB)1 = = = 6

12 28 24 12 6 12 1

4

6 12

det [AB] = det = 24

12 28

h i 1 1

det (AB)1 = =

det [AB] 24

and det [A] is not dened since A is not square.

2 3

1

2 2 2 4 5 0

Ax = 2 =

2 4 6 0

1

=) BAx = B0 = 0

=) det [BA] = 0

since if for any square matrix C if Cx = 0 for x 6= 0 implies that C is singular

and hence det [C] = 0:

CHAPTER 3. MATRIX ALGEBRA 96

2 3

9 18

3 3 3

A= ; B = 4 3 6 5;

12 4 4

4 8

Answer

2 3

9 18

3 3 3 4 3 6 5= 48 96

AB =

12 4 4 104 208

4 8

T

T 48 96 48 104

B T AT = (AB) = =

104 208 96 208

2 3 2 3

9 18 243 99 45

4 3 6 5 3 3 3

BA = = 4 81 33 15 5

12 4 4

4 8 108 44 20

48 96

det [AB] = det = 0:

104 208

Problem 106 Given the matrix:

2 3

3 1 0

A=4 0 4 0 5

0 0 5

T 1

calculate det [A] ; det A ; det A ; tr [A] and A1 :

Answer

Since A is upper triangular its determinant is the product of the diagonal

elements so that:

2 3

3 1 0

det 4 0 4 0 5 = 3 4 5 = 60 = det AT :

0 0 5

1 1

det A1 = =

det [A] 60

T r [A] = 3 + 4 + 5 = 12

2 3

20 5 0

1 4 0 15 0 5 :

A1 =

60 0 0 12

CHAPTER 3. MATRIX ALGEBRA 97

does not follow that either AB or BA is symmetric. Show that ABA and BAB

however are symmetric.

square n n matrices A and B does it follow that (A B) (A + B) = A2 B 2 ?

T 1 1 1 i

x x exists but xxT does not exist. What is det xT x and det xxT ?

vector x such that Bx = 0: Suppose that the 5th element of x is equal to the

GNP of Canada. Calculate det [AB] :

(lower) triangular.

2 3

1 2 4

A = 4 2 3 2 5

3 1 3

nd det [A] using the Laplace expansion by: 1) going across the rst row, 2)

going down the second column. Calculate the cofactor matrix C and the adjoint

1

matrix adj [A] : Calculate adj [A] A and Aadj [A] : Calculate A1 and AT :

Answer

Going across the rst row we nd:

2 3

1 2 4

det [A] = det 4 2 3 2 5

3 1 3

3 2 2 2 2 3

= 1 det 2 det + 4 det

1 3 3 3 3 1

= 13:

2 2 1 4 1 4

det [A] = 2 det + 3 det 1 det

3 3 3 3 2 2

= 13:

CHAPTER 3. MATRIX ALGEBRA 98

2 3

3 2 2 2 2 3

6 det det det

6 1 3 3 3 3 1 7

7

6 2 4 1 4 1 2 7

C = 6 6 det 1 det det 7

6 3 3 3 3 1 7

7

4 2 4 1 4 1 2 5

det det det

3 2 2 2 2 3

2 3

7 12 11

= 4 2 9 5 5

8 10 7

so that:

2 3T 2 3

7 12 11 7 2 8

adj [A] = C T = 4 2 9 5 5 = 4 12 9 10 5 :

8 10 7 11 5 7

Thus adj [A] A and Aadj [A] are given by direct calculation as:

2 32 3 2 3

7 2 8 1 2 4 13 0 0

4 12 9 10 5 4 2 3 2 5 = 4 0 13 0 5 = det [A] I

11 5 7 3 1 3 0 0 13

2 32 3 2 3

1 2 4 7 2 8 13 0 0

4 2 3 2 5 4 12 9 10 5 = 4 0 13 0 5 = det [A] I

3 1 3 11 5 7 0 0 13

which illustrates the general fact that adj [A] A = Aadj [A] = det [A] I since

det [A] = 13: Finally:

1

A1 = adj [A]

det [A]

2 3 2 7 2 8

3

7 2 8 13

1 4 5 4 12

13

9

13

10 5:

= 12 9 10 = 13 13 13

13 11 5 7

11 5 7 13 13 13

Problem 113 Let X be an n p matrix. Prove that P = X(X T X)1 X T is

symmetric and idempotent. What is T r [P ] ?

CHAPTER 3. MATRIX ALGEBRA 99

Answer

T T T T

First X T X = X T X T = X T X (since (AB) = B T AT and X T =

X ). Now:

0 1T

PT XT A

= @X(X T X)1 |{z}

| {z }

A B

0 1T

T T

= X @ X (X T X)1 A ; since (AB)T = B T AT

|{z}| {z }

A B

T T

= X (X T X)1 X T ; since (AB)T = B T AT and AT = A

0 11

B C T 1

= X @(X T X)T A X T ; since A1 = AT

| {z }

=X T X

= X(X X) X T

T 1

= P by denition.

P is idempotent since:

| {z }

=I since AA1 =I

T 1 T

= X(X X) IX

| {z } since IA = A

=X T

= P:

Since T r [AB] = T r[BA] we have:

2 3

X (X T X)1 X T 5

T r [P ] = T r 4|{z}

| {z }

A B

2 3

6 7

= T r 4(X T X)1 (X T X)5

| {z }| {z }

pp pp

2 3

I 5 = p:

= T r 4|{z}

pp

CHAPTER 3. MATRIX ALGEBRA 100

matrix. Consider the matrices:

A = X(X T 1 X)1 X T 1

B = X(X T 1 X)1 X T

C = (RX T 1 XRT )1

D = (RT X T 1 XR)1

Problem 114 Find the dimensions of the matrices A ; B and C: What can you

say about the matrix D? Which matrices are symmetric? Which are idempotent?

Answer

A is n n; B is n n; C is r r and D is not dened since XR and RT X T

are not dened. The matrices B and C are symmetric while the matrix A is

idempotent.

T T

Problem 115 Determine AB; BA; B T A; AB T ; B T AT and AT B T :

Make any possible simplications , and if possible avoid any unnecessary work

in your derivations.

Answer

We have:

| {z }

=I

= X(X T 1 X)1 X T = B

BA = X(X T 1 X)1 X T X(X T 1 X)1 X T 1

BT A = BA since B T = B

AB T = AB = B since B T = B

T T T T T T T T

B A = AB = B since B T AT = A B = AB

T T T T T T T T T T

A B = BA (since A B = B A = BA):

metric n n matrix. If A = X T X prove that A is symmetric. Prove that A1

1

is symmetric (assuming the inverse exists). If B = X T 1 X prove that

T 1 1 T 1

B is symmetric (assuming the inverse exists). If C = X X X X

show that C is idempotent.

CHAPTER 3. MATRIX ALGEBRA 101

Answer

AT = (X T X)T

T

= (X)T X T T

since (EF ) = F T E T

T

= X T X since E T =E

= A =) A is symmetric

1 T 1 T 1

A = AT ; since E 1 = E T

= A1 ; since A = AT from above.

= X(X T 1 X)1 X T

For B we have:

T

B T = (X T 1 X)1

1 T 1

= (X T 1 X)T since E 1 = E T

T 1 T

= (X T X T 1 since (EF ) = F T E T

T T T 1

= (X T 1 X ) since (EF )T = F T E T

1 1 T 1 T

= (X T T X since E 1 = E T and E T =E

= (X T 1 X)1 since symmetric =) = T

= B =) B is symmetric.

1 T 1

For C = X X T 1 X X we have:

1 T 1 T 1 1 T 1

CC = X X T 1 X X X X X X

| {z }

=I

1

= X X T 1 X IX T 1

1 T 1

= X X T 1 X X =) C is idempotent.

2 3

1 1

6 2 2 7

6 7

X=6

6 3 3 7

7

4 4 4 5

5 5

h

T T

T 1 1

T T

T i T 1 T

calculate X X; XX ; X X ; XX; X , det X X ; det X X ; det X X ,

1 T T 1 T

T r X T X ; T r XX T and T r X X T X X X XT X X :

CHAPTER 3. MATRIX ALGEBRA 102

Answer

2 3

1 1

6 2 2 7

1 2 3 4 5 6 7 55 15

XT X = 6 3 3 7 =

1 2 3 4 5 6 7 15 55

4 4 4 5

5 5

2 3 2 3

1 1 2 0 6 0 10

6 2 2 7 6 0 8 0 16 0 7

6 7 1 2 3 4 5 6 7

XX T = 6 7

6 3 3 7 1 2 3 =66 6 0 18 0 30 7

7

4 4 4 5 4 5 4 0 16 0 32 0 5

5 5 10 0 30 0 50

1 11

T 1 55 15 3

560

X X = = 560

3 11

15 55 560 560

h

T i 55 15

det X T X = det X T X = det = 2800

15 55

h 1 i 1 1

det X T X = T

=

det [(X X)] 2800

T 1 T h 1

i 1

det X X = det X T X =

2800

T 55 15

Tr X X = Tr = 55 + 55 = 110

15 55

T r XX T = 2 + 8 + 18 + 32 + 50 = T r X T X = 110:

T 1 T T T 1 T

To calculate T r X X X X X X X X you could calculate

1 T T 1 T

X XT X X X XT X X and sum the diagonal elements. It

1 T

would however be easier and faster to notice that X X T X X is symmetric

T 1 T

and idempotent and just to calculate X X X X so that:

2 3

1 1

6 2 2 7

T 1 T 6 7 55 15 1 1 2 3 4 5

X X X X 6

= 6 3 3 7 7

4 4 4 5 15 55 1 2 3 4 5

5 5

2 1 3

3

35 0 35 0 17

6 0 1 0 2 0 7

6 3 5 9 5 3 7

= 6 6 35 02 35 04 7 7

7

4 0 0 5 0 5

5

1

7 0 37 0 57

CHAPTER 3. MATRIX ALGEBRA 103

h 1 T i 1 1 9 4 5

T r X XT X X = + + + + = 2:

35 5 35 5 7

Even

h easier would bei to use the fact that T r [AB] = T r [BA] and prove that :

1 T

T r X XT X X = T r [I] = 2 where I is a 2 2 identity matrix.

1 T

and P = X X T X X and pij is the i; j th element of P; then what will pij

be equal to?

Answer

2 3

X1

6

6 X2 7

7

XT X = X1 X2 Xn 6 .. 7

4 . 5

Xn

= X12 + X22 + + Xn2 a scalar.

Therefore

T 1

P = X X X XT

| {z }

1

= 2 +X 2 ++X 2

X1 2 n

1

= 2 2 XX T

X1 + X2 + + Xn2

2 3

X1

6 X 7

1 6 2 7

= 6 . 7 X1 X2 Xn

X1 + X2 + + Xn 4 ..

2 2 2 5

Xn

2 3

X12 X1 X2 X1 Xn

6 X1 X2 X22 X2 Xn 7

1 6 7

= 6 .. .. .. .. 7

X12 + X22 + + Xn2 4 . . . .X

n

5

X1 Xn X2 Xn Xn2

so that:

Xi Xj

pij = :

X12 + X22 + + Xn2

The following three problems are based on the following informa-

tion:Suppose Q is an n n matrix and X is a n p matrix. Consider the

matrices:

A = X(X T Q1 X)1 X T Q1

B = X(X T Q1 X)1 X T

CHAPTER 3. MATRIX ALGEBRA 104

Problem 119 Find the dimensions of the matrices A and B: What is the rank

of Q? What is the rank of X T Q1 X? Show that (X T Q1 X)1 is symmetric.

Show that A is idempotent but not symmetric while B is symmetric but not

idempotent.

T

Problem 120 Determine AB; BA; B T A; AB T ; AT B; B T A; B T AT and

T T T

A B : Make any possible simplications , and if possible avoid any unnec-

essary work in your derivations.

that CA = AC = 0: What is 0 here? Let X be any column of C and suppose

that at least one element of X is not equal to zero. Show that this implies that

det [A] = 0:

symmetric n n matrices, show that A + B and ABA are symmetric while

AB is not in general symmetric. If C; D and E are nonsingular matrices,

1

show that CDE is nonsingular using determinants and prove that (CDE) =

E 1 D1 C 1: Let X be an n p matrix and let be a nonsingular symmetric

1 T 1

n n matrix. Prove that P = X X T 1 X X is an n n idempotent

matrix and that I P is idempotent.

Answer

A matrix A is symmetric if and only if A = AT :

Since A and B are symmetric we have: AT = A and B T = B so that:

(A + B)T = AT + B T

= A+B

=) A + B is symmetric

(ABA)T = AT B T AT

= ABA

=) ABA is symmetric

(AB)T = B T AT

= BA 6= AB

=) AB is not in general symmetric

det [E] 6= 0 and

CHAPTER 3. MATRIX ALGEBRA 105

=I

z }| {

1 1 1 1 1

E D C CDE = E D C 1 CDE

=I

z }| {

1

= E D1 DE

=I

z }| {

= E 1 E

= I:

1

Similarly: CDE E 1 D1 C 1 = I so that (CDE) = E 1 D1 C 1 :

1

Alternatively, assuming (AB) = B 1 A1 (better to prove this!) we have:

1

(CDE) = E 1 (CD)1

= E 1 D1 C 1 :

1 T 1

We have for P = X X T 1 X X that:

=I

z }| {

T 1 1 T 1 T 1 1 T 1

PP = X X X X X X X X

T 1 1 T 1

= X X X IX

T 1 1 T 1

= X X X X

=) P is idempotent.

Also:

(I P ) (I P ) = II IP P I + P P

= I P P + P since P is idempotent

= I P

=) I P is idempotent.

matrix. If A = X T X prove that A is symmetric. If B = X T X prove that B

is symmetric. Prove that C = B 1 is symmetric (assuming the inverse exists).

1 T

If P = X X T X X show that P is an n n idempotent matrix but will

not in general be symmetric.

1

Problem 124 If X is an n p matrix show that A = X T X is symmet-

T 1 T

that P = X X X

ric. Show X is symmetric and idempotent. What is

tr P T P equal to?

A is a positive semi-denite matrix (i.e. show that y T Ay 0 for all y): Does

CHAPTER 3. MATRIX ALGEBRA 106

A1 necessarily exist then? Suppose that the column vectors of X are all linearly

independent, or that rank [X] = p; or that Xc = 0 implies c = 0 where c is a

p 1 vector. Show that in this case A is positive denite. Does A1 necessarily

exist then?

Answer

Let y be any p 1 vector. Then:

y T Ay = y T X T Xy

= zT z

T

where z = Xy and z T = (Xy) = yT X T and since X is n p and y is p 1 it

follows that z is an n 1 column vector. Thus:

y T Ay = zT z

2 3

z1

6

6 z2 7

7

= z1 z2 zn 6 .. 7

4 . 5

zn

= z12 + z22 + + zn2

0

that for all y:

yT Ay 0

=) A is positive semi-denite.

case A1 would not exist. Suppose now that: rank [X] = p; or that Xy = 0

implies y = 0 where y is a p 1 vector. In order to show A is positive denite

we need to show that:

y T Ay = 0 =) y = 0:

yT Ay = z T z = 0:

z = 0 =) Xy = 0 =) y = 0

CHAPTER 3. MATRIX ALGEBRA 107

a positive denite matrix. Show that A is a positive semi-denite matrix (i.e.

show that y T Ay 0 for all y): Does A1 necessarily exist then? Suppose that

the column vectors of X are all linearly independent, or that rank [X] = p; or

that Xy = 0 implies y = 0 where y is a p 1 vector. Show that in this case A

is positive denite. Does A1 necessarily exist then?

Answer

Let y be any p 1 vector. Then:

yT Ay = yT y

= z T z

0 (since is postive denite)

=) A = X T X is positive semi-denite.

follows that z is an n 1 column vector.

The matrix A is not necessarily positive denite since it might be that z =

Xy = 0 in which case A1 would not exist. However if rank [X] = p; or that

Xy = 0 implies y = 0 where y is a p 1 vector then A is positive denite and

A1 does exist.

