NEN ei Xe) ele) envio} NiGregoryylankiw Cet ee Neen areca ICTS ee U Ren acer Freee es es ene Tee = what determines the economy's ot ‘utputincame | = now te prices ofthe actors of production are determined = how total income i sributed Outline of model [closed economy, market-learing medal = Supply side * factor marks (upp, demand, pice) * dotemiation of eulputincome + Demand side * deteminants of land & + Equitriom * goods market *Toonabl funds maret Factors of production pita: tool, machines, and structures usd in production the physical and mental eons of ‘The production function: ¥ shows how much ouput (¥) {he economy can produce rom ‘Kunis of expt and L unis of labor * roflocsthe economy's level of technology Returns to scale: A review Intiaty ¥, = FKL) Scale al ious by he same factor inathappensto ctl Y= F Lal? + inersasingrtuns tose Returns to scale: Example 1 Fun) = JRC Flak 2 ve FF ae Fine) = VRE Flak.) = aR Returns to scale: Example 3 FUG) = Kok lax 2b) = (ek)! (2b) = FURL) = FFIKL) Returns to Scale * Determine whether each of hase production functions has constant, decreasing, Increasing retumns to sal: (2) Fut) = (b) FG) = Kk ) = FFL) rte io scle Answers, part (a) ri = rent) = RP ‘Answers, part (b) FURL) = Kk Flak 2h) = anak = HK) FRU) tier ey 20 Assumptions Technology i fed 2 Tho economy's suplis of capital ad labor refed at K-K ana Determining GDP ‘uiput is detained bythe Red acto supp and the fe tate oftacnolony: Y=F(KL) ‘The distribution of national income * determine by factor prices the pices pe uni fms pay othe factors of productonrominal renal at pres foto WIP «eal wage (ensured in nts ot up) How factor prices are determined * Factor prices are dotormined by supply and ‘demand in factor martts, * cal: Supply of each factors fed + wat about demand? Demand for labor * Assume markats are competive: vf takes W, Rand Pas give, = Basic ise ‘tim res each unt abor iftne cot does not exceed he benef. MPL and the production function ing marginal returns * Asa factor inputs ncreased, i merge prc (tw thing anal) * tution ‘Suppose TL whl aldng K fed = fewer machines por werkor lower worker roducvty Marginal prodoct of labor (MPt} Now You TRY: ow you Ty: soins aoa Compute & graph MPL Answers * ction Sheena oupt the rm an produce Det MPL teach ee erence ‘ing an tonal unto abor veueot le: i {raking ather inputs fixed): 1. Graph the production Be i — MPL = FURL H)= FURL) wear > h 6 Gap he HPL ie > : MPL on pe vere acs ons . : — {ont tz is. See Re eee ri Identifying Diminishing Marginal Returns * wri ose proaucton tnt nave minishing marginal returns labor? 8) FUKL) = 2K +184, b) FOK,L) ~ JR ©) F(K,L) = 2VK + 150 MPL and labor demand Suppose WIP = 6 + HL=3, shuld tem nie ‘mor orless labor? Why? + ML=7, souk fem hire tora ores labor? Why? ‘MPLand the demand tor labor sae Exch mies bor Determining the rental rate * Wo havojust son tat MPL = WP. "The same loge shows that MPK = RIP * cmiishing tums to captak MPK Las KT "The MPA curse ho fms demand cure forrentng capt "Firms maximize profs by choosing K The Neoclassical Theory of Distribution * sats that each factor inputs paid ts marginal product ‘+ a good staring point fr thinking about incomeHow income is distributed to L and K totattabor income © ME = MPL AZ eK toa apa ncome = Itproductontuaton has constant tus to = MPLxL + MPK«R wees ‘The ratio of labor income to total income Inthe U.S, 1960-2007 |_________} eee | ‘The Cobb-Douglas Production Function "= The Cobb-Douglas production fnction has constant factor shares a= capita’ share of talincome Captatincome = MPAs K = @¥ laborinoome = MPL xL = (1=<)¥ + The Gobo-Dougies production faction i a - (iu, apf sores eo Y =AKeL or apa whore rprecons the level of technology ‘The Cobb-Douglas Production Function Labor productivity and wages ‘Outline of model * Each facto's marginal products proportional 6 Is average produc: MPR = 0 AK MPL =(1-@)AK "= * Theory: wages depend on labor productivity + US. dat ‘closed economy, maret-clering mode! Sunnyside DONE. Wsctr mart (sy, demand rie) racy | walwape ated | orth | “pom DONE *eteminaion of culptincome Teseamor [arm | 20% a ‘esos | aan | 2a Next 9 delaminanis of € ond @ varssas | tax | 12% ‘ul veaszoor | ase | 24% ‘god matt Demand for goods & services ‘Components of aporeate demand C= consumer demand org & = emané for ivestment goods {G= government demand for 8S (closed economy: no NX) ‘Consumption, C * det: Disposable income'statalincome minus * Consumption function: = C(Y— 7) Shows that (¥=T)=> 16 * dat: Marginal propensity to consume (MPC) Istre change inc hon dosti Income Incteases by oe dlr. Investment, I The invosent uncon s X= 7, hare F denotes he real interest ate, ‘he nominal tres ate corrected forint, Te rea inerest ate he cost of borowng tho opporuniy cost using one's own ‘nda fo oance investment pending So, trast ‘The investment function Spending on depends ngayon / toate, 1 Government spending, G © = govt spending on goods and services. = 6 exces vanster payments (eg. socal