Mathematical Economics (2 Credits)

PART I: COMPARATIVE STATICS ANALYSIS

Hà Văn Hiếu

University of Economics and Law

10th October 2022

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 Introduction

Lecturer
Dr. Hà Văn Hiếu,
Faculty of Economic Mathematics, UEL.
Email: [email protected].

Students
This module is taken by 413CA.

Given your very varied backgrounds, you will need to

stay focused,
work with your team,
become practised at communicating your own insights and
challenges...

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 All about MAT1008

1 Part I: What is Mathematical Economics [Chapters 1 & 2]

The nature of Mathematical Economics.
A review on MEB (aka Toán cao cấp) [code: MAT1001]: Matrices,
Differentiation, Integration, Optimization and applications in
Economics.
2 Part II: Dynamic Analysis [Part 5 - chapters 14-19]
Differential Equations and Difference Equations.
3 Part III: Linear Programming Problem [Introduction to Operation
Research, Chapters 3-5]
The graphical method & the simplex method.
Solving Linear Programming Problem by Excel solver.

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 How to pass?

1 Minimum attendance: 80%.

2 No smartphone, no cigarette, etc.

Forms of Assessments Types of Collaboration Weights

Attendance, assignments Individual, team 30%
Midterm Individual 20%
Final exam Individual 50%
Table 1: Super important table

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 Resources

The main recommended text is

Alpha C. Chiang, Fundamental Methods of
Mathematical Economics, 3rd Edition,
McGraw-Hill, Inc., 2005.
https://lms.uel.edu.vn/
Other resources:
1 Raymond A. Barnett; Calculus for Business, Economics, Life
Sciences and Social Sciences, 13th edition.
2 Frederick S. Hillier, Introduction to Operations Research, 10th
edition, McGraw-Hill, 2015.
3 PGS.TS. Hoàng Đình Tuấn; Giáo trình Mô hình Toán Kinh tế;
NXB Thống kê, Trường Đại học Kinh tế Quốc dân.

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 Create your team!

413, 413C, 413CA https://lms.uel.edu.vn

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 Week 1 - The nature of Mathematical Economics

Definition
Mathematical economics is the application of mathematical methods to
represent theories and analyze problems in economics. Often, these
applied methods go beyond simple geometry and may include
differential and integral calculus, difference and differential equations,
matrix algebra, mathematical programming, or other computational
methods. [Wikipedia]

1 What is the difference between mathematical economics and

literary economics?
2 What is the advantage of mathematical economics?
3 What is the difference between mathematical economics and
econometrics?
Ref: p2-4

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 Economic models

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 Ingredients of a Mathematical model

Variables: something that can take on different values, example:

price, profit, revenue, etc. Each variable can assume various values
and presented by a symbol: Endogenous - value is determined by
the model and exogenous - value is determined outside the model.
An economic variable can be exogenous in some models and
endogenous in others. Symbols: x, y, z, t. dependent variables and
independent variables.
Constants: a magnitude that does not change. Variables frequently
appear in combination with fixed number or constants. Symbols:
1, 2, 3, a, b.
Parametric constants or parameters: a, b - supposed to represent a
given constant. However, it can take virtually any value. A
parameter is nevertheless to be regarded as a variable of a model.

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 Ingredients of a Mathematical model - 2

Equations: something that express the relation between variables:

definitional equations - set up identity between two alternate
expressions that have exactly the same meaning, behavioral
equations - specify the manner in which a variable behaves in
response to changes in other variables, conditional equation - state
requirements to be satisfied.
Example

π =R−C (definitional equation)

C = 75 + 10Q (behavioral equation)
Qd = Qs (conditional equation)

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 Examples - Partial market equilibrium

Law of supply and demand

supply and demand pull against each other until the market finds an
equilibrium price.


 P = P (Qs )
P = P (Qd )
Qs = Qd


Determine:
endogenous,
exogenous
variables.
Behavioral,
conditional
equations.
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 Examples - IS-LM schedule

Y =C +I +G
C = C(Y )
I = I(Y )
I = I(r)
M s = Md

Determine:
endogenous,
exogenous
variables.
Behavioral,
conditional
equations.
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 Elementary Linear Algebra and Analysis

Matrices, systems of equations, vectors: Markov chains, Leontief

Input-output models, linear models.
Analysis: differentiation, integration, implicit functions: (partial)
marginal values, (partial) elasticities, marginal (elasticity) rates of
substitution, (un)constrained optimizations and economical
interpretations.