Problem 127 Recall from statistics that the sample mean and variance are

Pn 1 Pn

given by: Y = n1 i=1 Yi and s2 = n1 2 : Let Y = [Yi ] be an

i=1 Yi Y

n 1 vector and let be an n 1 vector with each element equal to 1: Let P = n1

T : Show that P and I P are symmetric and idempotent, that Y = n1 T Y and

Y T (IP )Y

that s2 = n1 :

Answer

First note that T = n since:

2 3

1

6

6 1 7

7

T = 1 1 1 6 .. 7

4 . 5

1

2 2 2

= 1 +1 + +1

= n:

CHAPTER 3. MATRIX ALGEBRA 108

1 T 1 T

PP =

n n

1 T T

=

n2 |{z}

=n

n T

=

n2

1 T

=

n

= P =) P is idempotent.

(I P ) (I P ) = II IP P I + P P

= I P P +P

= I P =) I P is idempotent.

2 3

Y1

1 T 1 6

6 Y2 7

7

Y = 1 1 1 6 .. 7

n n 4 . 5

Yn

1

= (1 Y1 + 1 Y2 + + 1 Yn )

n

1

= (Y1 + Y2 + + Yn )

n

= Y :

Furthermore:

1 T

(I P ) Y = Y Y

n

1 T

= Y Y

n

| {z }

=Y

= Y Y

2 3

Y1 Y

6 Y2 Y 7

6 7

= 6 .. 7:

4 . 5

Yn Y

CHAPTER 3. MATRIX ALGEBRA 109

Therefore:

2 3T 2 3

Y1 Y Y1 Y

6 Y2 Y 7 6 Y2 Y 7

6 7 6 7

((I P ) Y )T ((I P )) Y = 6 .. 7 6 .. 7

4 . 5 4 . 5

Yn Y Yn Y

2 2 2

= Y1 Y + Y2 Y + + Yn Y

= (n 1) s2 :

((I P ) Y )T ((I P )) Y = Y T (I P )T (I P ) Y

= Y T (I P ) (I P ) Y

= Y T (I P ) Y

so that:

Y T (I P ) Y = (n 1) s2

Y T (I P ) Y

=) s2 = :

n1

Problem 128 Suppose P is an nn idempotent matrix. What does that mean?

If x is an eigenvector of P and is an eigenvalue of P; what relationship exists

between P; x; and ? Prove that either = 0 or = 1.

Answer

Idempotent means that P P = P: If x is an eigenvector of P and is an

eigenvalue of P then for x 6= 0

P x = x:

PPx = P x = 2 x

PPx = P x = x

=) 2 x = x

=) x (1 ) = 0:

Since x 6= 0 either = 0 or = 1:

1 1

trix, show that X T Q1 X

h is symmetric and that

i X X T Q1 X XQ1 is

1

idempotent. What is T r X X T Q1 X XQ1 ?

CHAPTER 3. MATRIX ALGEBRA 110

Answer

Problem 130 If Q is a n n symmetric matrix, and X is an n p ma-

1 1

trix, show that X T Q1 X

h is symmetric and that

i X X T Q1 X XQ1 is

1

idempotent. What is T r X X T Q1 X XQ1 ?

the true linear regression model takes the form:

Y = X + e

the income and the second column is the wealth. Suppose that the actual data

takes the form:

2 3 2 3

22 10 100

6 88 7 6 25 355 7

6 7 6 7

6 7 7 6 7 10 7

6 7 6 7

6 29 7 6 41 50 7

6 7 6 7

6 8 7 6 7

Y =6 7 ; X = 6 10 3 7 :

6 217 7 6 75 860 7

6 7 6 7

6 35 7 6 21 62 7

6 7 6 7

6 61 7 6 77 107 7

6 7 6 7

4 11 5 4 21 10 5

52 71 45

^

Problem 131 Calculate

Answer

^ we have:

From the formula for

2 3

10 100

6 25 355 7

6 7

6 7 10 7

6 7

6 41 50 7

6 7

10 25 7 41 10 75 21 77 21 71 6 6 10 3 7

7

XT X =

100 355 10 50 3 860 62 107 10 45 6

6 75 860 7

7

6 21 62 7

6 7

6 77 107 7

6 7

4 21 10 5

71 45

20032 89471

=

89471 895652

CHAPTER 3. MATRIX ALGEBRA 111

while:

2 3

22

6 88 7

6 7

6 7 7

6 7

6 29 7

6 7

10 25 7 41 10 75 21 77 21 71 6 6 8 7

7

XT Y =

100 355 10 50 3 860 62 107 10 45 6

6 217 7

7

6 35 7

6 7

6 61 7

6 7

4 11 5

52

29368

= :

232751

^ is given by:

Thus the least squares estimator

T 1 T

^

= X X X Y

1

20032 89471 29368

=

89471 895652 232751

0:5514

= :

0:2048

^ 1 = 0:5514

The estimated marginal propensity to consume out of income is:

while the estimated marginal propensity to consume out of wealth is: ^2 =

0:2048

^

Problem 132 Calculate the least squares residual: e^ = Y X .

Answer

We have:

2 3 2 3 2 3

22 10 100 3:994

6 88 7 6 25 355 7 6 1:511 7

6 7 6 7 6 7

6 7 7 6 7 10 7 6 1:0922 7

6 7 6 7 6 7

6 29 7 6 41 50 7 6 3:8474 7

6 7 6 7 6 7

6 8 7 6 10 3 7 0:5514 6 1:8716 7

e^ = 6

6

76

7 6

7 6

7 0:2048 = 6

7:

7

6 217 7 6 75 860 7 6 :483 7

6 35 7 6 21 62 7 6 10:723 7

6 7 6 7 6 7

6 61 7 6 77 107 7 6 3:3714 7

6 7 6 7 6 7

4 11 5 4 21 10 5 4 2:6274 5

52 71 45 3:6346

Problem 133 Calculate Y^ = X ;

CHAPTER 3. MATRIX ALGEBRA 112

Answer

We have:

2 3 2 3

10 100 25:994

6 25 355 7 6 86:489 7

6 7 6 7

6 7 10 7 6 5:9078 7

6 7 6 7

6 41 50 7 6 32:847 7

6 7 6 7

6 10 3 7 0:5514 6 6:1284 7

Y =6

^

6

7 6

7 0:2048 = 6

7:

7

6 75 860 7 6 217:48 7

6 21 62 7 6 24:277 7

6 7 6 7

6 77 107 7 6 64:371 7

6 7 6 7

4 21 10 5 4 13:627 5

71 45 48:365

Problem 134 Prove that e^ and Y^ are always orthogonal. Is this the case in

the above example?

Answer

We have:

Y^ = P Y; e^ = (I P ) Y

1 T

where P = X X T X X and (I P ) are symmetric and idempotent. There-

fore:

e^T Y^ = ((I P ) Y )T (P Y )

= Y T (I P )T P Y

= Y T (I P ) P Y since I P is symmetric

= Y T (P P P ) Y

= Y T (P P ) Y since P is idempotent

= Y T 0Y

= 0 =) e^ and Y^ are orthogonal.

For this particular example we have:

2 3T 2 3

3:994 25:994

6 1:511 7 6 86:489 7

6 7 6 7

6 1:0922 7 6 5:9078 7

6 7 6 7

6 3:8474 7 6 32:847 7

6 7 6 7

6 1:8716 7 6 6:1284 7

e^ Y = 6

T ^

6 :483

7

7

6

6

7

7

6 7 6 217:48 7

6 10:723 7 6 24:277 7

6 7 6 7

6 3:3714 7 6 64:371 7

6 7 6 7

4 2:6274 5 4 13:627 5

3:6346 48:365

= 3:3454:

CHAPTER 3. MATRIX ALGEBRA 113

Note that it is not numerically equal to zero even though we proved it must be

zero!! The reason for this is that we have rounded the decimal expansion of the

numbers we have used (we have only worked with numbers up to one decimal

place) so that rounding error is the cause of the discrepancy.

The following three problems are based on the following system of equations:

3X1 + 5X2 = 7 + 2X3

X1 2X2 + 3X3 = 4 + 2X2

X1 X2 + X3 = 10

Problem 135 Writing this system as AX = b; what is A; what is X and what

is b? Is A or b symmetric? Calculate det [A] : Is A nonsingular? Is it invertible?

What is its rank? Solve AX = 0 for X:

Answer

Putting the X 0 s on the left-hand side we can rewrite the equations as:

3X1 + 5X2 2X3 = 7

X1 4X2 + 3X3 = 4

X1 X2 + X3 = 10

or in matrix notation as:

2 32 3 2 3

3 5 2 X1 7

4 1 4 3 5 4 X2 5 = 4 4 5 :

1 1 1 X3 10

Neither A nor b is symmetric since:

2 3T 2 3T

3 5 2 7

AT = 4 1 4 3 5 6= A; bT = 4 4 5 = 7 4 10 6= b:

1 1 1 10

We have:

2 3

3 5 2

4 3 1 3 1 4

det 4 1 4 3 5 = 3 det 5 det + 2 det

1 1 1 1 1 1

1 1 1

= 1:

Since det [A] 6= 0; it follows that A is invertible, has full rank, that is rank [A] =

3; and that AX = 0 =) X = 0; that is X1 = 0; X2 = 0 and X3 = 0:

1

Problem 136 Calculate A1 using determinants. Calculate AT : Calcu-

late A1 b: Solve the above system of equations using Cramers rule. The last

two answers you give should be identical. What is b1 ?

CHAPTER 3. MATRIX ALGEBRA 114

Answer

The adjoint of A is given by:

2 3T

4

3 1 3 1 4

2 3 6 det det det 7

3 5 2 6 1

1 1 1 1 1 7

6 25 3 2 3 5 7

4

adj 1 4 3 5 = 6

6 det det det 7

7

6 11 1 1 1 1 7

1 1 1 4 5

25 3 2 3 5

det det det

43 1 3 1 4

2 3

1 3 7

= 4 2 5 11 5 :

3 8 17

1

Since A1 = det[A] adj [A] and det [A] = 1 it follows that for this matrix A1 =

adj [A] so that:

2 3

1 3 7

A1 = 4 2 5 11 5 :

3 8 17

Therefore:

2 32 3 2 3

1 3 7 7 51

X = A1 b = 4 2 5 11 5 4 4 5 = 4 76 5

3 8 17 10 117

2 3

7 5 2

det 4 4 4 3 5

10 1 1 51

X1 = = = 51;

det [A] 1

2 3

3 7 2

det 4 1 4 3 5

1 10 1 76

X2 = = = 76;

det [A] 1

2 3

3 5 7

det 4 1 4 4 5

1 1 10 117

X3 = = = 117:

det [A] 1

unknown 1 3 row vector and A and b are the same as in the problem above.

What is Y ?

CHAPTER 3. MATRIX ALGEBRA 115

Answer

Taking transposes of both sides of Y AT = bT we obtain:

AY T = b

so that Y T = X or

Y = XT = 51 76 117 :

4x1 + 2x2 = 3

5x1 + 6x2 = 7:

Write these in matrix notation in the form Ax = b: Calculate det [A] and based

on this determine how many, if any, solutions to this model exist and whether

A1 exists. Calculate x1 and x2 using Cramers rule.

Answer

We have:

4 2 x1 3

=

5 6 x2 7

4 2

det [A] = det = 14:

5 6

Since det [A] = 14 6= 0 it follows that exactly one solution to these equations

exists and that A1 exists. Using Cramers rule we nd that:

3 2 4 3

det det

7 6 2 5 7 13

x1 = = ; x2 = = :

4 2 7 4 2 14

det det

5 6 5 6

2 3 2 3 2 3

1 2 4 x1 1

A = 4 2 3 2 5 ; x = 4 x2 5 ; b = 4 5 5

3 1 3 x3 3

write this out as three linear equations with three unknowns. Find x using the

value of A1 you calculated in the previous problem. Now calculate x2 and x3

using Cramers rule.

CHAPTER 3. MATRIX ALGEBRA 116

Answer

We have:

x1 + 2x2 + 4x3 = 1

2x1 + 3x2 + 2x3 = 5

3x1 + x2 + 3x3 = 3

Thus x = A1 b or:

2 3 2 7 2 8

32 3 2 27 3

x1 13 13 13 1 13

4 x2 5 = 4 12 9 10 5 4 5 5 = 4 63 5

13 13 13 13

11 5 7

x3 13 13 13 3 35

13

27 63

so that x1 = 13 ; x2 = 13 and x3 = 35

13 : Using Cramers rule we nd that:

2 3

1 1 4

det 4 2 5 2 5

3 3 3 63

x2 = = ;

13 13

2 3

1 2 1

det 4 2 3 5 5

3 1 3 35

x3 = = :

13 13

Problem 140 Consider the following system of linear equations:

8x1 + 4x2 = 6

5x1 + 3x2 = 15

Write these in matrix notation as Ax = b: Calculate det [A] and based on this

determine how many, if any, solutions to this model exist and whether A1

exists. Calculate x1 and x2 using A1 . Solve the following equations for y1 and

y2

4

e6 y12 y2 = 1

15 5 3

e (y1 ) (y2 ) = 1:

Answer

We have:

8 4 x1 6

=

5 3 x2 15

8 4

det [A] = det = 4:

5 3

CHAPTER 3. MATRIX ALGEBRA 117

Since det [A] = 4 6= 0 it follows that exactly one solution to these equations

exists and that A1 exists. Using Cramers rule we nd that:

6 4

det

15 3 42 21

x1 = = = ;

8 4 4 2

det

5 3

8 6

det

5 15 90 45

x2 = = = :

8 4 4 2

det

5 3

Taking ln () of both sides of

4

e6 y12 y2 = 1

15 5 3

e (y1 ) (y2 ) = 1

we nd that:

4

ln e6 y12 y2 = ln (1) =) 8 ln (y1 ) + 4 ln (y2 ) = 6

5 3

ln e15 (y1 ) (y2 ) = ln (1) =) 5 ln (y1 ) + 3 ln (y2 ) = 15:

3x1 + 4x2 = 6

5x1 + 6x2 = 15

which is identical to the linear system of equations we just solved so that:

21 45

ln (y1 ) = x1 = ; ln (y2 ) = x2 =

2 2

which implies that

21 45

y1 = e 2 ; y2 = e 2

Problem 141 Consider the following system of linear equations:

3x1 + 4x2 = 6

5x1 + 6x2 = 15

Write these in matrix notation as Ax = b: Calculate det [A] and based on this

determine how many, if any, solutions to this model exist and whether A1 ex-

ists. Calculate x1 and x2 using Cramers rule. Find the solution to the following

nonlinear system of equations:

(w1 )3 (w2 )4 = e6

(w1 )5 (w2 )6 = e15

CHAPTER 3. MATRIX ALGEBRA 118

Answer

We have:

3 4 x1 6

=

5 6 x2 15

3 4

det [A] = det = 2:

5 6

Since det [A] = 2 6= 0 it follows that exactly one solution to these equations

exists and that A1 exists. Using Cramers rule we nd that:

6 4 3 6

det det

15 6 24 5 15 15

x1 = = = 12; x2 = = :

3 4 2 3 4 2

det det

5 6 5 6

(w1 )3 (w2 )4 = e6

(w1 )5 (w2 )6 = e15

we nd that:

ln (w1 )3 (w2 )4 = ln e6 =) 3 ln (w1 ) + 4 ln (w2 ) = 6

5 6

ln (w1 ) (w2 ) = ln e15 =) 5 ln (w1 ) + 6 ln (w2 ) = 15:

3x1 + 4x2 = 6

5x1 + 6x2 = 15

ln (w1 ) = x1 = 12 and ln (w2 ) = x2 = 15

2 which implies that w1 = e

12

and

15

w2 = e 2 :

4x1 3x2 = 7

5x1 + 2x2 = 1;

Calculate x1 and x2 using Cramers rule.

CHAPTER 3. MATRIX ALGEBRA 119

Answer

4 3 x1 7

=

5 2 x2 1

2 3

A1 = 23 23

5 23 4

2317

x1 23

= :

x2 31

23

tors

Problem 143 Consider the matrix:

9 3

A= :

3 5

If x is given by:

x1

x=

x2

then write out the quadratic form: xT Ax in scalar notation. Find the eigen-

values of A and use these to determine whether A is positive denite, positive

semi-denite, negative denite or negative semi-denite. Now use determinants

to nd out if A is positive denite or negative denite.

