Econ 415/615 Mathematics for Economists Lau

Problem Set IV Fall 2021

2-variables Unconstrained optimization

1) Suppose the production function of a perfect competitive firm is Y = f ( K , L) = ln K + L

Let P = $3, w = $2, and r = $1 .

a) Calculate the profit-maximizing output?
b) Check the second order conditions.

1
2) Suppose the production function of a perfect competitive firm is Y = f ( K , L) = KL
2

Let P = $3, w = $2, and r = $1 .

a) Calculate the profit-maximizing output?
b) Check the second order conditions.

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Econ 415/615 Mathematics for Economists Lau
Problem Set IV: Solution

1) Problem: max  = Pf ( K , L) − wL − rK = 3(ln K + L ) − 2 L − 1K

K ,L

FONC:
 3
= −1 = 0  K* = 3 (1)
K K
 3 3 9
= −2=0  L* =  L* = (2)
L 2 L 4 16
9 3
Profit-maximizing output: f ( K , L) = ln K + L = ln 3 + = ln 3 +
16 4
SOSC:
3
 KK = −  0 (fulfilled)
K2
3 3
3 1 − 3 −
 LL = (− ) L 2 = − L 2  0 (fulfilled)
2 2 4

−2
  KL −3K 0
9 −2 −3 / 2
H = KK = 3 −3 / 2 = K L  0 ( fulfilled )
 LK  LL 0 − L 4
4
1

2) Problem: max  = pf ( K , L) − wL − rK = 3KL2 − 2L − 1K

K ,L

FONC:

1
1
= 3L2 − 1 = 0  L* = (1)
K 9

1 1
1 − 4
= 3K ( ) L 2 − 2 = 0  K*= L2 (2)
L 2 3
4
Substituting (1) into (2), we get K * =
9
SOSC:
 KK = 0 (not fulfilled)
3
3 1 − 3 −3 3 4 1 − 32
 LL = K (− ) L 2 = − KL 2 = − ( )( ) = −9  0 (fulfilled)
2 2 4 4 9 9
1 1 1
1 − 3 − 3 1 −
 KL =  LK = 3( ) L 2 = L 2 = ( ) 2 = 4.5
2 2 2 9
 KK  KL 0 4.5
H= = = −20.25  0 (not fulfilled)
 LK  LL 4.5 −9

Note that the Second Order Necessary Condition is not fulfilled, therefore we cannot conclude that it is
maximum. As a matter of fact, we will show that indeed there is no solution for this problem.

Why?

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Let's look at the production function f ( K , L) = KL2 and suppose ( K*, L*) is the optimal input
combination.

Now let's double the input.

Renenue' = p(2 K *) 2 L * = p(2)1.5 K * L *  2 pK * L * (more than 2 times the original revenue)

Cost' = w(2L*) + r (2K*) = 2(wL * +rK*) = 2 Cost (2 times the cost)
  ' = revenue' − cost'  revenue − cost  the firm can earn more by using more inputs

Since every time we double our inputs, the profit will increase  no profit-maximizing output