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 A Summary of MEB (aka Toán Cao cấp)

Matrices and systems of linear Equations: Supply-demand

equilibrium models, Leontief I/O model, the National income
determination model, IS-LM model.
Differentiation: the first-order derivatives - marginal values,
elasticities, the second-order derivatives - differentials -
Optimization in Economics.
Partial differentiation: the first, second-order derivatives, marginal
values, elasticities, rates of substitution - geometric interpretation
of partial derivatives. Implicit functions.
Integration: (in)definite integral, rules, integral by parts, improper
integrals, economical applications: producer, customer’s surpluses;
from a marginal function to a total function, net investment and
capital formation.
Optimization: constrained, unconstrained optimization, Lagrange
multiplier: Utility maximization and production maximization.
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 Partial Market Equilibrium - One commodity

One-commodity model:

Qd = Qs
Qd = a − bP (a, b > 0)
Qs = −c + dP (c, d > 0)

Equilibrium solution:
a+c ad − bc
P∗ = , Q∗ =
b+d b+d
Hence, to be economically meaningful, the model should contain
the additional restriction that ad > bc.
More exercises: p34

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 Two-commodity Market model

Two-commodity model:

Qd1 = Qs1
Qd1 = ao − a1 P1 + a2 P2 (ao , a1 > 0)
Qs1 = −bo + b1 P1 + b2 P2 (bo , b1 > 0)
Qd2 = Qs2
Qd2 = αo − α1 P1 + α2 P2 (αo , α1 > 0)
Qs2 = −βo + β1 P1 + β2 P2 (βo , β1 > 0)

Find the equilibrium prices and quantities.

More exercises: p45

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 Complementary and Substitutable goods

Qd1 = ao − a1 P1 + a2 P2
Qd2 = −αo + α1 P1 + α2 P2

1 If the goods are substitutable, then an increase in the price of

good 2 would mean that consumers would switch from good 2 to
good 1, causing Qd1 to increase. Substitutable goods are therefore
characterised by a positive value of a2 , α2 .
2 On the other hand, if the goods are complementary, then a rise in
the price of either good would see the demand fall, so a2 , α2 is
negative.

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 National-Income Determination model

Y = C + Io + G o
C = a + bY (a > 0, , 0 < b < 1)

where Y and C stands for the endogenous variables national income

and consumption expenditure, respectively, and Io and Go represent the
endogenously determined investment and government expenditures.
With taxation T :

Y = C + Io + Go
C = a + b(Y − T ) (a > 0, 0 < b < 1)
T = d + tY (d > 0, 0 < t < 1)

Solve the model.

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 IS - LM Schedule

Y = C + Io + G o
C = a + bY (a > 0, , 0 < b < 1)

IS-LM schedule (with interest rate r and money supply Mo :

Y = C + I + Go
C = a + bY (a > 0, 0 < b < 1)
I = cr + d (c < 0, d > 0)
Mo = k1 Y + k2 r + k3
(k1 , k3 > 0, k2 < 0)

Solve the model. More exercises: p47

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 Leontief Input-Output Model

“ What level of output should each

of the n industries in an economy
produce, in order that it will just be
sufficient to satisfy the total
demand of that product?"

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 Structure of an Input-Output model
Assumptions:
1 Each industry produces only one homogeneous commodity, - if an
industry produces two different commodities or uses two different
possible factor combinations, then that industry may be broken
down into two separate industries.
2 Each industry uses a fixed input ratio (or factor combination) for
the production of its output.
3 Production in every industry is subject to constant returns to scale.
It follows that
in order to produce each unit of the j-th commodity, the input
need for the i-th commodity must be fixed amount, which we shall
denote by aij , and refer to as an input coefficient.
For example, a32 = 0.35 means that 0.35$ worth of the third
commodity is required as an input for producing a $ worth of the
second commodity.
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 Structure of Input-output Model - 2

Coefficient matrix:
 
a11 a12 ··· a1n
 a21 a22 ··· a2n 
A= .
 