Answer

9 3 x1

xT Ax = x1 x2

3 5 x2

= 9x21 + 6x1 x2 5x22 :

To nd the eigenvalues of A note that:

9 3 1 0

det [A I] = det

3 5 0 1

= 36 + 14 + 2 = 0

p

=) 1 = 7 + 13 = 3:3944 < 0

p

=) 2 = 7 13 = 10:606 < 0:

Since 1 < 0 and 2 < 0 it follows that A is negative denite.

Using determinants or leading principal minors we nd that:

M1 = det [9] = 9 < 0

9 3

M1 = det = 36 > 0:

3 5

CHAPTER 3. MATRIX ALGEBRA 120

Since they alternate in sign with the rst being negative, it follows that A is

negative denite.

C T = C 1 and is a diagonal matrix with eigenvalues: 1 ; 2 ; : : : n along the

diagonal. Use this to show that det [A] is the product of the eigenvalues and tr [A]

is the sum of the eigenvalues. If A is positive denite, show that A1 is positive

denite. If A is idempotent, show that A is positive semi-denite. Suppose

another matrix B can be written as B = CC 1 where is a diagonal matrix

with eigenvalues: 1 ; 2 ; : : : n and suppose A and B are negative denite. Show

that the matrix AB is positive denite.

Answer

We have:

det [A] = det CC 1

= det [C] det [] det C 1 since det [ABC] = det [A] det [B] det [C]

= det C 1 det [C] det [] since the determinant is a scalar

1 1

= det [C] det [] since det B 1 =

det [C] det [B]

= det [] = 1 2 n since is a diagonal matrix.

Similarly:

2 E F 3

z}|{z}|{

T r [A] = T r 4 C C 5

= T r C 1 C since T r [EF ] = T r [F E]

= T r []

= 1 + 2 + + n :

A1 = C1 C 1

since

C1 C 1 A = C1 C 1 CC 1

= C1 C 1

= CC 1

= I:

i > 0 and so A

1

is positive denite.

CHAPTER 3. MATRIX ALGEBRA 121

xT A1 x = y T Ay 0

nonsingular.

If A = CC 1 and B = CC 1 then:

AB = CC 1 CC 1

= CC 1 :

Note that is a diagonal matrix with the ith diagonal element equal to i i > 0

which are the eigenvalues of AB: Therefore AB is positive denite. Note that

in general the product of two positive denite matrices is not positive denite.

Answer

The eigenvalues of A are the roots of the equation:

det [A I] = 0:

T

We know that det [B] = det B so that:

h i

T

det [A I] = 0 , det (A I) = 0:

(A I)T = AT I T = AT I

so that:

det [A I] = 0 , det AT I = 0:

AT will not in general have the same eigenvectors.

Answer

Since A1 exists all eigenvalues are nonzero. We have:

Ax = x

1

=) A1 x = x

CHAPTER 3. MATRIX ALGEBRA 122

1

so that is an eigenvalue of A if and only if is an eigenvalue of A1 : For

example given the matrix:

5 1

A=

2 4

1 2 1

1 5 1 9 18

A = =

2 4 19 5

18

1

has eigenvalues: 1 = 3 and 2 = 16 :

that A is positive denite (that is, what is the denition of a positive denite

matrix)? Comment on the statement: If A is positive denite but not positive

semi-denite then det [A] = 0. If A is given by:

5 3

A=

3 4

denite using determinants. Calculate the eigenvalues of A and use these to

show that A is positive denite.

Let A be an n n matrix with eigenvalues i ; i = 1; 2; : : : n: Assume that A

can be written as A = CC 1 (this is almost always true) where is an n n

diagonal matrix with the individual eigenvalues along the diagonal (and zeros

on the o-diagonals).

i = 1; 2; :::n along the diagonal. Similarly, show that r is a diagonal matrix

with ri i = 1; 2; :::n along the diagonal. Now show that A2 = A A = C2 C 1

and that Ar = Cr C 1 : Use this to show that if j i j< 1 ; i = 1; 2; : : : n (i.e.

each eigenvalue has an absolute value less than one) that:

lim Ar = 0:

r!1

Answer

If is diagonal then:

2 3

1 0 0

6 0 2 0 7

6 7

=6 .. .. .. .. 7

4 . . . . 5

0 0 n

CHAPTER 3. MATRIX ALGEBRA 123

and

2 32 3

1 0 0 1 0 0

6 0 2 0 76 0 2 0 7

6 76 7

= 6 .. .. .. .. 76 .. .. .. .. 7

4 . . . . 54 . . . . 5

0 0 n 0 0 n

2 3

21 0 0

6 0 22 0 7

6 7

= 6 .. .. .. .. 7

4 . . . . 5

0 0 2n

by multiplying each row and column one sees that only the diagonal elements

are non-zero. Using mathematical induction, we see that the result is true for

r = 1: Assume it is true for r 1 so that:

2 r1 3

1 0 0

6 0 r1 0 7

6 2 7

r1 = 6 . .. .. .. 7

4 .. . . . 5

0 0 r1

n

then:

r = r1

2 r1 32 3

1 0 0 1 0 0

6 0 r1 0 76 0 2 0 7

6 2 76 7

= 6 . .. .. .. 76 .. .. .. .. 7

4 .. . . . 54 . . . . 5

0 0 r1

n 0 0 n

2 3

r1 0 0

6 0 r2 0 7

6 7

= 6 .. .. .. .. 7:

4 . . . . 5

0 0 rn

Thus the result is true for all r:

If j i j< 1 ; i = 1; 2; : : : n then clearly ri ! 0 as r ! 1 so that: r ! 0 as

r ! 1 and hence:

lim Ar = C lim r C 1

r!1 r!1

= C0C 1

= 0:

Problem 149 What will the matrices (I ) and (I )1 be equal to? Show

1

that I A = C (I ) C 1 ; dene the matrix B = C (I ) C 1 and show

1

that B = (I A) : Why do you have to assume that no eigenvalue of A is

equal to one?

CHAPTER 3. MATRIX ALGEBRA 124

Answer

2 3 2 3

1 0 0 1 0 0

6 0 1 0 7 6 0 2 0 7

6 7 6 7

(I ) = 6 .. .. .. .. 76 .. .. .. .. 7

4 . . . . 5 4 . . . . 5

0 0 1 0 0 n

2 3

1 1 0 0

6 0 1 2 0 7

6 7

= 6 .. .. .. .. 7:

4 . . . . 5

0 0 1 n

Since (I ) is diagonal its inverse is simply the inverse of its diagonal elements

so that:

2 31

1 1 0 0

6 0 1 2 0 7

6 7

(I )1 = 6 .. .. .. . 7

4 . . . .. 5

0 0 1 n

2 1 3

11 0 0

6 0 1

0 7

6 12 7

= 6 .. .. .. .. 7 :

4 . . . . 5

1

0 0 1n

If i = 1 then 1

1i = 1

11 = 1 and so (I )1 would not be dened.

Now:

I A = I CC 1

= CC 1 CC 1

= C (I ) C 1

1

If B = C (I ) C 1 then:

BA = C (I )1 C 1 (I A)

=I

z }| {

1

= C (I ) C 1 C (I ) C 1

= C (I )1 (I ) C 1

= CC 1

= I

so that: B = (I A)1 :

Problem 150 The geometric series says that for j j< 1 that

1

= 1 + + 2 + 3 + :

1

CHAPTER 3. MATRIX ALGEBRA 125

and b) to show that:

(I A)1 = I + A + A2 + A3 + :

Answer

Since

2 1 3

11 0 0

6 0 1

0 7

6 12 7

(I )1 = 6 .. .. .. .. 7

4 . . . . 5

1

0 0 1n

2 3

1 + 1 + 21 + 0 0

6 0 1 + 2 + 22 + 0 7

6 7

= 6 .. .. .. .. 7

4 . . . . 5

0 0 1 + n + 2n +

= I + + 2 + :

1

Since (I A) = C (I )1 C 1 we have:

1

(I A) = C (I )1 C 1

= C I + + 2 + C 1

= CC 1 + CC 1 + C2 C 1 +

= I + A + A2 + :

Problem 151 Let X and Y be two random variables. Let 2x be the variance of

X; let 2y be the variance of Y; and let xy be the covariance between X and Y:

The correlation coecient is then dened as: = xxy y : The variance covariance

matrix for X and Y is then dened to be:

2

x xy

= :

xy 2y

Using the fact that this matrix is positive semi-denite, show that 1 1

and that the matrix is positive denite as long as 6= 1:

Answer

Recall that det [] = 1 2 where 1 and 2 are the eigenvalues of : Since

is positive semi-denite, det [] = 1 2 0 since the determinant is the

CHAPTER 3. MATRIX ALGEBRA 126

product of the eigenvalues which are greater than equal to zero. Thus:

2

x xy

det [] = det

xy 2y

= 2x 2y ( xy )2

!

2 2 (xy )2

= xy 1 2 2

x y

0 1

B 2 C

B xy C

= 2x 2y B1 C

@ xy A

| {z }

=

= 2x 2y

1 2 0

=) 1 2 0

=) 2 1

=) 1 1:

If 6= 1 then

det [] = 1 2 = 2x 2y 1 2 > 0

CC T where C T = C 1 and is a diagonal matrix with the eigenvalues

along the diagonal. Prove that A2 = C2 C T and that if A is nonsingular then

A1 = C1 C T . Find C ; and C T for the matrix A below by multiplying out

the right-hand side:

" p1 # " 1 #

5 2 2

p12 3 0 p

2

p1

2

A= = p1 p1

:

2 5 2 2

0 7 p12 p12

using determinants. Show that the two columns of C T are eigenvectors of A;

that they are orthogonal to each other and that they have a length of 1:

Answer

First multiply the three matrices together to verify the result. Now:

" #

p1 p1

C = p12 p1

2

2 2

CHAPTER 3. MATRIX ALGEBRA 127

" #

1 p1 p1

1 2 2

C =

det [C] p12 p1

2

" #

p1 p1

= 2 2 = CT :

p12 p1

2

The eigenvalues of A are the diagonal elements of the matrix in the middle;

i.e., 1 = 3 and 2 = 7:

The columns of C are orthogonal since if c1 is the rst column and c2 is the

second as:

" # " #

p1 p1

c1 = p12 ; c2 = p1

2

2 2

then:

" #

h i p1

cT1 c2 = p1 p1 2 = 0:

2 2 p12

q

jjc1 jj = cT1 c1

v " #

uh i

u p1

= t p12 p1

2 p1

2

2

= q

1

jjc2 jj = cT2 c2

v " #

uh i

u p1

= t p1 p12 2

2 p12

= 1:

Taking the rst column of C and multiplying by A as Ac1 we nd that:

Ac1 = 3c1

" p1 # " p3 # "

p1

#

5 2 2 2 2

p1

= p3 = 3 p1

2 5 2 2 2

Taking the second column we nd: Ac2 = 7c2 since:

" p1 # " p 7

# "

p1

#

5 2 2 = p72 = 7 2

2 5 p12 2

p12

CHAPTER 3. MATRIX ALGEBRA 128

9 3

A=

3 4

Find its inverse using the adjoint matrix.

Answer

Problem 154 If

2 3

1 1

X = 4 1 2 5

1 3

eigenvalues that A is positive denite. Use determinants to show that A is

positive denite. Calculate A1 using the adjoint matrix.

and positive semi-denite. Show that if rank [X] = p then X T X is positive

denite.

denite where I is positive denite. Consider generalizing this result. Assuming

that B is positive semi-denite, show that X T BX is positive semi-denite. If

B is positive denite and rank [X] = p show that X T BX is positive denite.

is not necessarily positive denite. Show that A + B is positive denite.

n n A and any n m X that A is

positive denite if and only if tr AXX T > 0 for all X 6= 0:

Problem 160 If

2 3

1 1

X = 4 1 2 5

1 3

eigenvalues that A is positive denite. Calculate A1 using the adjoint matrix.

show that A is symmetric and that P = XA1 X T B is idempotent.

CHAPTER 3. MATRIX ALGEBRA 129

5 3

A=

3 4

show that A is positive denite by 1) using principal minors and 2) calculating

the eigenvalues of A:

Problem 163 Suppose that A is symmetric and positive semi-denite or A 0:

Consider the problem of calculating the square root of A or nding a matrix B

such that A = BB: This turns out to be an important problem in econometrics.

Show that such a matrix B exists and that is also symmetric and positive semi-

denite.

Answer

Since A is symmetric we can write A as:

A = CC T

where C is orthogonal or C T = C 1 and is diagonal with the eigenvalues of

A along the diagonal or:

2 3

1 0 0

6 0 2 0 7

6 7

=6 . .. .. .. 7:

4 .. . . . 5

0 0 0 n

and where i 0 since A is positive semi-denite. Since i 0 we can take the

positive square root of each of the eigenvalues. Therefore dene B by:

1

B = C 2 C T

where:

2 1 3

12 0 0

6 1 7

6

1 0 n2 0 7

=6

2

6 .. .. .. ..

7:

7

4 . . . . 5

1

0 0 0 n2

You can then verify that B is symmetric, positive semi-denite and that:

1 1 1 1

BB = C 2 C T C 2 C T = C 2 2 C T = CC T = A:

Problem 164 We have for the matrix A below the representation A = CC T

given by:

" p1 # " p1 #

5 2 2

p12 3 0 2

p1

2

A= = p1 p1

:

2 5 2 2

0 7 p12 p12

CHAPTER 3. MATRIX ALGEBRA 130

Answer

We have:

" # p " p1 #

p1 p123 p0 p1

B = 2 2 2

p1

p1 0 7 p1 p1

22 2 2

1p 1

p 1

p 1

p

2p3 + 2p 7 2p 3 2p 7

= 1 1 1 1 :

2 3 2 7 2 3+ 2 7

1p 1

p 1

p 1

p 1

p p p p

2 p 3 + 2 p 7 2 p3 2 p7 2 p3 + 12 p7 1

2 p3 12 p7

BB = 1 1 1 1 1

3 7 3 + 2 7 2 3 12 7 1

2 3 + 12 7

2 2

2

5 2

= :

2 5

Problem 165 Suppose that A is positive semi-denite or A 0: Consider the

problem of calculating the square root of A but now we nd a matrix B such

that A = BB T : Show that such a matrix B exists.

Answer

Since A is symmetric we can write A as:

A = CC T

A along the diagonal or:

2 3

1 0 0

6 0 2 0 7

6 7

=6 . .. .. .. 7:

4 .. . . . 5

0 0 0 n

and where i 0 since A is positive semi-denite. Since i 0 we can take the

positive square root of each of the eigenvalues. Therefore dene B by:

1

B = C 2

1

from which it follows that B T = 2 C T : It follows then that:

1 1

BB T = C 2 2 C T = CC T = A:

given by:

" p1 # " p1 #

5 2 2

p12 3 0 2

p1

2

A= = p1 p1

:

2 5 2 2

0 7 p12 p12

CHAPTER 3. MATRIX ALGEBRA 131

Answer

We have:

" # p

p1 p12 3 p0

B = 2

p1 p1 0 7

2 2

" p p #

p3 p72

= p2 p :

p3 p7

2 2

We have:

" p p #" p p #T

p3 p72 p3 p72

T p2 p2

BB = p p

p3 p7 p3 p7

2 2 2 2

5 2

= :

2 5

a = 5 and b = 3 then ab = 2 0 =) 13 15 0: Now consider generalizing this

to matrices (this turns out to be important for econometrics). Thus suppose that

A and B are positive denite if and only if B 1 A1 is positive semi-denite.