sant bane, ‘employment insurance Benes. = Assume goveenment spending and total taxes sre exogenous: ‘The market for goods & services * Agorogate demand: €F -F)+4(r)+@ * Agoregate supply; Y= F(R, E) * Equlibium: = WF) H()@ t otras rate aeusts demand with supply ‘The loanable funds market * simple supply-domand med of sytem. * One asso: “osnable funds" * demand frtunds: lavestment + supply finds: saving pie funds: real interstate Demand for funds: Investment “The demand for loanabl funds * comes tom investment:Loanable funds demand curve 10) Supply of funds: Saving + Tho supply floanable funds comes fom eaviog * Households use thes saving lo make bank deposi, purenace bonds and oer asses ‘Those nas become avatabl to ms ‘ore to france investment spendin, * Tho goverment may alo contbute to avg iitdoos ot spend al the tax reverse Types of saving private saving =(¥-T)-C publicsaving = 7-6 ational saving, $ ato saving + pub saving vt) + T-6 yec-6 Notation: change in a variable * Focanyvatale X. AX =the change n° is the Greek (pease ltr Data Erol: sae ard AK=0, tin AY = MPL, Nore generat aK=0, en wre *% SAT) © ay-ar, 30 ac = mPCx(ay- ar) Mec ay — pe ar Calculate the change in saving ‘Suppose MPC = 08 and MPL = 20. Foc each ofthe flowing, compute AS = AG =100 AY =100) 4 ak = 10 Answers ‘ay -0a(ay a7) a. as =—100 b, as = 08100 = 90 AS = 02-100 = 20 4. AY MPLiat - 20.10 ~ 200, AS = 02<4¥ = 0.24200 = 40, Budget surpluses and deficits 17> @, budget surplus = (7- @) pti soving + T<6, budget defeit = (6-7) ‘and pute saving is naga. + T= 6, ‘alancod budget * The US. government ances its tt by Issuing Treasury bonds ~ Le. borowing. publi savin U.S, Federal Government Surplus/Defcit, Fact: ay 180s sot efor tes 30 ca) Loanable funds supply curve Loanable funds market equilibrium ‘The special role of . 5 -¥-e0-7)-6 , sew) 7 aaj equ ho goods mare and be Toonble nds mart stants dosnt LF. martetin eau, nen Se ety |Fearur ear! mec ‘i seta letersi” | ed (C6) both sos oot Y= 641+ 6 (20d mart can) m0) seus, sr faz t—s EamOLF gy Eaimingroes Digression: Mastering models “Tomastera model, be sure to know 4. Which of variables are endogenous and hich are exogenous. 2, For each curve nthe cara, know «8. efnion intuition or sope 3. Use the modo to analyze the effacs ofeach min 26 Mastering the loanable funds mode! Things that si he saving cove = pe saving "fiscal pty: changes in Gor T = pate saving peferencns "alas ht aft aving rt) replace income tx wh consump ax ‘CASE STUD) The Reagan deficits ‘= Reagan plies during eal 19805: ‘increases in defense spending: AG >0 big taxcut: a0 = Both poces reduce national saving 5-7-0 -7)-6 Tesie ratesiscase or sete ct con th es ett ‘he Reagan aes Te eects of sving incentives immed) ae ss rs «tere bt Ene oe es ence itis , : eet es which uses “I s a va {Assume that total tax revenue T does not change) gees | | ras «Yea eat sae arcane 7m axa | Now You TRY: Mastering the loanable funds model, ‘continued “Things that shit he investment curve Tes ust buy new rwestnet goods ‘An increase in investment demand SE = rai a s7 ‘Saving and the interest rate * my might saving depend on * How woul the results of an nereace in investment demand be diferent * Would ria as mucn? Would he quit vate ot change? {an increase in investment demand when saving depends on r sama fener al Kr | Ne? uh St Fit: Markets, Intermediaries, the 2008 Crisis tn ne rea wot fms have several options for “erro fom banks * sot bon o savers + So share of sock (nership) to savers +The rancal sytem nce: * bond and stock mathats, where savers dvecty provide undo fs fr ivestment. + Snail ilomedaries, 6.9 banks. insurance companies, mutual funds, where savers Inert prvi funds to fms for investrant FUE Markets, Intermediaries, the 2008 Crisis + Intermediaries can help move funds to her ‘ost productive uses, + But when nlermediaris ae involves, savers usualy donot kom what investments their unds are fnancing + Inermedianis were at he heart ofthe nancial crs of 2008, FYI: Markets, Intermediaries, the 2008 Crisis ‘few details onthe financial es: * ly 06 to Dec 08: house pcos fo 27% * Jan ‘08 ta Dac 08: 2:3 millon foreclosures * Many banks, franca inttions hong rmorgages or morgage backed secwites ‘ven to near baneuptey * Congress authorized $700 bilo to help shore ‘op Franca inetutons eee eee * Adocrease in national saving causes the Inerest rate oro and investment of * fn increase investment demand causes the Interest rat oro, but dos not afect he gulls lve of vestment if te supply ofloanabie funds is feed. eee = Total output determined by * te economy's quantities of capital and labor * te lve of technology * Compete frm hire each factor unt marginal product equal its pico. * tthe poduction uncon has constant etuns to eal, then vor income ps capital Income equals total Income (out. A closed economy's ouput is used fr * consumo ‘investment * government spending The eal intrest rate aust to equate the demand for ana supply of * goods and services ‘Tosnabie funds