.. .. .. 
 .. . . . 
an1 an2 · · · ann

Each column sum represents the partial input cost and must be
less than 1.
Final demand is a column vector b, including consumer demand,
government expenditure and export - import activities.
Let’s denote by xi the output level of industry i. Then

(I − A)x = d orx = (I − A)−1 d

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 The existence of nonnegative solutions

I − A is nonsingular (or invertible)

x∗ is positive.
The leading principal minors of a matrix
 
b11 b12 ··· b1n
 b21 b22 ··· b2n 
B= .
 
.. .. .. 
 .. . . . 
bn1 bn2 · · · bnn

are |B1 | = b11 and

b11 b12 b13

b11 b12
|B2 | = , |B3 | = b21 b22 b23 , . . . , |Bn | = det B
b21 b22
b31 b32 b33

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 The existence of nonnegative solutions - 2

Hawkins and Simon theorem

Given (1) an n × n matrix B with bij ≤ 0 for any i ̸= j, i.e. with all
off-diagonal elements non-positive), and (2) an n × 1 vector d ≥ 0;
there exists an n × 1 vectors x∗ ≥ 0 such that BX ∗ = d, if and only if

|Bm | > 0 for all 1 ≤ m ≤ n

i.e., if and only if the leading principal minors of B are all positive.

As a corollary, the Input-output model has positive solution if and only

if the leading principal minors of the Leontief matrix I − A are all
positive.
More exercises: p120

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 Static Analysis

Economic equilibrium is a condition or state in which economic

forces are balanced, i.e. characterized by a lack of tendency to
change. It is for this reason that the analysis of equilibrium is
referred to as static analysis. For example: Equilibrium in
market model (or supply-demand model), in National-Income
Determination model, IS-LM model, Input-Output model, Markov
chain.
Disadvantages: no analysis on the actual process of adjustments
and readjustments of the variables ultimately leading to the
equilibrium state.
The shifts of the equilibrium state pertain to a type of analysis
called comparative statics and the question of attainability and
stability of equilibrium falls within the realm of dynamic analysis.

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Statics, Comparative statics and Dynamic Analyses

Statics analysis

Comparative analysis
Initial assumed the equilibrium is attained
Equilibrium

Dynamic analysis
whether the equilibrium is attained

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 Comparative Analysis

1 Comparative Analysis:
Rate of change: Differentiation, marginal value.
Rate of percentage change: Differentiation, elasticity.
Rate of substitution: implicit derivatives, marginal substitution,
Elasticity substitution.
2 Comparative Statics Analysis:
Integration.
Optimization.

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 Differentiation

Differentiation: the first-order derivative,

f (x + ∆x) − f (x)
f ′ (x) = lim
∆x→0 ∆x

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 Rules of Differentiation

The sum and the difference rules, the product and the quotient
rules, the chain and the inverse rules.

f ′g − f g′
(f /g)′ =
(f ± g)′ = f ′ ± g ′ g2
(f g)′ = f ′ g + f g ′ df du
(f (u))′ = ×
du dx
f ′g − f g′
(f /g)′ = (f −1 )′ = 1/f ′
g2

Example
1 Given y = u3 + 2u, where u = 5 − x2 , find dy/dx by the chain rule.
2 Given y = 4x5 + x3 + 2x. Is x uniquely determined for each value
of y? If true, x can be considered as a function of y. Determine the
derivative of the later function, i.e. dx/dy.

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 The second-order Derivative, the Convexity

The second-order derivative:

f ′′ (x) = (f ′ )′

Concave and Convex:

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 Partial Differentiation

Let
f (x, y) = x2 y
Then

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 Notations

Notations
Let
z = f (x, y).
Then the partial derivative of f w.r.t. (with respect to) x is writtern as

∂z ∂f
or or fx
∂x ∂x

Example
Let
f (x, y) = x2 y
Then
∂f
= 2xy and fy = x2
∂x

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 Second-order derivatives
There are four second-order partial derivatives.
The function obtained by differentiating twice w.r.t. x:
∂2z ∂2f
or or fxx
∂x2 ∂x2
The function obtained by differentiating twice w.r.t. y:
∂2z ∂2f
or or fyy
∂y 2 ∂y 2
The function obtained by differentiating first w.r.t. x and then
w.r.t. y:
∂2z ∂2f
or or fyx
∂y∂x ∂y∂x
The function obtained by differentiating first w.r.t. y and then
w.r.t. x:
∂2z ∂2f
or or fxy
∂x∂y ∂x∂y
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 Examples