Hint: prove that A B is positive semi-denite if and only if: det [A B] =

0 =) 1:

Answer

Since B is positive denite we can write it as B = DDT : We then have:

det [A B] = det [A B ( 1) B]

= det A B ( 1) DDT

h 1 i

= det D D1 (A B) DT ( 1) I DT

h T i

= det [D] det D1 (A B) D1 ( 1) I det DT

h T i

= det DDT det D1 (A B) D1 ( 1) I

h T i

= det [B] det D1 (A B) D1 ( 1) I

of the matrix

T

E = D1 (A B) D1 :

T

E = D1 (A B) D1 is positive semi-denite since E has the form: CC T

CHAPTER 3. MATRIX ALGEBRA 132

values of E are non-negative so that det [A B] = 0 implies that: 1 0

or 1:

Now suppose that det [A B] = 0 implies that: 1: It follows that E is

positive semi-denite. Therefore:

T

xT (A B) x = xT DD1 (A B) D1 DT x

= yT Ey 0

We then have:

det [A B] = det A B 1 A1 B

= det [A] det B 1 A1 det [B]

so that det [A B] = 0 , det B 1 A1 = 0: Therefore

, det B 1 A1 =) 1

, B 1 A1 is positive semi-denite.

Chapter 4

Multivariate Calculus

Problem 168 Consider the function:

Calculate

@f (x1 ; x2 ) @f (x1 ; x2 )

; ;

@x1 @x2

@ 2 f (x1 ; x2 ) @ 2 f (x1 ; x2 ) @ 2 f (x1 ; x2 ) @ 2 f (x1 ; x2 )

; ; and :

@x21 @x1 @x2 @x2 @x1 @x22

Find the Hessian and use this to determine if f (x1 ; x2 ) is concave or convex.

Find the x1 and x2 which solve the rst-order conditions using Cramers rule

and decide if this is a global minimum or maximum.

Answer

We have for 3x21 6x1 x2 + 5x22 4x1 2x2 + 8 that:

133

CHAPTER 4. MULTIVARIATE CALCULUS 134

@f (x1 ; x2 )

= 6x1 6x2 4

@x1

@f (x1 ; x2 )

= 6x1 + 10x2 2

@x2

@ 2 f (x1 ; x2 ) @

= (6x1 6x2 4) = 6

@x21 @x1

2

@ f (x1 ; x2 ) @

= (6x1 + 10x2 2) = 10

@x22 @x2

2

@ f (x1 ; x2 ) @ 2 f (x1 ; x2 ) @

= = (6x1 6x2 4) = 6

@x2 @x1 @x1 @x2 @x2

@

= (6x1 + 10x2 2) = 6 ( i.e., Youngs theorem).

@x1

Therefore the Hessian is given by:

6 6

H (x1 ; x2 ) = :

6 10

Since:

M1 = det [6] = 6 > 0

6 6

M1 = det = 24 > 0

6 10

it follows that H (x) is positive denite for all x and hence f (x1 ; x2 ) is globally

convex. This is illustrated in the plot below:

1600

1400

1200

1000

800

600

400

200

0

-5

0

5

-5

10 0

5

15 15 10

:

f (x1 ; x2 ) = 3x21 6x1 x2 + 5x22 4x1 2x2 + 8

The rst-order conditions then are:

@f (x1 ; x2 )

= 6x1 6x2 4 = 0

@x1

@f (x1 ; x2 )

= 6x1 + 10x2 2 = 0

@x2

CHAPTER 4. MULTIVARIATE CALCULUS 135

6 6 x1 4

= :

6 10 x2 2

Using Cramers rule we nd that:

4 6 6 4

det det

2 10 13 6 2 3

x1 = = ; x2 = = :

6 6 6 6 6 2

det det

6 10 6 10

Since f (x1 ; x2 ) is globally convex, it follows that x = 13 3

6 ; 2 is a global mini-

mum.

Problem 169 Given the function:

f (x1 ; x2 ) = 2 ln (x1 ) + 3 ln (x2 ) + ln (1 x1 x2 )

Answer

The rst order conditions are:

@f (x1 ; x2 ) 2 1

= =0

@x1 x1 1 x1 x2

@f (x1 ; x2 ) 3 1

= = 0:

@x2 x2 1 x1 x2

These can be rewritten as:

2 (1 x1 x2 ) = x1

3 (1 x1 x2 ) = x2

or:

3x1 + 2x2 = 2

3x1 + 4x2 = 3

so that in matrix notation:

3 2 x1 2

= :

3 4 x2 3

Using Cramers rule we nd that:

2 2 3 2

det det

3 4 1 3 3 1

x1 = = ; x2 = = :

3 2 3 3 2 2

det det

3 4 3 4

CHAPTER 4. MULTIVARIATE CALCULUS 136

@ 2 f (x1 ; x2 ) @ 2 1

=

@x21 @x1 x1 1 x1 x2

2 1

= 2 ;

x1 (1 x1 x2 )2

@ 2 f (x1 ; x2 ) @ 3 1

=

@x22 @x2 x2 1 x1 x2

3 1

= 2

x2 (1 x1 x2 )2

@ 2 f (x1 ; x2 ) @ 2 1

=

@x1 @x2 @x2 x1 1 x1 x2

1

=

(1 x1 x2 )2

as:

" #

x22 (1x 1x )2 (1x 1x )2

H (x1 ; x2 ) = 1 1 2 1 2

:

(1x 1x )2 x2 (1x 1x

3

2

1 2 2 1 2)

To see that this is negative denite for all (x1 ; x2 ) we calculate the leading

principle minors and show that M1 < 0 and M2 > 0 as:

" #

2 1 2 1

M1 = det 2 2 = 2 <0

x1 (1 x1 x2 ) x1 (1 x1 x2 )2

" #

x22 (1x 1x )2 (1x 1x )2

M2 = det 1 1 2 1 2

(1x 1x )2 x32 (1x 1x )2

1 2 1 2

! 2 !

2 1 3 1

= 2 2

x1 (1 x1 x2 )2 x2 (1 x1 x2 )2

!2

1

(1 x1 x2 )2

6 2 1 3 1

= + + > 0:

x21 x22 x21 (1 x1 x2 )2 x22 (1 x1 x2 )2

Note. It is not clear that the second line of M2 is positive. The key part of the

derivation which shows that M2 > 0 is to show that the negative term

!2

1

(1 x1 x2 )2

CHAPTER 4. MULTIVARIATE CALCULUS 137

(see the graph below) and so x1 = 13 ; x2 = 12 is a global maximum.

-6.3

-6.4

-6.5

-6.6

-6.7

-6.8

-6.9

0.46 0.3

0.48 0.32

0.5 0.34

0.52 0.36

0.54 0.38

0.4

f (x1 ; x2 )

The following 3 problems are based on the function:

1=4 1=2

f (x1 ; x2 ) = x1 x2 3x1 2x2 ;

where x1 > 0 and x2 > 0:

Problem 170 Calculate the gradient of f (x1 ; x2 ) and from this nd the rst

order conditions for a minimum or maximum. Using the ln ( ) function, convert

the rst-order conditions into a system of two equations with unknowns y1 =

ln (x1 ) and y2 = ln (x2 ) : Solve this system of equations using Cramers rule and

calculate x1 and x2 :

Answer

We have:

@f (x1 ; x2 ) 1 3=4 1=2

= x x2 3

@x1 4 1

@f (x1 ; x2 ) 1 1=4 1=2

= x x 2

@x2 2 1 2

so that the rst-order conditions are:

@f (x1 ; x2 ) 1 3=4 1=2

= (x ) (x2 ) 3 = 0

@x1 4 1

@f (x1 ; x2 ) 1 1=4 1=2

= (x ) (x2 ) 2=0

@x2 2 1

so that:

3=4 3 1

(x1 ) (x2 )1=2 = 12 =) ln (x1 ) + ln (x2 ) = ln (12)

4 2

1=4 1 1

(x1 ) (x2 )1=2 = 4 =) ln (x1 ) ln (x2 ) = ln (4)

4 2

CHAPTER 4. MULTIVARIATE CALCULUS 138

so that:

3 1

y1 + y = ln (12)

4 2 2

1 1

y y = ln (4)

4 1 2 2

or in matrix notation:

34 1

2 y1 ln (12)

1 1 =

4 2 y2 ln (4)

Since

34 1

2

1

det [A] = det 1 1 = 6= 0:

4 2 4

it follows that exactly one solution to these equations exists and that A1 exists.

Using Cramers rule we nd that:

1

ln (12) 2

det

ln (4) 12

ln (x1 ) = y1 = 3 1

= 2 ln (12) 2 ln (4) ;

4 2

det 1

12

34

4 ln (12)

det 1

ln (4)

ln (x2 ) = y2 = 43 1

= 3 ln (4) ln (12) :

4 2

det 1

4 12

1 1

Thus x1 = ey1 = e2 ln(12)2 ln(4) = 2304 and x2 = ey2 = e3 ln(4)ln(12) = 768 :

The function is plotted below:

0

-0.005

-0.01

-0.015

-0.02

-0.025

-0.03

0 0

0.002 0.002

0.004 0.004

0.006 0.006

0.008 0.008

0.01 0.01

:

1=4 1=2

f (x1 ; x2 ) = x1 x2 3x1 2x2

Problem 171 Calculate the Hessian. Solve for the numerical value of the

eigenvalues of the Hessian, and use this to show that x is a local maximum.

Now show that the Hessian is negative denite for all x using determinants and

use this to show that f (x) is globally concave and that x is a global maximum.

CHAPTER 4. MULTIVARIATE CALCULUS 139

Answer

1=4 1=2

To nd the Hessian we need to calculate second derivatives of x1 x2

3x1 2x2 as:

@ 2 f (x1 ; x2 ) 3 7=4 1=2

= x x2

@x21 16 1

@ 2 f (x1 ; x2 ) 1 1=4 3=2

= x1 x2

@x22 4

2

@ f (x1 ; x2 ) 1 3=4 1=2

= x x2

@x1 @x2 8 1

so that the Hessian is given by:

" #

3 7=4 1=2 1 3=4 1=2

16 x1 x2 8 x1 x2

H (x1 ; x2 ) = 1 3=4 1=2 1=4 3=2 :

x

8 1 x2 14 x1 x2

1 1

Thus substituting x1 = 2304 and x2 = 768 into H (x1 ; x2 ) we nd that:

1 1

H (x1 ; x2 ) = H ; =

2304 768

" 1 7=4 1 1=2 1 1 3=4 1 1=2 #

3

16

= 1

12304

3=4 1768

1=2 8 1 2304

1 1=4 768

1 5=2

8 2304 768 4 2304 768

5184 1152

=

1152 58982

which has eigenvalues of 1 = 5159:3 < 0 and 2 = 59007 < 0 found by

calculating the roots of:

2 + 64166 + 304435 = 0

1 1

so that H (x1 ; x2 ) is negative denite and hence 2304 ; 768 is a local maximum.

We can in fact prove that H (x1 ; x2 ) is negative denite for all x using

determinants since if

" #

3 7=4 1=2 1 3=4 3=2

16 x1 x2 x

8 1 x 2

H (x1 ; x2 ) = 1 3=4 3=2 1=4 3=2

8 x1 x2 14 x1 x2

then:

3 7=4 1=2 3 7=4 1=2

M1 = det x1 x2 = x1 x2 < 0

16 16

" #

3 7=4 1=2 1 3=4 1=2

16 x1 x2 x

8 1 x2

M2 = det 1 3=4 1=2 1=4 3=2

8 x1 x2 14 x1 x2

3 3=2 1 1 3=2

= x1 x2 x1 x1 2

64 64

2 3=2 1

= x x2 > 0

64 1

CHAPTER 4. MULTIVARIATE CALCULUS 140

1 1

so that f (x1 ; x2 ) is globally concave so that 2304 ; 768 is a global maximum.

This is illustrated in the plot of f (x1 ; x2 ) below:

0.001

0

-0.001

-0.002

-0.003

-0.004

-0.005

-0.006

0 0

0.0005 0.0005

0.001 0.001

0.0015 0.0015

0.002 0.002

:

1=4 1=2

f (x1 ; x2 ) = x1 x2 3x1 2x2

Problem 172 Consider the function:

1 1

f (x1 ; x2 ) = exp ln (x1 ) + ln (x2 ) 3eln(x1 ) 2eln(x2 ) :

4 2

@f (x1 ;x2 )

Simplify the function so there are no exp0 s or ln0 s: Calculate @x1 and

@f (x1 ;x2 )

@x2 and write down the rst-order conditions for a minimum or maximum.

Using the ln ( ) function convert the rst-order conditions into a system of two

equations with unknowns w1 = ln (x1 ) and w2 = ln (x2 ) : Solve this system of

equations using Cramers rule and calculate x1 and x2 :

Answer

Simplifying we have:

1 1

f (x1 ; x2 ) = exp ln (x1 ) + ln (x2 ) 3eln(x1 ) 2eln(x2 )

4 2

1 1

= exp ln (x1 ) exp ln (x2 ) 3x1 2x2

4 2

1 1

= exp ln x14 exp ln x22 3x1 2x2

1 1

= x14 x23 3x1 2x2

which is the identical function considered in the previous two questions and so

there is no need to repeat the work we did there.

f (x1 ; x2 ) = 5x21 6x1 x2 + 4x22 2x1 3x2 :

CHAPTER 4. MULTIVARIATE CALCULUS 141

Problem 173 Write this function using matrix notation as f (x) = aT x+xT Ax

where x and a are 2 1 vectors and A is a symmetric 2 2 matrix. Calculate

@f (x1 ;x2 )

@x1 and @f (x1 ;x2 )

@x2 and write down the rst-order conditions. Solve the rst-

order conditions using Cramers rule to nd x1 and x2 :

Answer

We can write f (x) as:

x1 5 3 x1

f (x) = 2 3 + x1 x2 :

x2 3 4 x2

Now:

@f (x1 ; x2 )

= 10x1 6x2 2

@x1

@f (x1 ; x2 )

= 6x1 + 8x2 3:

@x2

The rst-order conditions then are:

@f (x1 ; x2 )

= 10x1 6x2 2 = 0

@x1

@f (x1 ; x2 )

= 6x1 + 8x2 3 = 0

@x2

so that in matrix notation:

10 6 x1 2

=

6 8 x2 3

so that:

2 6 10 2

det det

3 8 17 6 3 21

x1 = = ; x2 = = :

10 6 22 10 6 22

det det

6 8 6 8

Problem 174 Calculate the Hessian of f (x1 ; x2 ). Show that H (x1 ; x2 ) is al-

ways positive denite using determinants and using eigenvalues. Show that

f (x1 ; x2 ) is globally convex. Show that the solution to the rst-order conditions

x1 ; x2 is a global minimum.

CHAPTER 4. MULTIVARIATE CALCULUS 142

Answer

@ 2 f (x1 ; x2 ) @

= (10x1 6x2 2) = 10

@x21 @x1

2

@ f (x1 ; x2 ) @

= (6x1 + 8x2 3) = 8

@x22 @x2

@ 2 f (x1 ; x2 ) @ 2 f (x1 ; x2 ) @

= = (10x1 6x2 2) = 6

@x2 @x1 @x1 @x2 @x2

@

= (6x1 + 8x2 3) = 6 ( i.e., Youngs theorem).

@x1

Therefore the Hessian is given by:

10 6

H (x1 ; x2 ) = :

6 8

Since:

M1 = det [10] = 10 > 0

10 6

M1 = det = 44 > 0

6 8

it follows that H (x) is positive denite for all x and hence f (x1 ; x2 ) is globally

convex. This is illustrated in the plot below:

3000

2500

2000

1500

1000

500

0

-15

-10

-5

0

5 -10 -15

10 0 -5

10 5

15 15

Since f (x1 ; x2 ) is globally convex, it follows that x = 17 21

22 ; 22 is a global

minimum.

Problem 175 Consider the following function:

f (x1 ; x2 ) = 3x1 + 2x2 + 4x21 + 6x22 + 4x1 x2 :

Using the appropriate rst order conditions nd any local maxima or minima.

From the appropriate second order conditions determine whether the solutions

are local maxima or minima. Determine whether any of the function is convex

or concave.

