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Economics Notes Macroeconomic Principles Notes

Labour Supply And Neoclassical Production Function Notes

Updated Labour Supply And Neoclassical Production Function Notes

Macroeconomic Principles Notes

Macroeconomic Principles

Approximately 260 pages

In depth, typed notes covering the Macroeconomic Principles (EC210) course at LSE (London School of Economics). Covers the full content of the course including the following topics:

- Economic Measurement
- Economic Growth
- The Malthusian Model
- The Solow Model
- Endogenous Growth Models
- Consumption
- Ricardian Equivalence
- Credit Market Imperfections
- Investment
- Unemployment
- Issues in the Labour Market
- The Dynamic Macroeconomic Model
- The Dynamic Monetary Model
- Bus...

The following is a more accessible plain text extract of the PDF sample above, taken from our Macroeconomic Principles Notes. Due to the challenges of extracting text from PDFs, it will have odd formatting:

Review Materials 11 October 2010 Topics * Consumption and labour supply * Neoclassical production function * Profit maximization * Competitive equilibrium and Pareto optimality * Income tax and the Laffer curve Reading * Williamson (Chapter 4 and 5) Key Points * Consumer budget constraint * Consumer optimization * Effect of changes in real wages * Income effect * Substitution effect Consumption of Labour Supply * The representative consumer owns equal shares of firms in the economy * We let be the after-tax non-wage income * We assume that income tax is a lump-sum i.e. it is independent of the consumer's decisions Deriving the budget constraint * * * We combine them to give us:Consumer optimization * There are two possible solutions when optimizing consumption between two goods (or baskets): * Interior solutions (where the consumer chooses to consume both) * Corner solutions (where the consumer chooses to consume just one goods basket) Indifference curves * Indifference Curve = Curve that shows the combinations of consumption where the consumer is indifferent * Slope of indifference curve is how willing the consumer is to forego consumption of good Y for good X * The optimal consumption is when the budget constraint line touches the highest possible indifference curve * Example of consumer optimization Changes in Real Wages * To trace out the labour supply curve we have to look at the effects of an increase in real wages * An increase in real wages has two effects: i. Income effect * Since both leisure and consumption are normal goods, higher income implies that leisure and consumption both increase * Substitution effect * The price of leisure rises, so the consumer substitutes leisure for consumption * If real wages increases, consumption must therefore rise, but leisure may rise or fall * If the substitution effect > income effect, then the labour supply curve must be upward sloping ? Graph of the labour supply curve when income effect > substitution effect * A shift in the labour supply curve occurs if real wage (after tax profits) increases Neoclassical Production Function * The Production Function: *is the total factor productivity (TFP)is the quantity of capital inputis quantity of labour input * Production possibility frontier = Curve that determines the products you can produce * Marginal rate of transformation (MRT) = slope of the production possibility frontier * The neoclassical production function satisfies: * Constant returns to scale ? Double all inputs, doubles output# For any * Positive but diminishing marginal product of capital and labour * Marginal Product = How much extra will be produced given a one unit increase in a factor of production (ceteris paribus) * Ceteris paribus = All other things the same ? Marginal products are positive: # # ? Diminishing: # # * Inada conditions * Inada Conditions = An increase in workers eventually means that a machine becomes over utilised and useless * MPK goes to infinity when K goes to zero * MPK goes to zero when K goes to infinity * Similar for MPN * Together these properties allows us to plot the following aggregate production function # Graph of aggregate production function Profit Maximization * Profits: * i.e. Revenue - Wage Payment * First order condition: Course Notes Page 5 * Neoclassical production function * Features of NPF (3) * Profit maximization * Competitive equilibrium * Pareto optimality * Welfare Theorems * Laffer curve * Effect of TFP | on Laffer curve and tax rate Definition * Ceteris paribus = All other things the same * First Welfare Theorem = Under certain conditions, a competitive equilibrium is Pareto optimal * Inada Conditions = An increase in workers eventually means that a machine becomes over utilised and useless * Indifference Curve = Curve that shows the combinations of consumption where the consumer is indifferent * Laffer curve = Describes the relationship between total tax revenue and the tax rate * Marginal Product = How much extra will be produced given a one unit increase in a factor of production (ceteris paribus) * Marginal rate of transformation (MRT) = slope of the production possibility frontier * Pareto Efficient = If the allocation of labour and consumption corresponds to the solution of a social planner, who maximises utility subject to the aggregate resource constraint of an economy * Production possibility frontier = Curve that determines the products you can produce * Second Welfare Theorem = Under certain conditions, a Pareto optimum is a competitive equilibrium Formula * * * * * * Pareto optimum: * Tax revenue = tax rate x tax base *

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