Example
Find expressions for the second-order partial derivatives of the
functions

a. f (x, y) = 5x4 − y 2 b. f (x, y) = x2 y 3 − 10x

Example
Find expressions for the partial derivatives f1 , f11 and f21 in the case
when
f (x1 , x2 , x3 ) = x1 x2 + x51 − x22 x3

Young’s theorem
If fxy and fyx are both continuous then

fxy = fyx

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 Total Differentials
Let z = z(x, y) be a function of two (independent) variables x and y.
Then
∆z = z(x + ∆x, y + ∆y) − z(x, y)
= z(x + ∆x, y + ∆y) − z(x, y + ∆y) + z(x, y + ∆y) − z(x, y)
∂z ∂z
≈ ∆x + ∆y
∂x ∂y
When ∆x, ∆y → 0, we have
∂z ∂z
dz = dx + dy.
∂x ∂y
This is defined as the total differential of z.
Example
Determine the total differential of z = x2 + y 3 and estimate the change
on z at (xo = 50, yo = 50) when both inputs increase by 1 unit.
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 Rules of Total Differential

dk = 0 (constant-function rule)
d(cun ) = cnun−1 du (power-function rule)
d(u ± v) = du ± dv (sum-difference rule)
d(uv) = udv + vdu (product rule)
u 1
d = 2 (vdu − udv) (quotient rule)
v v

Example
Determine the total differentials of the following functions:

a) z = xy d) z = xex
b) z =x+y e) z = Axα y β
c) z = ex+y f) f = Axα y β + z(M − ax − by)
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 Second-order Total Differentials

Given z = f (x, y), then

d2 z = fxx dx2 + 2fxy dxdy + fyy dy 2

Example
Given z = x3 + 5xy − y 2 , then

dz = (3x2 + 5y)dx + (5x − 2y)dy

d2 z = 6xdx2 + 10dxdy − 2dy 2

At the point (x = 1, y = 2), we have

dz = 13dx + dy and d2 z = 6dx2 + 10dxdy − 2dy 2

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 Total Derivatives - 1 variable

Let y = f (x, w) be a function where x = g(w). Then y is a

function of w and
dy dx ∂y dx ∂y
= fx + fw = +
dw dw ∂x dw ∂w
The above equation can be obtained by firstly differentiation the
function y totally and then dividing through by dw.
Let y = f (x1 , x2 , . . . , xn , w) where x1 , . . . , xn are functions of w.
Then
dy ∂y dx1 ∂y dx2 ∂y dxn ∂y
= + + ··· + +
dw ∂x1 dw ∂x2 dw ∂xn dw ∂w

Example
Determine the total derivative of z = y ln ex where y = x2 .

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 Total Derivatives - 2 variables
Let y = f (x1 , x2 , . . . , xn , u, v) where x1 , . . . , xn are functions of
u, v. Then
dy ∂y ∂x1 ∂y ∂x2 ∂y ∂xn ∂y
= + + ··· + +
du ∂x1 ∂u ∂x2 ∂u ∂xn ∂u ∂u
Since y can be considered as a function of 2 independent variables
u and v, we should use another notation for the total derivative,
instead of dy/du.
ðy ∂y ∂x1 ∂y ∂x2 ∂y ∂xn ∂y
= + + ··· + +
ðu ∂x1 ∂u ∂x2 ∂u ∂xn ∂u ∂u

Example
Determine the total derivatives of z = y1 ex1 + y2 sin(2x2 ) where
y1 = x1 + x2 and y2 = x1 x2 .

More exercises: page 193-194.

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 Optimization

Stationary points:

f ′ (x) = 0

Local maximum:
 ′
f (x) = 0
f ′′ (x) < 0

Local minimum:
 ′
f (x) = 0
f ′′ (x) > 0

Stationary point of inflection:

 ′
f (x) = 0
⇒
f ′′ (x) = 0
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 Higher-order Derivative Test

f ′ (xo ) ̸= 0: xo is not local maximum or minimum.

f ′ (xo ) = 0, f ′′ (xo ) > 0: local minimum.
f ′ (xo ) = 0, f ′′ (xo ) < 0: local maximum.
f ′ (xo ) = 0, f ′′ (xo ) = 0, f ′′′ (xo ) ̸= 0: inflection point.