CHAPTER 4. MULTIVARIATE CALCULUS 143

Answer

We have

@f (x1 ; x2 )

= 3 + 8x1 + 4x2

@x1

@f (x1 ; x2 )

= 2 + 4x1 + 12x2

@x2

2

@ f (x1 ; x2 ) @

= (3 + 8x1 + 4x2 ) = 8

@x21 @x1

@ 2 f (x1 ; x2 ) @

= (3 + 4x1 + 12x2 ) = 12

@x22 @x2

@ 2 f (x1 ; x2 ) @ 2 f (x1 ; x2 ) @

= = (3 + 8x1 + 4x2 ) = 4

@x2 @x1 @x1 @x2 @x2

@

= (3 + 4x1 + 12x2 ) = 4 ( i.e., Youngs theorem).

@x1

Therefore the Hessian is given by:

8 4

H (x1 ; x2 ) = :

4 12

Since:

8 4

M1 = det = 80 > 0

4 12

it follows that H (x) is positive denite for all x and hence f (x1 ; x2 ) is globally

convex. This is illustrated in the plot below:

18

16

14

12

10

8

6

4

2

0

-1

-0.5

0

0.5 -1

-0.5

0

1 1 0.5

:

f (x1 ; x2 ) = 3x1 + 2x2 + 4x21 + 6x22 + 4x1 x2

CHAPTER 4. MULTIVARIATE CALCULUS 144

@f (x1 ; x2 )

= 3 + 8x1 + 4x2 = 0

@x1

@f (x1 ; x2 )

= 2 + 4x1 + 12x2 = 0

@x2

so that in matrix notation:

8 4 x1 3

=

4 12 x2 2

so that:

3 4 8 3

det det

2 12 7 4 2 1

x1 = = ; x2 = = :

8 4 20 8 4 20

det det

4 12 4 12

7 1

Since f (x1 ; x2 ) is globally convex, it follows that x1 = 20 ; x2 = 20 is a

global minimum.

6 5=6 1=6 1

f (x1 ; x2 ) = ln x1 x2 ln (x1 ) 5x1 4x2 :

5 5

Using the appropriate rst order conditions nd any local maxima or minima.

From the appropriate second order conditions determine whether the solutions

are local maxima or minima. Determine whether any of the function is convex

or concave.

Answer

First simplifying we have:

6 5=6 1=6 1

f (x1 ; x2 ) = ln x1 x2 ln (x1 ) 5x1 4x2

5 5

6 1

5=6 1=6

= ln x1 + ln x2 ln (x1 ) 5x1 4x2

5 5

6 5 1 1

= ln (x1 ) + ln (x2 ) ln (x1 ) 5x1 4x2

5 6 6 5

1 1

= ln (x1 ) ln (x1 ) + ln (x2 ) 5x1 4x2

5 5

4 1

= ln (x1 ) + ln (x2 ) 5x1 4x2 :

5 5

CHAPTER 4. MULTIVARIATE CALCULUS 145

Thus:

@f (x1 ; x2 ) 4 1

= 5

@x1 5 x1

@f (x1 ; x2 ) 1 1

= 4

@x2 5 x2

@ 2 f (x1 ; x2 ) @ 4 1 4 1

= 5 = 2

@x21 @x1 5 x1 5 x1

2

@ f (x1 ; x2 ) @ 1 1 1 1

= 4 = 2

@x22 @x2 5 x2 5 x2

2

@ f (x1 ; x2 ) @ 2 f (x1 ; x2 ) @ 4 1

= = 5 =0

@x2 @x1 @x1 @x2 @x2 5 x1

@ 1 1

= 4 = 0 ( i.e., Youngs theorem).

@x1 5 x2

@f (x1 ; x2 ) 4 1 4

= 5 = 0 =) x1 =

@x1 5 x1 25

@f (x1 ; x2 ) 1 1 1

= 4 = 0 =) x2 =

@x2 5 x2 20

" #

45 x12 0

H (x1 ; x2 ) = 1

0 15 x12

2

4 1

concave so that x1 = 25 ; x2 = 20 is a global maximum. This is illustrated in

the graph below:

-3.2

-3.4

-3.6

-3.8

-4

-4.2

0.02 0.02

0.04

0.04 0.06

0.08

0.06 0.1

0.12

0.08 0.14

0.16

0.18

0.1 0.2

4 1

f (x1 ; x2 ) = 5 ln (x1 ) + 5 ln (x2 ) 5x1 4x2

CHAPTER 4. MULTIVARIATE CALCULUS 146

cave or convex and whether the solution to the rst-order conditions is a global

or local maximum or minimum.

Answer

We have

@f (x1 ; x2 )

= 3x2 6x1 2

@x1

@f (x1 ; x2 )

= 3x1 10x2 3

@x2

@ 2 f (x1 ; x2 ) @

= (3x2 6x1 2) = 6

@x21 @x1

2

@ f (x1 ; x2 ) @

= (3x1 10x2 3) = 10

@x22 @x2

2

@ f (x1 ; x2 ) @ 2 f (x1 ; x2 ) @

= = (3x2 6x1 2) = 3

@x2 @x1 @x1 @x2 @x2

@

= (3x1 10x2 3) = 3 ( i.e., Youngs theorem).

@x1

Therefore the Hessian is given by:

6 3

H (x1 ; x2 ) = :

3 10

Since:

6 3

M1 = det = 51 > 0

3 10

CHAPTER 4. MULTIVARIATE CALCULUS 147

it follows that H (x) is negative denite for all x and hence f (x1 ; x2 ) is globally

concave This is illustrated in the plot below:

8

6

4

2

0

-2

-4

-1

-0.5

0

0.5 -1

-0.5

0

1 1 0.5

:

f (x1 ; x2 ) = 3x1 x2 3x21 5x22 2x1 3x2 + 7

@f (x1 ; x2 )

= 3x2 6x1 2 = 0

@x1

@f (x1 ; x2 )

= 3x1 10x2 3 = 0

@x2

so that in matrix notation:

6 3 x1 2

=

3 10 x2 3

so that:

2 3 6 2

det det

3 10 29 3 3 8

x1 = = ; x2 = = :

6 3 51 6 3 17

det det

3 10 3 10

Since f (x1 ; x2 ) is globally concave it follows that x = 29 8

51 ; 17 is a global

maximum.

6

3 ln(x1 ) 5 ln(x2 ) 0 ln(x1 )

f (x1 ; x2 ) = ln e e e e x2 :

cave or convex and whether the solution to the rst-order conditions is a global

or local maximum or minimum.

CHAPTER 4. MULTIVARIATE CALCULUS 148

Answer

Simplifying we have:

6

f (x1 ; x2 ) = ln e3 ln(x1 ) e5 ln(x2 ) e0 eln(x1 ) x2

6

= ln e3 ln(x1 ) e5 ln(x2 ) + ln (1 x1 x2 )

= 3 ln (x1 ) + 5 ln (x2 ) + 6 ln (1 x1 x2 ) :

@f (x1 ; x2 ) 3 6

= =0

@x1 x1 1 x1 x2

@f (x1 ; x2 ) 5 6

= = 0:

@x2 x2 1 x1 x2

3 (1 x1 x2 ) = 6x1

5 (1 x1 x2 ) = 6x2

or:

9x1 + 3x2 = 3

3x1 + 11x2 = 5

so that:

9 3 x1 3

=

3 11 x2 5

so that:

3 3 9 3

det det

5 11 1 3 5 2

x1 = = ; x2 = = :

9 3 5 9 3 5

det det

3 11 3 11

The Hessian is

" #

x32 (1x 6x )2 (1x 6x )2

1 1 2 1 2

(1x 6x )2 x52 (1x 6x 2

1 2 2 1 2)

CHAPTER 4. MULTIVARIATE CALCULUS 149

so that:

" #

3 6 3 6

M1 = det 2 2 = 2 <0

x1 (1 x1 x2 ) x1 (1 x1 x2 )2

" #

x32 (1x 6x )2 (1x 6x )2

M2 = det 1 1 2 1 2

(1x 6x )2 x52 (1x 6x )2

1 2 2 1 2

! !

3 6 5 6

= 2 2

x1 (1 x1 x2 )2 x2 (1 x1 x2 )2

!2

6

(1 x1 x2 )2

15 18 1 30 1

= + + > 0:

x21 x22 x21 (1 x1 x2 )2 x22 (1 x1 x2 )2

The key part of the derivation is that the negative term

!2

6

(1 x1 x2 )2

drops out in the simplication.

Therefore H is negative denite for all x so that f (x1 ; x2 ) is globally concave

and so x1 = 13 ; x2 = 12 is a global maximum. See the graph of f (x1 ; x2 ) below:

-15.5

-16

-16.5

-17

-17.5

-18

-18.5

0.36 0.1

0.38 0.15

0.4 0.2

0.42 0.25

0.44 0.3

f (x1 ; x2 )

The next 2 problems are based on the following information: Suppose

that a perfectly competitive rm faces a price P; a nominal wage W; a nominal

rental cost of capital R; and dene the real wage as w = WP and the real rental

R

cost of capital as r = P : The rms production function is given by:

1 1

Q = F (L; K) = L + K + L 2 K 4

CHAPTER 4. MULTIVARIATE CALCULUS 150

Problem 179 Show that the marginal products of labour and capital are pos-

itive and that the assumption of a diminishing marginal product of labour and

capital is satised. Show that an increase in labour increases the marginal prod-

uct of capital. Show that this production function is concave.

Answer

We have:

@F (L; K) 1 1 1 1 1

MPL (L; K) = =1+ L 2 K 4 > 0 since L 2 > 0; K 4 > 0

@L 2

@F (L; K) 1 1 3 1 3

MPK (L; K) = =1+ L 2 K 4 > 0 since L 2 > 0; K 4 > 0:

@K 4

@MPL (L;K)

Also there is a diminishing marginal product of labour and capital since: @L =

2 2

@ F (L;K) @MPK (L;K) @ F (L;K)

@L2 < 0 and @K = @K 2 < 0 since:

@M PL (L; K) @ 2 F (L; K) 1 3 1 3 1

= 2

= L 2 K 4 < 0 since L 2 > 0; K 4 > 0

@L @L 4

@MPK (L; K) @ 2 F (L; K) 3 1 7 1 7

= = L 2 K 4 < 0 since L 2 > 0; K 4 > 0:

@K @K 2 16

To show F (L; K) we need to calculate the Hessian. Since the diagonal

2 2

elements: @ F@L

(L;K)

2 and @ F@K(L;K)

2 have already been calculated we just need the

o-diagonal element:

@ 2 F (L; K) 1 1 3

= L 2 K 4 > 0:

@L@K 8

2

(Since @MP@K

L (L;K)

= @ @L@K

F (L;K)

> 0, and increase in capital increases the marginal

product of labour.) The Hessian is:

1 3 1 1 12 3

4L 2 K 4 8 L K 4

H (L; K) = 1 1 3 3 1 7 :

8L

2K 4 16 L 2 K 4

We need to show that H is negative denite for all L and K: Using principle

minors we nd that:

1 3 1

M1 = L 2 K 4 < 0

4

2

1 3 1 3 1

7 1 1

3

M2 = L 2K4 L2 K 4 L 2K 4

4 16 8

3 2 6 1 2 6

= L 2 K 4 L 2 K 4

64 64

3 2 6

= L 2K 4 > 0

64

1 1

so that H is negative denite and hence F (L; K) = L + K + L 2 K 4 is globally

concave.

CHAPTER 4. MULTIVARIATE CALCULUS 151

Problem 180 Find the rst order conditions for prot maximization. Show

that these require that: w > 1 and r > 1: Using the ln ( ) function, convert the

rst order conditions into a set of linear equations involving l = ln (L) and

k = ln (K ) and solve these equations using Cramers rule. Show that @l

@w < 0:

Will the second order conditions for prot maximization be satised?

Answer

The prot function is:

1 1

(L; K) = P L + K + L 2 K 4 W L RK

@ (L ; K ) 1 1 1

= 0 = P 1 + (L ) 2 (K ) 4 W

@L 2

1 12 1

=) w 1 = (L ) (K ) 4 > 0 (=) w > 1)

2

1 1

=) ln (2 (w 1)) = ln (L ) + ln (K )

2 4

@ (L ; K ) 1 1 3

= 0 = P 1 + (L ) 2 (K ) 4 R

@K 4

1 12 3

=) r 1 = (L ) (K ) 4 > 0 (=) r > 1)

4

1 3

=) ln (4 (r 1)) = ln (L ) ln (K ) :

2 4

Thus in matrix notation we have:

1 1

2 4 l ln (2 (w 1))

1 =

4 34 k ln (4 (r 1))

ln (2 (w 1)) 14

det

ln (4 (r 1)) 34 12 4

l = 1 1

= ln (2 (w 1)) ln (4 (r 1)) ;

2 4

5 5

det 1 3

1 4 4

2 ln (2 (w 1))

det 1

4 ln (4 (r 1)) 8 4

k = = ln (4 (r 1)) ln (2 (w 1)) :

12 1

4

5 5

det 1

4 34

@l 12

= <0

@w 5 (w 1)

CHAPTER 4. MULTIVARIATE CALCULUS 152

since w > 1:

The next 2 problems are based on the following information: Sup-

pose that a perfectly competitive has a production function given by:

2 1

Q = L5 K 5

where L is labour, K is capital and Q is output. The price of Q is P; the nominal

wage is W and the rental cost of capital is R: Prots are

2 1

(L; K) = P L 5 K 5 W L RK:

Problem 181 Calculate the marginal product of labour and capital. Prove there

is a positive and diminishing marginal product of labour and a positive and

diminishing marginal product of capital. Prove that the production function is

concave.

Answer

We have

@F (L; K) 2 3 1

MPL (L; K) = = L 5K5 > 0

@L 5

@F (L; K) 1 2 4

M PK (L; K) = = L5 K 5 > 0

@K 5

We have diminishing marginal products since:

@MPL (L; K) @ 2 F (L; K) 6 8 1

= = L 5 K 5 < 0

@L @L2 25

@M PK (L; K) @ 2 F (L; K) 4 2 9

= = L 5 K 5 < 0:

@K @K 2 25

To show F (L; K) is concave we need to calculate the Hessian. Since the

2 2

diagonal elements: @ F@L

(L;K)

2 and @ F@K(L;K)

2 have already been calculated we just

need the o-diagonal element:

@ 2 F (L; K) 2 3 4

= L 5 K 5 > 0:

@L@K 25

2

(Since @MP@K

L (L;K)

= @ @L@K

F (L;K)

> 0, an increase in capital increases the marginal

product of labour.) The Hessian is:

6 85 1 2 35 4

25 L K 5 25 L K 5

H (L; K) = 2 35 4 4 2 9 :

25 L K 5 25 L 5 K 5

Using principle minors we nd that:

6 8 1

M1 = L 5 K 5 < 0

25

2

6 8 1 4 2 9 2 3 4

M2 = L 5 K 5 L 5 K 5 L 5K 5

25 25 25

4 6 8

= L 5K 5 > 0

125

CHAPTER 4. MULTIVARIATE CALCULUS 153

Problem 182 Find the rst-order conditions for prot maximization letting

L and K denote the prot maximizing amount of labour and capital. Letting

l = ln (L ) and k = ln (K ) ; transform the rst-order conditions to obtain

two linear equations. Write these linear equations in matrix form, solve for l

using Cramers rule and show that:

@l

< 0:

@w

Answer

The rst-order conditions are:

@ (L ; K ) 2 2 1

= 0 = P (L ) 5 1 (K ) 5 W = 0

@L 5

5

3 1 5

=) (L ) (K ) 5 = w

2

3 1 5

=) ln (L ) + ln (K ) = ln

w

5 5 2

3 1 5

=) l + k = ln w

5 5 2

@ (L ; K ) 1 2 4

= 0 = P (L ) 5 (K ) 5 R = 0

@K 5

25 4

=) (L ) (K ) 5 = 5r

2 4

=) ln (L ) + ln (K ) = ln (5r)

5 5

2 4

=) l + k = ln (5r) :

5 5

Thus in matrix notation we have:

3 1

5

5 5 l ln 2 w

2 =

5 45 k ln (5r)

CHAPTER 4. MULTIVARIATE CALCULUS 154

ln 52 w 1

5

det

ln (5r) 45

ln (L ) = l = 3 1

5 5

det 2

5 45

45 ln 52 w 15 ln (5r)

= 2

5 3

5 ln 52 w

det 2

ln (5r)

ln (K ) = k = 5 3 1

5 5

det 2

45

5

35 ln (5r) 25 ln 52 w

= 2 :

5

or:

4 2 1

L = el = w r 2

125

2 1 3

K = ek = w r 2:

125

Using the chain rule we have:

@L 4 3 1

= 2 w r 2 < 0:

@w 125

The next 2 problems are based on the following information: Sup-

pose that a perfectly competitive has a production function given by:

Q = L K

where L is labour, K is capital and Q is output. The price of Q is P; the nominal

wage is W and the rental cost of capital is R: Prots are

= P Q W L RK:

Problem 183 Calculate the marginal product of labour and capital. Under

what conditions will the marginal products of labour and capital be positive?