N th-Derivative test
Let f (x) be a function so that we can its N -th derivative. Assume that
there is a point xo so that f ′ (xo ) = · · · = f (N −1) (xo ) = 0 and
f (N ) (xo ) ̸= 0.
1 If N is odd then xo is an inflection point.
2 If N is even and f (N ) (xo ) < 0 then xo is a local maximum point.
3 If N is even and f (N ) (xo ) > 0 then xo is a local minimum point.

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 Higher-order Derivative Test - Practice

Example
Find the stationary values of the following functions:

(a) y = x3 (b) y = −x4 (c) y = x6 + 5

Determine by the N th-derivative test whether they represent local

maximum, minimum, or inflection points.

More exercises: page 254

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 Unconstrained Optimisation

One variable Two variables

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 Saddle points vs Max-min points

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 Second-order Derivatives test

1 Solve the simultaneous equations


fx (x, y) = 0
fy (x, y) = 0

to find the stationary points.

2 2 > 0 at (a, b) then the function
If fxx > 0, fyy > 0 and fxx fyy − fxy
has a minimum at (a, b).
3 2 > 0 at (a, b) then the function
If fxx < 0, fyy < 0 and fxx fyy − fxy
has a maximum at (a, b).
4 2 < 0 at (a, b) then the function has a saddle point at
If fxx fyy − fxy
(a, b).

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Second-order condition in Total Differentials approach

Let z = f (x, y) be a 2-variables function which has a stationary point

(xo , yo ), i.e. fx (xo , yo ) = fy (xo , yo ) = 0 or df (xo , yo ) = 0.
If d2 f (xo , yo ) > 0 for arbitrary values of dx and dy, not both zero,
then (xo , yo ) is a local minimum point of f .
If d2 f (xo , yo ) < 0 for arbitrary values of dx and dy, not both zero,
then (xo , yo ) is a local maximum point of f .
If the sign of d2 f (xo , yo ) is positive for some values of dx and dy,
but negative for others, then (xo , yo ) is a saddle point of f .

Example
Find the extreme value(s) of z = x2 + xy + 2y 2 + 3.

More exercises: p300-301.

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 2-Variable Case

Let
z = f (x1 , x2 , x3 )
Then
dz = f1 dx1 + f2 dx2 + f3 dx3
d2 z = f11 dx21 + f12 dx1 dx2 + f13 dx1 dx3
+f21 dx2 dx1 + f22 dx22 + f23 dx2 dx3
+f31 dx3 dx1 + f32 dx3 dx2 + f33 dx23
Once again,
x∗ = (x∗1 , x∗2 , x∗3 ) is a stationary point if df (x∗ ) = 0.
x∗ is local minimum if d2 z(x∗ ) > 0 for arbitrary dx, dy, dz, not all
zero.
x∗ is local maximum if d2 z(x∗ ) < 0 for arbitrary dx, dy, dz, not all
zero.
x∗ is saddle if d2 z(x∗ ) changes its sign.

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 Hessian determinant test - Leading principal minors

z = f (x1 , x2 , x3 )
Then
d2 z = f11 dx21 + f12 dx1 dx2 + f13 dx1 dx3
+f21 dx2 dx1 + f22 dx22 + f23 dx2 dx3
+f31 dx3 dx1 + f32 dx3 dx2 + f33 dx23
The symmetric Hessian determinant:

f11 f12 f13

|H| = f21 f22 f23
f31 f32 f33

whose leading principal minors are

f11 f12
|H1 | = f11 |H2 | = |H3 | = |H|
f21 f22

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 Hessian Determinant test
By using the theory of quadratic forms (p304), we get
Hessian determinant test for 3-variables case
If x∗ is a stationary point of z, i.e. dz(x∗ ) = 0, then the following
statement is hold:
 
∗ ∗ maximum
z ≡ z(x ) is a if
minimum
|H1 | < 0, |H2 | > 0, |H3 | < 0 (d2 z negative definite)
 

|H1 | > 0, |H2 | > 0, |H3 | > 0 (d2 z positive definite)

Example
Find the extreme values of the following functions.
z = x21 + 3x22 − 3x1 x2 + 4x2 x3 + 6x23
z = x1 x3 + x21 − x2 + x2 x3 + x22 + 3x23
z = x41 − 16x21 + x22 + x2 x3 + x23
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 n-Variable Case

z = f (x1 , x2 , . . . , xn )
The total differential will then be
dz = f1 dx1 + f2 dx2 + · · · + fn dxn
The Hessian
f11 f12 ··· f1n
f21 f22 ··· f2n
|H| = . .. .. ..
.. . . .
fn1 fn2 · · · fnn