Prove that a positive and diminishing marginal product of labour and a positive

and diminishing marginal product of capital requires 0 < < 1 and 0 < < 1.

Prove that in order for the production function to be concave it must be that:

+ < 1:

Answer

We have

@F (L; K)

M PL (L; K) = = L1 K > 0 =) > 0 since L1 > 0 and K > 0

@L

@F (L; K)

MPK (L; K) = = L K 1 > 0 =) > 0 since L > 0 and K 1 > 0

@K

CHAPTER 4. MULTIVARIATE CALCULUS 155

Diminishing marginal products in turn imply that: @L = @L2 <0

@MPK (L;K) @ 2 F (L;K)

and @K = @K 2 < 0 so that:

@M PL (L; K) @ 2 F (L; K)

= = ( 1) L2 K < 0

@L @L2

=) < 1 since > 0; L2 > 0 and K > 0

@M PK (L; K) @ 2 F (L; K)

= = ( 1) L K 2 < 0

@K @K 2

=) < 1 since > 0; L > 0 and K 2 > 0:

2 2

diagonal elements: @ F@L

(L;K)

2 and @ F@K

(L;K)

2 have already been calculated we just

need the o-diagonal element:

@ 2 F (L; K)

= L1 K 1 > 0:

@L@K

2

(Since @MP@K

L (L;K)

= @ @L@K

F (L;K)

> 0, an increase in capital increases the marginal

product of labour.) The Hessian is:

( 1) L2 K L1 K 1

H (L; K) = :

L1 K 1 ( 1) L K 2

We need to show that if + < 1 then H is negative denite for all L and K:

Using principle minors we nd that:

2

M2 = ( 1) L2 K ( 1) L K 2 L1 K 1

= ( 1) ( 1) L22 K 22 ()2 L22 K 22

= L22 K 22 ( 1) ( 1) ()2

= L22 K 22 (( 1) ( 1) )

= L22 K 22 (1 ( + )) > 0:

| {z }

+ since +<1

Problem 184 Find the rst-order conditions for prot maximization letting

L and K denote the prot maximizing amount of labour and capital. Letting

l = ln (L ) and k = ln (K ) ; transform the rst-order conditions to obtain

two linear equations. Write these linear equations in matrix form, solve for l

using Cramers rule and show that:

@l

< 0:

@w

CHAPTER 4. MULTIVARIATE CALCULUS 156

Answer

The prot function is:

(L; K) = P L K W L RK

@ (L ; K )

= 0 = P (L )1 (K ) W = 0

@L

W w

=) (L )1 (K ) = =

P w

=) ( 1) ln (L ) + ln (K ) = ln

w

=) ( 1) l + k = ln

@ (L ; K )

= 0 = P (L ) (K )1 R = 0

@K

R r

=) (L ) (K )1 = =

P

r

=) ln (L ) + ( 1) ln (K ) = ln

r

=) l + ( 1) k = ln :

Thus in matrix notation we have:

" ln w #

( 1) l

=

( 1) k ln r

" #

ln w

det r

ln ( 1)

ln (L ) = l =

( 1)

det

( 1)

( 1) ln w ln r

=

1

" #

( 1) ln w

det

ln r

ln (K ) = k =

( 1)

det

( 1)

( 1) ln r ln w

= :

1

CHAPTER 4. MULTIVARIATE CALCULUS 157

or:

(1)

w 1

l r 1

L = e =

1

(1)

k w 1 r

K = e = :

Using the chain rule we have:

@l ( 1) 1

= < 0 since 0 < < 1 and + < 1:

@w 1 w

Problem 185 Suppose the rms production function is given by:

p

Q = F (L; K) = L + K + 2 LK

and capital is positive and that the marginal product of labour and capital is

diminishing. Show that an increase in labour increases the marginal product of

capital. Is this production function concave?

Answer

We have:

@F (L; K) 1 1 1 1

MPL (L; K) = = 1 + L 2 K 2 > 0 since L 2 > 0; K 2 > 0

@L

@F (L; K) 1 1 1 1

M PK (L; K) = = 1 + L 2 K 2 > 0 since L 2 > 0; K 2 > 0:

@K

Also there is a diminishing marginal product of labour and capital since: since:

@MPL (L; K) @ 2 F (L; K) 1 3 1 3 1

= 2

= L 2 K 2 < 0 since L 2 > 0; K 2 > 0

@L @L 2

@M PK (L; K) @ 2 F (L; K) 1 1 3 1 3

= = L 2 K 2 < 0 since L 2 > 0; K 2 > 0:

@K @K 2 2

To nd if F (L; K) is concave we need to calculate the Hessian. Since the

2 2

diagonal elements: @ F@L

(L;K)

2 and @ F@K

(L;K)

2 have already been calculated we just

need the o-diagonal element:

@ 2 F (L; K) 1 1 1

= L 2 K 2 > 0:

@L@K 2

2

(Since @MP@K

L (L;K)

= @ @L@K

F (L;K)

> 0, and increase in capital increases the marginal

product of labour.) The Hessian is:

1 3 1 1 1 1

L 2K2 L 2K 2

H (L; K) = 1 2 1 1 2 1 1 3 :

2L K 2L2 K 2

2 2

CHAPTER 4. MULTIVARIATE CALCULUS 158

We need to show that H is negative denite for all L and K: Using principle

minors we nd that:

1 3 1

M1 = L 2 K 2 < 0

2

2

1 3 1 1 1 3 1 1 1

M2 = L K 2 2 L K

2 2 L K

2 2

2 2 2

1 1 1 1 1 1

= L K L K

4 4

= 0:

Since M2 = 0 (and not M2 > 0 as required) the Hessian is not negative denite.

The next 3 problems are based on the following information: Sup-

pose that a rm has the following prot function:

where L is the amount of labour and K the amount of capital the rm hires.

Problem 186 If L and K are the optimal levels of labour and capital, what

are the rst order conditions for prot maximization?

Answer

We have:

@ (L; K) 1 3=4 1=4

= L K 3

@L 2

@ (L; K) 1 1=4 3=4

= L K 4

@K 2

so that the rst-order conditions become:

@ (L ; K ) 1 3=4

= (L ) (K )1=4 3 = 0

@L 2

@ (L; K) 1 1=4

= (L ) (K )3=4 4 = 0:

@K 2

Problem 187 Using the ln ( ) function, transform the rst order conditions

in a) to obtain a system of 2 equations in 2 unknowns where the unknowns are

l = ln (L ) and k = ln (K ) : Solve for these using Cramers rule and give L

and K :

CHAPTER 4. MULTIVARIATE CALCULUS 159

Answer

We have from the rst rst-order condition:

1 3=4 1=4

(L ) (K ) 3 = 0

2

=) (L )3=4 (K )1=4 = 6

3 1

=) ln (L ) + ln (K ) = ln (6)

4 4

3 1

=) l + k = ln (6)

4 4

while the second yields:

1 1=4

(L ) (K )3=4 4 = 0

2

=) (L )1=4 (K )3=4 = 8

1 3

=) ln (L ) ln (K ) = ln (8)

4 4

1 3

=) l k = ln (8) :

4 4

Combining these two results and using matrix notation we nd that:

3 1

4 4 l ln (6)

1 =

4 34 k ln (8)

1

ln (6) 4

det

ln (8) 34 3 1

ln (L ) = l = 3 1

= ln (6) ln (8)

4 4

2 2

det 1 3

4

34

4 ln (6)

det 1

ln (8) 3 1

ln (K ) = k = 43 1

= ln (8) ln (6)

4 4

2 2

det 1 3

4 4

so that:

p

3 1 3

L = el = e 2 ln(6) 2 ln(8) =

72

p

3 1 3

K = ek = e 2 ln(8) 2 ln(6) = :

96

Problem 188 Show that (L; K) is strictly concave and that the second order

conditions are satised.

CHAPTER 4. MULTIVARIATE CALCULUS 160

Answer

We have:

@ 2 (L; K) 3 @ 2 (L; K) 1

= L7=4 K 1=4 ; = L3=4 K 3=4

@L2 8 @L@K 8

2

@ (L; K) 3

= L1=4 K 7=4

@K 2 8

so that the Hessian is:

38 L7=4 K 1=4 1 3=4 3=4

8L K

H (L; K) = 1 3=4 3=4 :

8L K 38 L1=4 K 7=4

This is negative denite for all L and K since:

3 7=4 1=4 3

M1 = det L K = L7=4 K 1=4 < 0

8 8

3 7=4 1=4 1 3=4 3=4

L K L K

M2 = det 1 8 3=4 3=4 8 3 1=4 7=4

8 L K 8 L K

9 6=4 6=4 1

= L K L6=4 K 6=4

64 64

8 6=4 6=4

= L K > 0:

64

p p

3 3

Therefore F (L; K) is globally concave and L = 72 ; K

= 96 is a global

maximum. The prot function is plotted below:

0.1

0

-0.1

-0.2

-0.3

-0.4

0 0

0.02 0.02

0.04 0.04

L0.06 0.06K

0.08 0.08

0.1 0.1

Problem 189 Suppose that a perfectly competitive rm faces a price P; a nom-

inal wage W; a nominal rental cost of capital R: The rms production function

is given by: Q = F (L; K) : The marginal products of labour and capital are pos-

itive and F (L; K) is concave. What does F (L; K) being concave mean? Derive

the rst order conditions for prot maximization. Show that the second order

conditions will be satised and that the solution to the rst order conditions will

be a global maximum.

CHAPTER 4. MULTIVARIATE CALCULUS 161

Answer

F (L; K) is concave if its Hessian given by:

" 2 2

#

@ F (L;K) @ F (L;K)

HF (L; K) = @L2 @L@K

@ 2 F (L;K) @ 2 F (L;K)

@L@K @K 2

The prot function is:

(L; K) = P F (L; K) W L RK

@ (L ; K ) @F (L ; K )

= P W =0

@L @L

@ (L ; K ) @F (L ; K )

= P R = 0:

@K @K

The second-order conditions involve the Hessian of the prot function:

" 2 2

#

@ (L;K) @ (L;K)

H (L; K) = @L2 @L@K

@ 2 (L;K) @ 2 (L;K)

@L@K @K 2

where:

@ 2 (L; K) @ 2 F (L; K) @ 2 (L; K) @ 2 F (L; K)

= P ; =P

@L2 @L 2 @L@K @L@K

2

@ (L; K) @ 2 F (L; K)

= P

@K 2 @K 2

so that:

" #

@ 2 (L;K) @ 2 (L;K)

H (L; K) = @L2 @L@K

@ 2 (L;K) @ 2 (L;K)

@L@K @K 2

" 2 2

#

P @ F@L (L;K)

2 P @ @L@K

F (L;K)

= @ 2 F (L;K) @ 2 F (L;K)

P @L@K P @K 2

" 2 #

@ F (L;K) @ 2 F (L;K)

= P @L2 @L@K

@ 2 F (L;K) @ 2 F (L;K)

@L@K @K 2

= P HF (L; K) :

Since HF (L; K) is negative denite for all (L; K) (since F (L; K) is concave),

and since P > 0; it follows that H (L; K) is also negative denite for all (L; K).

Thus any (L ; K ) which solves the rst-order conditions is the unique prot

maximizing amount of labour and capital.

CHAPTER 4. MULTIVARIATE CALCULUS 162

Problem 190 For the simple linear regression model: Yi = + Xi + ei ,

i = 1; 2; : : : n the least squares estimators ^ are the values of and

^ and

which minimize the sum of squares function:

n

X

S (; ) = (Yi Xi )2 :

i=1

Show that:

P Pn Pn Pn

( ni=1 Yi ) 2

i=1 Xi ( i=1 Xi ) ( i=1 Xi Yi )

^ = P P 2

n ni=1 Xi2 ( ni=1 Xi )

Pn Pn Pn

^ n i=1 Xi Yi ( i=1 Xi ) ( i=1 Yi )

= P P 2 :

n ni=1 Xi2 ( ni=1 Xi )

Show that S (; ) is globally convex as long as the Xi 0 s are not all identical.

Answer

We have using the sum and chain rules that:

n

X

@S (; )

= 2 (Yi Xi )

@ i=1

Xn

@S (; )

= 2 Xi (Yi Xi )

@ i=1

n !

@S ^

^; X n X Xn

= 2 Yi ^

^ Xi = 0 =) n^ + Xi ^= Yi

@ i=1 i=1 i=1

n ! n !

@S ^

^; X n X X Xn

= 2 Xi Yi ^ i = 0 =)

^ X Xi ^+ Xi2 ^= Xi Yi

@ i=1 i=1 i=1 i=1

or in matrix notation:

Pn Pn

Pnn Pn

i=1 Xi

^ Pn i=1 Yi

2 ^ = :

i=1 Xi i=1 Xi i=1 Xi Yi

^ and

P Pn Pn Pn

( ni=1 Yi ) 2

i=1 Xi ( i=1 Xi ) ( i=1 Xi Yi )

^ = P P 2

n ni=1 Xi2 ( ni=1 Xi )

Pn Pn Pn

^ = n i=1P

Xi Yi ( i=1 Xi ) ( i=1 Yi )

P :

2

n ni=1 Xi2 ( ni=1 Xi )

CHAPTER 4. MULTIVARIATE CALCULUS 163

P

P2n 2 P ni=1 Xi

H (; ) =

2 ni=1 Xi 2 ni=1 Xi2

= 2X T X

2 3

1 X1

6 1 X2 7

6 7

X =6 .. .. 7:

4 . . 5

1 Xn

As long as the Xi0 s are not all identical the two columns of X are linearly

independent and hence the rank of X is 2: From this it follows that X T X is

positive denite and so S (; ) is globally convex. Thus ^ is a unique global

^;

minimum.

Problem 191 Let Y^i = ^ i be the tted value and let e^i = Yi

^ + X ^ i=

^ X

^

Yi Yi be the least squares residual. Show that:

n

X

e^i = 0; Y = ^X

^ +

i=1

n

X n

X

Xi e^i = 0; Y^i e^i = 0:

i=1 i=1

n

X n

X 2 X

n

2

Yi Y = Y^i Y + e^2i

i=1 i=1 i=1

n

X n

X

^2

= 2+

Xi X e^2i

i=1 i=1

Pn 2

Y^i Y

i=1

R2 = Pn :

Y i Y 2

i=1

CHAPTER 4. MULTIVARIATE CALCULUS 164

Answer

From the rst-order conditions we have:

e^i

@S ^

^; X z

n }| { n

X

= 2 Yi ^

^ Xi = 0 =) e^i = 0

@ i=1 i=1

n ! n

X X

=) n^

+ ^=

Xi Yi =) Y = ^ X;

^ +

i=1 i=1

e^i

@S ^

^; n

X z

}| { n

X

= 2 Xi Yi ^ i = 0 =)

^ X Xi e^i = 0:

@ i=1 i=1

Therefore:

n

X n

X

Y^i e^i = ^ i e^i

^ + X

i=1 i=1

Xn n

X

=

^ ^

e^i + Xi e^i = 0:

i=1 i=1

Now:

2 2

=) Yi Y = Y^i Y + e^2i + 2 Y^i Y e^i

n

X n

X 2 X

n n

X

2

=) Yi Y = Y^i Y + e^2i + 2 Y^i Y e^i :

i=1 i=1 i=1 i=1

But:

n

X n

X n

X

Y^i Y e^i = Y^i e^i Y e^i = 0

i=1 i=1 i=1

so that:

n

X n 2 X

n

2 X

Yi Y = Y^i Y + e^2i :

i=1 i=1 i=1

Therefore:

Pn 2

+ Pn e^2 Pn 2

^

i=1 Yi Y i=1 i e^

1= Pn 2 = R + Pn i=1 i 2

2

i=1 Yi Y i=1 Yi Y

CHAPTER 4. MULTIVARIATE CALCULUS 165

Pn ^ 2

0 and Pn Yi Y 2 > 0 we have:

so that since: i=1 Yi Y i=1

Pn 2

Y^i Y

i=1

R2 = Pn 0

2

i=1 Yi Y

Pn

and since ^2i

i=1 e 0 we have:

Pn

e^2

R = 1 Pn i=1 i 2 1:

2

i=1 Yi Y

Problem 192 Now consider the weighted sum of squares function given by:

n

X

SW (; ) = wi (Yi Xi )2

i=1

Pn ^ minimizes SW (; ) ;

where the weights wi satisfy: i=1 wi = n: Show that if

then:

P P P

^ n ni=1 wi Xi Yi ( ni=1 wi Xi ) ( ni=1 wi Yi )

= P P 2 :

n ni=1 wi Xi2 ( ni=1 wi Xi )

Answer

We have using the sum and chain rules that:

n

X

@S (; )

= 2 wi (Yi Xi )

@ i=1

Xn

@S (; )

= 2 wi Xi (Yi Xi )

@

i=1

=n

z }| !{

n !

@S ^

^; n

X Xn X n

X

= 2 wi Yi ^ i = 0 =)

^ X wi ^+ wi Xi ^= wi Yi

@ i=1 i=1 i=1 i=1

n ! n !

@S ^

^; n

X X X n

X

= 2 wi Xi Yi ^ i = 0 =)

^ X wi Xi

^+ ^=

wi Xi2 wi Xi Yi

@ i=1 i=1 i=1 i=1

or in matrix notation:

Pn Pn

Pn n Pni=1 wi X2i

^ P i=1 wi Yi

^ = n :

i=1 wi Xi i=1 wi Xi i=1 wi Xi Yi

Solving for

Pn Pn Pn

^ = n i=1 wP

i Xi Yi ( i=1 wi Xi ) ( i=1 wi Yi )

P :

2

n ni=1 wi Xi2 ( ni=1 wi Xi )

CHAPTER 4. MULTIVARIATE CALCULUS 166

Problem 193 Suppose there are m parties in Quebec with pi being the unknown

proportion of the population who favour party i: Clearly:

p1 + p2 + + pm = 1:

You decide to conduct a survey of n people and ni is the number of people in

the survey who support party i: Clearly:

n1 + n2 + + nm = n:

The likelihood is then given by:

L (p) = pn1 1 pn2 2 pnmm

Find p^i ; the maximum likelihood estimator of pi

Answer

The log-likelihood is given by:

l (p1 ; p2 ; : : : pm ) = n1 ln (p1 ) + n2 ln (p2 ) + + nm ln (pm ) :

We need to maximize this but the proportions must sum to 1 so that we con-

struct the Lagrangian:

L (; p1 ; p2 ; : : : pm ) = n1 ln (p1 ) + n2 ln (p2 ) + + nm ln (pm )

+ (1 p1 p2 pm )

which leads to the rst order conditions:

@L ;^ p^1 ; p^2 ; : : : p^m

= 1 p^1 p^2 p^m

@

@L ;^ p^1 ; p^2 ; : : : p^m

n1 ^ ^ p1 = n1

= = 0 =) ^

@p1 p^1

@L ;^ p^1 ; p^2 ; : : : p^m

n2 ^ ^ p2 = n2

= = 0 =) ^

@p2 p^2

..

.

^

@L ; p^1 ; p^2 ; : : : p^m nm ^ ^ pm = nm :

= = 0 =) ^

@pm p^m

We therefore have:

^ pj =

^ nj for j = 1; 2; : : : m

0 1

^ @p^1 + p^2 + + p^m A = n1 + n2 + + nm

=)

| {z } | {z }

=1 =n

^=n

=)

CHAPTER 4. MULTIVARIATE CALCULUS 167

and so

nj

p^j = :

n

Thus if for n = 2000 people interviewed, n1 = 525 support the Blue party,

n2 = 1022 support the Green Party and n3 = 473 support the Red party then

the maximum likelihood estimates are:

525 1022

p^1 = = 0:263; p^2 = = 0:511;

2000 2000

453

p^3 = = 0:226

2000

so that an estimated 26% of the population support the Blue party, and esti-

mated 51% the Green party and an estimated 23% the Red party.

@U (Q1 ;Q2 )

Problem 194 Given a utility function: U (Q1 ; Q2 ) where @Q1 > 0 and

@U(Q1 ;Q2 )

@Q2 > 0; and if an indierence curve Q2 = h (Q1 ) is dened by U (Q1 ; h (Q1 )) =

c; where c is a constant, then show that h0 (Q1 ) < 0: Show that if U (Q1 ; Q2 ) is

concave then h00 (Q1 ) > 0:

Answer

Dierentiating both sides of

U (Q1 ; h (Q1 )) = c

+ h (Q1 ) = 0

@Q1 @Q2

@U (Q1 ;Q2 )

0 @Q1

h (Q1 ) = @U (Q1 ;Q2 )

< 0:

@Q2

2 +2 h (Q1 ) +

@Q1 @Q1 @Q2

@ 2 U (Q1 ; h (Q1 )) 0 2 @U (Q1 ; h (Q1 )) 00

(h (Q1 )) + h (Q1 )

@Q22 @Q2

= 0

CHAPTER 4. MULTIVARIATE CALCULUS 168

so that:

" @2U @2 U

# T

0

@Q21 @Q1 @Q2 1

1 h (Q1 ) @2U @2 U h0 (Q1 )

00 @Q1 @Q2 @Q21

h (Q1 ) = @U

:

@Q2

is concave then the Hessian would be negative denite so that xT Hx < 0 for

x 6= 0 where here:

1

x= :

h0 (Q1 )

Thus if U (Q1 ; Q2 ) is concave then h00 (Q1 ) > 0:

4.6.1 Utility Maximization

The next 3 problems are based on the following information:

1=3 1=3

U (Q1 ; Q2 ) = 3Q1 + 3Q2 :

The household has income Y; the price of good 1 is P1 and the price of good 2

is P2 so that the budget constraint is:

Y = P1 Q1 + P2 Q2 :

Based on this information answer the following:

Problem 195 What is the Lagrangian for the utility maximization problem that

the household faces? From this nd the rst-order conditions. Show that the

second-order conditions will be satised.

Answer

We have:

1=3 1=3

L (; Q1 ; Q2 ) = 3Q1 + 3Q2 + (Y P1 Q1 P2 Q2 )

so that

@L (; Q1 ; Q2 )

= Y P1 Q1 P2 Q2

@

@L (; Q1 ; Q2 ) 2=3

= Q1 P1

@Q1

@L (; Q1 ; Q2 ) 2=3

= Q2 P2

@Q2

CHAPTER 4. MULTIVARIATE CALCULUS 169

@L ( ; Q1 ; Q2 )

= Y P1 Q1 P2 Q2 = 0

@

@L ( ; Q1 ; Q2 ) 2=3

= Q1 P1 = 0

@Q1

@L ( ; Q1 ; Q2 ) 2=3

= Q2 P2 = 0:

@Q2

The Hessian is found from:

@ 2 L (; Q1 ; Q2 ) @ 2 L (; Q1 ; Q2 ) @ 2 L (; Q1 ; Q2 )

= 0; = P1 ; = P2 ;

@2 @@Q1 @@Q2

2

@ L (; Q1 ; Q2 ) @ 2=3 2 5=3

= Q1 P1 = Q1 ;

@Q21 @Q1 3

@ 2 L (; Q1 ; Q2 ) @ 2=3

= Q1 P1 = 0;

@Q1 @Q2 @Q2

@ 2 L (; Q1 ; Q2 ) @ 2=3 2 5=3

= Q2 P2 = Q2

@Q22 @Q2 3

so that:

2 3

0 P1 P2

6 5=3 7

H (; Q1 ; Q2 ) = 4 P1 23 Q1 0 5

2 5=3

P2 0 3 Q2

so that:

2 3

0 P1 P2

6 5=3 7

det [H (; Q1 ; Q2 )] = det 4 P1 23 Q1 0 5

5=3

P2 0 23 Q2

2 2 5=3 2 2 5=3

= P Q + P2 Q1 >0

3 1 2 3

so that the second order conditions are satised.

32 12

grange multiplier). (Hint: show that P1 Q1 = ( ) P1 and that P2 Q2 =

32 1

( ) P2 2 ) .

Answer

We have:

2=3 32

Q1 P1 = 0 =) Q1 = ( P1 )

3 12

=) P1 Q1 = 2 P1

CHAPTER 4. MULTIVARIATE CALCULUS 170

and

2=3 32

Q2 P2 = 0 =) Q2 = ( P2 )

3 12

=) P2 Q2 = 2 P2

3 1 3 12

Y P1 Q1 + P2 Q2 = 2 P1 2 + 2 P2

=

1

3 1

=) 2 P1 2 + P2 2 = Y

3 Y

=) 2 = 1 1

:

P1 + P2 2

2

Therefore:

3 32

Q1 = 2 P1

32

Y P1

= 1

1

P1 2 + P2 2

and

3 32

Q2 = 2 P2

32

Y P2

= 1 :

1

P1 2 + P2 2

Problem 197 Suppose the individual was thrown in prison. By law the prison

must insure that the individual obtain enough Q1 and Q2 to obtain Umin units

of utility. The cost of Q1 and Q2 will then be P1 Q1 + P2 Q2 which the prison

wishes to minimize. Write down the Lagrangian and the rst-order conditions

for this cost minimization problem. Solve for ; Q1 and Q2 from the rst-order

conditions.

Answer

The constraint is that

1=3 1=3

Umin = U (Q1 ; Q2 ) = 3Q1 + 3Q2

and the objective function is now expenditure or P1 Q1 +P2 Q2 ; which the warden

attempts to minimize subject to the constraint. The Lagrangian is therefore:

1=3 1=3

L (; Q1 ; Q2 ) = P1 Q1 + P2 Q2 + Umin 3Q1 3Q2

CHAPTER 4. MULTIVARIATE CALCULUS 171

so that

@L (; Q1 ; Q2 ) 1=3 1=3

= Umin 3Q1 3Q2

@

@L (; Q1 ; Q2 ) 2=3

= P1 Q1

@Q1

@L (; Q1 ; Q2 ) 2=3

= P2 Q2

@Q2

so that the rst-order conditions are:

@L ( ; Q1 ; Q2 ) 1=3 1=3

= Umin 3Q1 3Q2 =0

@

@L ( ; Q1 ; Q2 ) 2=3

= P1 Q1 =0

@Q1

@L ( ; Q1 ; Q2 ) 2=3

= P2 Q2 = 0:

@Q2

Thus:

2=3 3=2

P1 = Q1 =) Q1 = 3=2 P1

2=3 3=2

P2 = Q2 =) Q2 = 3=2 P2 :

1=3 1=3

Umin = 3Q1 + 3Q2

1=3 1=3

3=2 3=2

= 3 3=2 P1 + 3 3=2 P2

1=2 1=2

=) 31=2 P1 + P2 = Umin

Umin

=) 1=2 =

1=2 1=2

3 P1 + P2

U 2 1=2 1=2

2

=) = min P1 + P2 :

9

Once is found we can derive the optimal Q1 and Q2 as:

3=2

Q1 =3=2 P1

2 2 3=2

Umin 1=2 1=2 3=2

=) Q1 = P1 + P2 P1

9

(Umin )3 1=2 1=2

3

3=2

=) Q1 = P1 + P2 P1

27

CHAPTER 4. MULTIVARIATE CALCULUS 172

and:

3=2

Q2 = 3=2 P2

2 2 3=2

Umin 1=2 1=2 3=2

=) Q2 = P1 + P2 P2

9

(Umin )3 1=2 1=2

3

3=2

=) Q2 = P1 + P2 P2 :

27

The next 3 problems are based on the following information: Con-

sider a household with the utility function:

1=2 1=2

U (Q1 ; Q2 ) = 2Q1 + 2Q2 :

The household has income Y; the price of good 1 is P1 and the price of good 2

is P2 so that the budget constraint is:

Y = P1 Q1 + P2 Q2 :

Problem 198 What is the Lagrangian for the utility maximization problem that

the household faces? From this nd the rst order conditions. Show that the

second order conditions will be satised.

Answer

We have:

1=2 1=2

L (; Q1 ; Q2 ) = 2Q1 + 2Q2 + (Y P1 Q1 P2 Q2 )

so that

@L (; Q1 ; Q2 )

= Y P1 Q1 P2 Q2

@

@L (; Q1 ; Q2 )

= (Q1 )1=2 P1

@Q1

@L (; Q1 ; Q2 )

= (Q2 )1=2 P2

@Q2

the rst-order conditions are:

@L ( ; Q1 ; Q2 )

= Y P1 Q1 P2 Q2 = 0

@

@L ( ; Q1 ; Q2 )

= (Q1 )1=2 P1 = 0

@Q1

@L ( ; Q1 ; Q2 )

= (Q2 )1=2 P2 = 0:

@Q2

CHAPTER 4. MULTIVARIATE CALCULUS 173

@ 2 L (; Q1 ; Q2 ) @ 2 L (; Q1 ; Q2 ) @ 2 L (; Q1 ; Q2 )

= 0; = P1 ; = P2 ;

@2 @@Q1 @@Q2

@ 2 L (; Q1 ; Q2 ) @ 1 3=2

= (Q1 )1=2 P1 = Q1 ;

@Q21 @Q1 2

@ 2 L (; Q1 ; Q2 ) @

= (Q1 )1=2 P1 = 0;

@Q1 @Q2 @Q2

2

@ L (; Q1 ; Q2 ) @ 1 3=2

= (Q2 )1=2 P2 = Q2

@Q22 @Q2 2

so that:

2 3

0 P1 P2

6 1 3=2 7

H (; Q1 ; Q2 ) = 4 P1 2 Q1 0 5

3=2

P2 0 12 Q2

so that:

2 3

0 P1 P2

6 3=2 7

det [H (; Q1 ; Q2 )] = det 4 P1 12 Q1 0 5

1 3=2

P2 0 2 Q2

1 2 3=2 1 2 3=2

= P Q + P2 Q1 >0

2 1 2 2

so that the second order conditions are satised.

1

Problem 199 From the rst-order conditions show that P1 Q1 = ( )2 P1

and

1

that P2 Q2 = ( )2 P2

. Now use this to nd Q1 , Q2 and (the Lagrange

multiplier). Show that the budget share of Q1 will be P1P+P

2

2

:

Answer

We have:

2 1

(Q1 )1=2 P1 = 0 =) Q1 = ( P1 ) = 2

( ) P12

1

=) P1 Q1 = 2

( ) P1

and

2 1

(Q2 )1=2 P2 = 0 =) Q2 = ( P2 ) = 2

( P2 )

1

=) P2 Q2 = 2

( ) P2

CHAPTER 4. MULTIVARIATE CALCULUS 174

1 1

Y = P1 Q1 + P2 Q2 = 2

+ 2

( ) P1 ( ) P2

1

1 1

=) 2 + =Y

( ) P1 P2

1 Y

=) 2

=

( ) 1 1

P1 + P2

1

12 1 1 2

=) = Y + :

P1 P2

Therefore:

1 1 Y 1

Q1 = 22 =

P

( ) 1 1

+ 1 P12

P1 P2

P1 Q1 1 1

=) =

Y 1

+ 1 P1

P1 P2

1 P2

= =

P1

1 + P2 P1 + P2

and

1 1 Y 1

Q2 = 22 =

P

( ) 2 1

+ 1 P22

P1 P2

P2 Q1 1 1

=) =

Y 1

+ 1 P2

P1 P2

1 P1

= = :

P2

1 + P1 P1 + P2

where: i 0,

1 + 2 + + n = 1

Y = P1 Q1 + P2 Q2 + + Pn Qn :

CHAPTER 4. MULTIVARIATE CALCULUS 175

Answer

The Lagrangian is:

L (; Q1 ; Q2 ; : : : Qn ) = 1 ln (Q1 ) + 2 ln (Q2 ) + + n ln (Qn )

+ (Y P1 Q1 P2 Q2 Pn Qn )

so that the rst-order conditions are:

@L ( ; Q1 ; Q2 ; : : : Qn )

= 0 = Y P1 Q1 P2 Q2 Pn Qn

@

@L ( ; Q1 ; Q2 ; : : : Qn ) 1

= 0= P1 =) 1 = P1 Q1

@Q1 Q1

@L ( ; Q1 ; Q2 ; : : : Qn ) 2

= 0 = P2 =) 2 = P2 Q2

@Q2 Q2

..