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 Constrained Optimization
Let us consider a consumer with the simple utility function
U = x1 x2 + 2x1
To render the optimization problem meaningful, a budget constraint
should be incorporated into the problem. If the consumer intends to
spend a given sum, say, $60, on the two goods and if the current prices
are
P1 = 4, and P2 = 2,
then the budget constraint can be expressed by
4x1 + 2x2 = 60
The problem now is to

optimize U = x1 x2 + 2x1
subject to
4x1 + 2x2 = 60

Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 51 / 80

 An illustration by Graph

Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 52 / 80

 Example - Practice

Solve
optimize U = x1 x2 + 2x1
subject to
4x1 + 2x2 = 60

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 Constrained Optimization and Lagrange-multiplier

optimize U = x1 x2 + 2x1
subject to
4x1 + 2x2 = 60

Idea of the method: is to convert a constrained optimization

problem into a form of unconstrained optimization problem.
The (corresponding) Lagrangian function of is of 3-variables:

L(x, y, λ) = x1 x2 + 2x1 + λ(60 − 4x1 − 2x2 )

For then the first-order condition for unconstrained optimization

will consist of the set of simultaneous equations:

Lλ = 60 − 4x1 − 2x2 = 0
L1 = x2 + 2 − 4λ = 0
L2 = x1 − 2λ = 0

Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 54 / 80

 Lagrange-multiplier method

optimize z = f (x1 , x2 , . . . , xn )
subject to
g(x1 , . . . , xn ) = c
It follows that the Lagrangian function will be
L = f (x1 , x2 , . . . , xn ) + λ[c − g(x1 , x2 , . . . , xn )]
for which the first-order condition will consist of the following (n + 1)
simultaneous equations:
Lλ = c − g(x1 , . . . , xn ) = 0
L1 = f1 − λg1 = 0
······
Ln = fn − λgn = 0
If x = (x∗1 , . . . , x∗n ) is a solution of the constrained optimization then
there is λ∗ so that (x∗1 , . . . , x∗n , λ∗ ) is a root of the above system.
Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 55 / 80
 The case of more than one constraint
When there is more than one constraint, the Lagrange-multiplier
method is equally applicable, provided we introduce as many such
multipliers as there are constraints in the Lagrangian function. For
example,

optimize z = f (x1 , x2 , . . . , xn )
subject to
g(x1 , . . . , xn ) = c and h(x1 , . . . , xn ) = d

Then we can define:

L = f + λ[c − g(x1 , . . . , xn )] + µ[d − h(x1 , . . . , xn )]
The first-order condition consists of
Lλ = c − g(x1 , x2 , . . . , xn ) = 0
Lµ = d − h(x1 , x2 , . . . , xn ) = 0
Li = fi − λgi − µhi (i = 1, 2, . . . , n)
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 The Bordered Hessian

optimize z = f (x, y)
subject to
g(x, y) = c

The bordered Hessian:

0 gx gy
|H| = gx Lxx Lxy
gy Lyx Lyy
 
maximum point
(x∗ , y ∗ )
is a of z subject to g(x, y) = c
minimum point
0 gx gy  
>0
if and only if gx Lxx Lxy (ref. p358)
<0
gy Lyx Lyy

Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 57 / 80

 n-Variable Case

0 g1 g2 ··· gn
g1 L11 L12 ··· L1n
optimize z = f (x1 , x2 , . . . , xn ) |H| = g2 L21 L22 ··· L2n
subject to .. .. .. .. ..
. . . . .
g(x1 , x2 , . . . , xn ) = c gn Ln1 Ln2 ··· Lnn

L = f (x1 , . . . , xn ) + λ(c − g(x1 , . . . , xn ))

Condition Maximum Minimum

First-order Lλ = L1 = · · · = Ln = 0 Lλ = L1 = · · · = Ln = 0
necessary
Second-order |H2 | > 0, |H3 | < 0,
sufficient |H4 | > 0, . . . , (−1)n |Hn | > 0 |H2 |, |H3 , . . . , |Hn | < 0
Remark. H is an (n + 1) × (n + 1)-matrix, |Hi | is the first (i + 1) × (i + 1)
principal minor.

Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 58 / 80

 Multiconstraint Case

optimize z = f (x1 , x2 , . . . , xn )
subject to
g j (x1 , x2 , . . . , xn ) = cj for j = 1, .., m

0 g1 g2 ··· gn
g1 L11 L12 ··· L1n
|H| = g2 L21 L22 ··· L2n
.. .. .. .. ..
. . . . .
gn Ln1 Ln2 · · · Lnn

L = f (x1 , . . . , xn ) + λ1 [c1 − g 1 (x1 , . . . , xn )]+

+ · · · + λm [cj − g j (x1 , . . . , xn )]

The same second-order sufficient condition is applicable to this case as

well.
Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 59 / 80
 Constrained optimisation on Production functions

Let us suppose that a firm wants to maximise output and that the
production function is of the form

Q = f (K, L)

Let the costs of each unit of capital and labour be PK and PL ,

respectively. So if the firm has a fixed amount, M , to spend on these
inputs, then
K · PK + L · PL = M

maximise Q = f (K, L)
subject to
K · PK + L · PL = M

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 Constrained optimisation on Production functions

maximise Q = f (K, L)
subject to
PK K + P L L = M

At the point A, the maximum point,

PL At the maximum point
(based on the line) MRTS =
PK PL MPL MPL MPK
= or =
MPL PK MPK PL PK
(based on the curve) MRTS =
MPK

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 Constrained optimisation on Production functions

At the maximum point

PL MPL
=
PK MPK

MPL MPK
=
PL PK

So when output is maximised subject to a cost constant,

the ratio of the input prices is equal to the ratio of their marginal
products.
the ratio of marginal product to price is the same for all inputs.

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 Constrained optimisation on Utility functions

At the maximum point

P1 U′
M aximise U = U (x1 , x2 ) = x′ 1
P2 Ux2
subject to
P1 x1 + P2 x2 = M
Ux′ 1 U′
= x2
P1 P2
So when utility is maximised subject to a budgetary constraint,
the ratio of the prices of the goods is equal to the ratio of their
marginal utilities.
the ratio of marginal utility to price is the same for all goods
consumed.

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 Practice Problem

Example
An individual’s utility function is given by U = x1 x2 where x1 and x2 denote
the number of items of two goods, G1 and G2. The prices of the goods are $2
and $10, respectively. Assuming that the individual has $400 available to
spend on these goods, find the utility-maximising values of x1 and x2 . Verify
that the ratio of marginal utility to price is the same for both goods at the
optimum.

Example
A firm’s total cost function is given by

TC = 3x21 + 2x1 x2 + 7x22

where x1 and x2 denote the number of items of goods G1 and G2,

respectively, that are produced. Find the values of x1 and x2 which minimise
costs if the firm is committed to providing 40 goods of either type in total.

Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 64 / 80

 Practice Problems
Example
A consumer’s utility function is given by

U (x1 , x2 ) = 2x1 x2 + 3x1

where x1 and x2 denote the number of items of two goods G1 and G2 that are
bought. Each item costs $1 for G1 and $2 for G2. Use Lagrange multipliers to
find the maximum value of U if the consumer’s income is $83. Estimate the
new optimal utility if the consumer’s income rises by $1.

Example
Use Lagrange multipliers to find expressions for x1 and x2 which maximise
the utility function
1/2 1/2
U = x1 + x2
subject to the general budgetary constraint

P1 x 1 + P2 x 2 = M
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 Differentiation - Marginal values and Elasticities

Marginal value:
the absolute change on f
≈ f ′ (x)
the absolute change on x
Interpretation: The marginal value of f at x = xo estimates the
absolute change of f when the variable x increases by 1 unit.
Elasticity:
the percentage change on f x
≈ f ′ (x) ×
the percentage change on x f (x)

Interpretation: The elasticity of f at xo estimates the percentage

change of f when the variable x increases by 1%.
The demand is said to be (unit, in)elastic at xo if
|ϵd (xo )|(=, <) > 1.

Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 66 / 80

 Partial Differentiation - Partial Marginal values and
Elasticities

Given an economical function f (x1 , x2 , . . . , xn ),

The partial marginal value of f with respect to the variable
(w.r.t.) x1 :
∂f the absolute change on f
≈
∂x1 the absolute change on x1
The partial elasticity of f with respect to the variable (w.r.t.) x1 :

x1 the percentage change on f

fx′ 1 × ≈
f (x1 , . . . , xn ) the percentage change on x1

Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 67 / 80

 Substitution Rates

The marginal rate of substitution (MRS) is the amount of an

input needed to increase to maintain the level of the output when
another input falls down to 1 unit.
Example. Given a product function Q = Q(K, L), the marginal
rate of technical substitution, denoted by MRST, at (Ko , Lo ) is
the amount of capital needed to add to maintain the output
Qo = Q(Ko , Lo ) when the amount of labour is reduced by 1 unit.
Example. Given a utility function U = U (x1 , x2 ), the marginal
rate of commodity substitution, denoted by MRCT, is the amount
by which one input needs to increase to maintain a constant value
of utility when the other input decreases by 1 unit.

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 Marginal rate of Commodity substitution

If y = y(x1 , . . . , xn ) is an implicit
function given by

F (y, x1 , . . . , xn ) = 0

then
∂y F′
= − x′1
∂x1 Fy
Given U = U (x1 , x2 ). Then

dx2 Ux1
MRCS = − =
dx1 Ux2

Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 69 / 80

 Comparative statics analysis on Market model

∂P ∗ 1
=
Q = a − bP (demand) ∂a b+d
∂P ∗ a+c
Q = −c + dP (supply) =−
∂b (b + d)2
∂P ∗ 1
=
Equilibrium: ∂c b+d
∂P ∗ a+c
=−
∂d (b + d)2
a+c ad − bc
P∗ = , Q∗ =
b+d b+d

Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 70 / 80

 Integration

Integration: (in)definite integral, rules, integral by parts.

Applications: producer, customer’s surpluses; from a marginal

function to a total function; net investment and capital formation.

Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 71 / 80

 Consumer’s surplus

Consumer’s surplus is the excess cost that a person would have been
prepared to pay for goods over and above what is actually paid.

ZQo
CS = −Qo Po + f (Q)dQ
0

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 Consumer’s surplus - from Investopedia

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 Producer’s surplus

Producer’s surplus is the excess revenue that a producer has actually

received over and above the lower revenue that it was prepared to
accept for the supply of its goods.

ZQo
PS = Qo Po − g(Q)dQ
0

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 Producer’s surplus - from Investopedia

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 Investment and Capital formation

Net investment, I, is defined to be the rate of change of capital

stock, K, so that
dK
I=
dt
Here, I(t) denotes the flow of money, measured in dollars per year,
and K(t) is the amount of capital accumulated at time t as a
result of this investment flow and is measured in dollars.
If the fund is to provide a continuous revenue stream for n years at
an annual rate of S dollars per year, then the present value can be
found by evaluating the definite integral
Zn
P = Se−rt/100 dt
0

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 Marginal functions to Original functions
Since MC = (TC)′Q , MR = (TR)′Q , we have
Z Z
TC = MCdQ, TR = MRdQ

Example
a. A firm’s marginal cost function is M C = 2. Find an expression for
the total cost function if the fixed costs are 500. Hence find the
total cost of producing 40 goods.
b. The marginal revenue function of a monopolistic producer is
M R = 100 − 6Q. Find the total revenue function and deduce the
corresponding demand function.
c. Find an expression for the savings function if the marginal
propensity to save is given by MPS = 0.4 − 0.1Y −1/2 . and savings
are zero when income is 100.
More exercises: p470
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 Dynamic Analysis

Dynamic Analysis is a type of analysis in which the object is either to

trace and study the specific time paths of the variables or to determine
whether, given sufficient time, these variables will tend to converge to
certain equilibrium values.
In a dynamic analysis, the question of “attainability" is to be
squarely faced, rather than assumed away.
On salient feature of dynamic analysis is the dating of the
variables, which introduces the explicit consideration of time into
the picture. This can be done in two ways: time can be considered
either as a continuous variable or as a discrete variable.

Hà Văn Hiếu (UEL) Mathematical Economics 10th October 2022 78 / 80

 Projects

Team work
(Discrete) Markov chain in Economics and Finance.
Applications of Linear Algebras.

Projects
Leontieff I-O model and applying in Economics and/or Finance: an
evidence in Vietnam (Ref. (1) Using Solow and I-O models to determine the
Factors impacting Economic Growth in Ho Chi Minh City - Nguyen Thi
Canh; (2) Vietnam Economic Structure Change Based on Vietnam
Input-Output Tables 2012 and 2016 - Bui Trinh).

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 Any question?

Thank you!

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