.

@L ( ; Q1 ; Q2 ; : : : Qn ) n

= 0 = Pn =) n = Pn Qn :

@Qn Qn

Adding up the last n rst-order conditions we have:

1 + 2 + + n = P1 Q1 + P2 Q2 + + Pn Qn

=) 1 + 2 + + n = (P1 Q1 + P2 Q2 + + Pn Qn )

| {z } | {z }

=1 =Y

1

=) = :

Y

It then follows that:

i = Pi Qi

Pi Qi

=

Y

i Y

=) Qi = :

Pi

Problem 201 The indirect utility function is dened as:

U (P1 ; P2 : : : ; Pn ; Y ) = U (Q1 ; Q2 ; : : : Qn ) :

Find the indirect utility function for the Cobb-Douglas utility function using

your answer from the previous problem. Verify that:

@U (P1 ; P2 : : : ; Pn ; Y )

=

@Y

so that the Lagrange multiplier is the marginal utility of income (this is always

true for all utility functions, not just Cobb-Douglas!) and that:

@U (P1 ;P2 ::: ;Pn ;Y )

@Pi

Qi = @U (P1 ;P2 ::: ;Pn ;Y )

@Y

CHAPTER 4. MULTIVARIATE CALCULUS 176

which is known as Roys identity (again, this is always true!). Roys identity

allows you to calculate the demand curve from the indirect utility function.

Answer

We have:

1 Y 2 Y n Y

= 1 ln + 2 ln + + n ln

P1 P2 Pn

= 1 (ln (1 ) + ln (Y ) ln (P1 )) + + n (ln (n ) + ln (Y ) ln (Pn ))

= ln (Y ) 1 ln (P1 ) + 2 ln (P2 ) + + n ln (Pn ) c

where the coecient on ln (Y ) is one since the i 0 s sum to 1 and the constant

c:

c = 1 ln (1 ) + 2 ln (2 ) + + n ln (n )

We therefore have:

@U (P1 ; P2 : : : ; Pn ; Y ) 1

= =

@Y Y

@U (P1 ; P2 : : : ; Pn ; Y ) i

=

@Pi Pi

so that:

@U (P1 ;P2 ::: ;Pn ;Y )

@Pi i

Pi i Y

@U (P1 ;P2 ::: ;Pn ;Y )

= 1 = = Qi :

Y

Pi

@Y

~ = AQ1 Q 2 Qnn

U 1 2

where A > 0 and i 0 and i > 0 for at least one i: Show that this is

equivalent to maximizing the Cobb-Douglas utility function given in the previous

two questions where:

with i 0 and

1 + 2 + + n = 1:

CHAPTER 4. MULTIVARIATE CALCULUS 177

Answer

Dene as the sum of the i 0 s or:

= 1 + 2 + + n > 0:

~ is equivalent to maximizing U

follows that maximizing U ^ =U ~ 1 or

1

^ = U

U ~ 1 = AQ1 Q2 Qnn

1 2

2 2 n

1

= A Q1 Q2 Qn

= BQ 2

1 Q2 Qn

1 n

1 i

where B = A > 0 and i = : We then have: i 0 and

1 + 2 + + n

1 + 2 + + n =

1 + 2 + + n

= = 1:

1 + 2 + + n

1

Now since g (x) = ln (x) ln (B) is monotonically increasing (i.e., g0 (x)

= x >

~ is equivalent to maximizing U = ln U

0 ) it follows that maximizing U ^ where:

U ^ ln (B)

= ln U

= ln (BQ 2 n

1 Q2 Qn ) ln (B)

1

given by:

! ! 1

Q1

1 1 Q1

2 1 Qn 1

U = 1 + 2 + + n

1 1 1

1 + 2 + + n = 1

This includes the Cobb-Douglas as a special case where = 1 since from LHpitals

rule it follows that:

Q1

i 1

lim = ln (Qi ) :

!1 1

(This mathematical fact is the basis for the Box-Cox transformation often used

in econometrics). Calculate the demand functions Qi for the CES utility func-

tion.

CHAPTER 4. MULTIVARIATE CALCULUS 178

Answer

The Lagrangian is:

! !

Q1

1 1 Q1

2 1 Q1

n 1

L (; Q1 ; Q2 ; : : : Qn ) = 1 + 2 + + n

1 1 1

+ (Y P1 Q1 P2 Q2 Pn Qn )

@L ( ; Q1 ; Q2 ; : : : Qn )

= 0 = Y P1 Q1 P2 Q2 Pn Qn

@

@L ( ; Q1 ; Q2 ; : : : Qn ) 1 1

1 1

= 0 = 1 Q

1 P1 =) P1 Q1 = 1 P1

@Q1

@L ( ; Q1 ; Q2 ; : : : Qn ) 1 1

1 1

= 0 = 2 (Q2 ) P2 =) P2 Q2 = 2 P2

@Q2

..

.

@L ( ; Q1 ; Q2 ; : : : Qn ) 1 1

1 1

= 0 = n Q

n Pn =) Pn Qn = n Pn :

@Qn

Adding up the implications of the last n rst-order conditions we have:

Y = P1 Q1 + P2 Q2 + + Pn Qn

1

1 1 1 1 1

1 1 1 1

1 1

= 1 P1 + 2 P2 + + n Pn

1

1 1 1 1

1 1 1

1 1

= 1 P1 + 2 P2 + + n Pn

1 Y

=) = 1

1 1 1

1 1 1

1 1

1 P1

+ 2 P2

+ + n Pn

0 1

Y

=) = @ 1

1 1 1

1 1 1

1 1

A :

1 P1

+ 2 P2

+ + n Pn

Once we have the Lagrange multiplier we can calculate the demand curves using:

1

1 1

i (Qi ) Pi = 0 =) Qi = i Pi

1

1

i Pi Y

=) Qi = 1

1 1 1

1 1 1 1 :

(1 ) (P1 )

+ (2 ) (P2 )

+ + (n ) (Pn )1

Problem 204 Suppose the rms production function is given by:

p

Q = F (L; K) = L + K + 2 LK

CHAPTER 4. MULTIVARIATE CALCULUS 179

where L is labour and K is capital. Suppose that the wage is W; and the rental

cost of capital is R: Set up the Lagrangian for the problem of nding that amount

of labour L and that amount of capital K which minimizes the cost of pro-

ducing Q units of output. Find the rst-order conditions from this Lagrangian

(you do not have to actually solve them) . Write down what the second order

conditions require.

Answer

We have:

p

L (; L; K) = W L + RK + Q L K 2 LK

so that:

@L (; L; K) p

= Q L K 2 LK

@

@L (; L; K) 1 1

= W 1 + L 2 K 2

@L

@L (; L; K) 1 1

= R 1 + L 2 K 2

@K

so that the rst-order conditions are:

@L ( ; L ; K ) p

= Q L K 2 L K = 0

@

@L ( ; L ; K ) 1 1

= W 1 + (L ) 2 (K ) 2 = 0

@L

@L ( ; L ; K ) 1 1

= R 1 + (L ) 2 (K ) 2 = 0

@K

The second-order conditions require that we calculate the second derivatives

of the Lagrangian as:

@ 2 L (; L; K) @ 2 L (; L; K) @ 2 L (; L; K)

12 1 1 1

2 K 2

= 0; = 1 + L K 2 ; = 1 + L ;

@2 @@L @@K

@ 2 L (; L; K) 1 3 1 @ 2 L (; L; K) 1 1 1

2

= L 2 K 2 ; = L 2 K 2

@L 2 @L@K 2

@ 2 L (; L; K) 1 1 3

2

= L 2 K 2

@K 2

so that the Hessian of L (; L; K) evaluated at ; L ; K is:

2 1 1

1 1

3

0 1 + L 2 K 2 1 + L 2 K 2

6 7

6 1 1 1 32 12 1 12 12 7

H ( ; L ; K ) = 6 1 + L 2 K 2 2 L K 2 L K 7

4 1 1

1 1 1 3

5

1 + L 2 K 2 12 L 2 K 2 1

2 L K

2 2

2 3

0 W R

= 4 W 12 L 2 K 2 5

1 3 1 1 1

2

2 L K 2

R 1 12 12 1 12 32

2 L K 2 L K

CHAPTER 4. MULTIVARIATE CALCULUS 180

1 1

1 1 W

W 1 + (L ) 2 (K ) 2 = 0 =) 1 + (L ) 2 (K ) 2 =

1 1

1 1 R

R 1 + (L ) 2 (K ) 2 = 0 =) 1 + (L ) 2 (K ) 2 = :

The second-order conditions for a local minimum are satised since:

2 3

0 W R

det [H ( ; L ; K )] = det 4 W 12 L 2 K 2 5

1 23 1 1 1

2 L K 2

R 1 12 12 1 12 32

2 L K 2 L K

1 (W L + RK )2 L 2 K 2

3 3

= <0

2

(this takes some work!) where > 0 since again from the rst-order conditions:

W 1

2

1

= 1 + (L ) (K ) 2 > 0:

Problem 205 Suppose the rms production function is given by:

p

Q = F (L; K) = L + K + 2 LK

where L is labour and K is capital. Suppose you wanted to prove that increasing

W would reduce the cost minimizing amount of labour L (W ). Show how this

could be done by dierentiating the rst order conditions, obtaining a system

of 3 equations in 3 unknowns and using Cramers rule to solve these equations

for the appropriate partial derivative (you dont have to actually evaluate the

determinants or prove the result).

Answer

Using the multivariate version of the chain rule on the rst-order conditions

and dierentiating both sides of the rst-order conditions with respect to W;

and remembering that (W ) ; L (W ) and K (W ) are all functions of W we

nd that:

2 3

1

0 1 + L 2 K 2

1 1

1 + L 2 K 2

1

2 @ 3 2 3

6 7 @W 0

6 7

K 2 7 4 @L 5 = 4 1 5

1 1 3 1 1 1

6 1 + L 2 K 2 12 L 2 K 2 1

2 L

2

@W

4 1 1

1 1 1 3

5 @K 0

1 2

1 + L 2 K 2 2 L K 2 12 L 2 K 2 @W

CHAPTER 4. MULTIVARIATE CALCULUS 181

2 1 1

3

0 1 + L 2 K 2

0

6 7

6 1 1 1 12 1 7

det 6 1 + L 2 K 2 1 2 L K 2 7

4 1 1

1 3

5

@L 1 + L 2 K 2 0 12 L 2 K 2

=

@W det [H ( ; L ; K )]

1 1

2

1 + L 2 K 2

= <0

det [H ( ; L ; K )]

the numerator is squared and hence positive.

tion

Problem 206 Let A be a symmetric 2 2 matrix and let x be a 2 1 vector

as:

a11 a12 x1

A= ; x= :

a12 a22 x2

2

subject to the constraint that jjxjj = xT x = 1 or:

1 = x21 + x22 :

Find x and f (x ) :

Answer

The Lagrangian for this problem is:

L (; x1 ; x2 ) = a11 x21 + 2a12 x1 x2 + a22 x22 + 1 x21 x22

@L ( ; x1 ; x2 )

= 1 x2 2

1 x2 = 0

@

@L ( ; x1 ; x2 )

= 2a11 x1 + 2a12 x2 2 x1 = 0

@x1

@L ( ; x1 ; x2 )

= 2a12 x1 + 2a22 x2 2 x2 = 0:

@x2

CHAPTER 4. MULTIVARIATE CALCULUS 182

Writing the last two conditions in matrix notation after cancelling the 20 s we

nd that:

a11 a12 x1 x1

=

a12 a22 x2 x2

or:

Ax = x :

two eigenvalues from the roots of:

2 (a11 + a22 ) + a11 a22 a212 = 0

largest eigenvalue. This is because:

f (x ) = (x )T Ax

f (x ) = (x )T x :

T

However the constraint require that jjx jj = (x ) x = 1 so that:

f (x ) = :

maximized with a maximized value of :

as:

10 7 x1

A= ; x= :

7 6 x2

2

subject to the constraint that jjxjj = xT x = 1 or:

1 = x21 + x22 :

Find x and f (x ) :

CHAPTER 4. MULTIVARIATE CALCULUS 183

Answer

The Lagrangian for this problem is:

L (; x1 ; x2 ) = 10x21 + 14x1 x2 + 6x22 + 1 x21 x22

@L ( ; x1 ; x2 )

= 1 x2 2

1 x2 = 0

@

@L ( ; x1 ; x2 )

= 20x1 + 14x2 2 x1 = 0

@x1

@L ( ; x1 ; x2 )

= 14x1 + 13x2 2 x2 = 0:

@x2

Writing the last two conditions in matrix notation after cancelling the 20 s we

nd that:

10 7 x1 x1

=

7 6 x2 x2

or:

Ax = x :

two eigenvalues from the roots of:

2 16 + 11 = 0

or:

p

1 = 8 + 53 = 15:28

p

2 = 8 53 = 0:72:

Since we are maximizing f (x1 ; x2 ) it turns out that is the largest eigen-

value so that: = 15:28: Thus:

f (x ) = = 15:28:

maximized with a maximized value of :

To calculate x note that if x is any solution of

Ax = x

picking = x1 if x2 6= 1:

2

CHAPTER 4. MULTIVARIATE CALCULUS 184

20x1 + 14x2 2 x1 = 0

p

=) 20 2 8 + 53 x1 = 14x2 = 14

so that:

14

x1 = p = 1:3257:

20 2 8 + 53

We thus have:

x1 1:3257

x = =

x2 1

as a solution to Ax = x :

This is not the x which we are looking for since the constraint requires that

jjx jj = 1 but for the above x :

q

jjx jj = (1:3257)2 + 12 = 1:6606:

that:

1 1:3257 0:79833

x = =

1:6606 1 0:60219

q

jjx jj = (0:79833)2 + (0:60219)2 = 1:

f (x ) = f (0:79833; 0:60219)

T

0:79833 10 7 0:79833

=

0:60219 7 6 0:60219

= 15:28 = :

Consider the problem of maximizing (minimizing)

xT Ax

xT x = 1:

Show, both with and without calculus that x is the eigenvector of A associated

with the maximum (minimum) eigenvalue of A; normalized so that kx k = 1:

CHAPTER 4. MULTIVARIATE CALCULUS 185

Answer

With calculus: The Lagrangian for this problem is:

L (; x) = xT Ax + 1 xT x

@L ( ; x )

= 1 (x )T x = 0

@

@L ( ; x )

= 2Ax 2 x = 0 =) Ax = x :

@x

From the second rst-order condition it follows that x is an eigenvector of A

and is the associated eigenvalue. If x is any eigenvector of A; we can always

satisfy the constraint by using x = kx k : Furthermore:

Ax = x =) xT Ax = Ax = (x )T x =

and its associated eigenvector.

Without calculus: Writing A as A = CC T where C T = C 1 is orthogonal

and is a diagonal matrix with eigenvalues along the diagonal, we have

yT y = xT CC T x = xT x = 1

=) y12 + y22 + + yn2 = 1

T T

eigenvalues. It follows then that xTi+ Axi+ = i+ (xi+ ) xi+ = i+ xTi Axi = i (xi ) xi = i

and since yi2 0 that for all x such that xT x = 1 :

xT Ax = y12 1 + y22 2 + + yn2 n i :

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