Chapter 1: Mathematical Preliminaries: B A y X y B X B y A

Essential Mathematics for Economics and Business
Chapter 1: Mathematical Preliminaries

Brackets
-have different purposes:
Ø { 3 * [ 5 - ( 6 : 2 ) ] + 10 ]= 16→Here they are needed for grouping items from
each other and serves a clarity purpose.
Ø ( 8 ) ( 3 ) ( 4 ) = 96→Here they are used to indicate multiplication.
Ø 2 * ( 8 + 3 ) = 22 Here they indicate the order in which a series of operations
should be carried out.
Ø → Here they are used to indicate the independent variable. Independent
variable is x.
Powers
-show how many times a number must be multiplied by each other
ex. 33 = 27, which implies 3 x 3 x 3
Variables and letters

-a given symbol (letter) for unknown quantity
ex. (x)
Square root (√)

-the inverse of the square of a number
ex. 32 = 9 → √9 =3
Note:
but
Addition
-if all terms in equation have the same sign, the answer is the sum of the absolute values of
terms with the appropriate sign
ex. 6 + 4 + 5 + 11 = 26
- 2 - 15 - 5 - 10= - 32
Subtraction
-if terms in equation have different signs, the answer is sum of positive terms minus absolute
value of negative terms, and the sign of the answer is the sign of terms which absolute value
is the largest
ex. - 7 + 9 - 12 - 14 - 3 + 8 + 3 = ( 9 + 8 + 3 ) - ( 7 + 12 + 14 + 3 ) = 20 - 36
Ø Symbols
ex. 2x + 3y + 4z + 4x - y - z = 6x + 2y + z
a x a× y −b× x
ex. - = , where b and y can both be not equal to zero
b y b× y
Ø Number and symbols

ex. 1 + 2x - 4 - 5x = - 3 - 7x
a
Multiplication/ Division→ outcome of sign is dependent on amount of negative signs of the

quantities multiplied/ divided by each other (uneven number: negative outcome, even
number: positive outcome)
A x B, (A•B), (A*B), (AB) A times B (the product of A and B)

A
, (A/B) A divided by B
B
Ø Numbers
ex. 4 x ( - 3 ) x 5 / ( - 6 ) = 10 (even negative terms cancel each other out)
ex. - 8 x 6 / ( - 4 ) x ( - 2 ) = - 24 (uneven negative terms result in a negative
answer)
Ø Symbols
Ex.(x + y)² = (x + y)(x + y) = x · x + yx + xy + yy = x ²+ 2xy + y²
Ex. 2x/2 = x
a x a× x
Ex. × = , where b and y cannot be equal to zero
b y b× y
a /b a× y
Ex. = , where b, x and y cannot be equal to zero
x/ y b× x
Ø Other important identities

Ø (x − y)² = x ²− 2xy + y²
Ø (x + y)(x − y) = x ²− y²
Ø Fractions
• Please note that while dividing, the denominator cannot be equal to zero!
x −1
=0
x + 5 x + 11
2
x=1
→ because only zero divided by any number is zero

→ substitute x into the denominator to check that it does not equal zero
Equations and inequalities
Linear equations
• An equation is defined as an x-dependent mathematical expression
Example: 7x + 3 = 10
7x = 7
x=1
• Often we compactly denote an equation in the form f(x)
Example: f(x) = 7x + 3
The general form of equation is:
b
• A linear equation can have:

1). A unique solution
Example: x + 4 = 10
x=6
2). Infinitely many solutions
Example: x + y = 10
x = 10 − y where y can take on any value
3). No solutions
Example: 0 · x = 10
Quadratic equations
Ø For quadratic equation the solutions are
− b ± b − 4ac
2
x=
2a
Inequalities
A>B A is greater than B
A<B A is less than B
A≥B A is greater than or equal to B
A≤B A is less than or equal to B
1
Ø Example: x + ≤ 4 (thus x cannot be equal to zero)
x
X2 + 1≤ 4x
X2 - 4x + 1 ≤ 0
(x – 2)2 ≤ 3
-√3 ≤ x – 2≤ √3
2 - √3≤ x≤ 2 + √3
*because 2 - √3 is a positive number, x > 0

On a graph, there is difference between and
Rules:
a<b→a+c<b+c
a < b → ac < bc , c > 0
ab > 0 → a > 0 and b > 0
a < 0 and b < 0
ab <0 → a >0 and b < 0
a<0 and b > 0
a < b → ac < ab c>0
ac > ab c<0
-you can also use inequalities to define a certain range/ interval
ex. 10 < x < 20
→the variable x in this equation can thus take on all values between 10 and 20 (not
including end points)
c
Currency Conversions
Exchange rate: 1 unit of given currency = y units of required currency
To convert an amount (x) into another currency, use this equation, as follows
x units of given currency = x(y units of required currency)
For example, if the exchange rate for Us dollars is 1.32 British pounds and 1.23 euro,
1). Calculate the equivalent value of $850 in:
a). British pounds:
$1 = ₤1.32
$850 = ₤1.32 (850)
$850 = ₤1122
b). Euro’s:
$1 = €1.23
$850 = €1.23(850)
$850 = €1045.50
2). Now calculate the equivalent value of €400 in:

a). US dollars:
1
€1 = $
1.23
1
(400) · 1€ = (400) ۰ $
1.23
400€ = $325.20
b). British pounds:
1
€1 = $
1.23
$1 = ₤1.32
1.32
(400) · 1€ = £ (400) ۰ = £ 429.27
1.23
Percentages
20
20% of a number means: × number
100
x
If a number increases by x %, then the increase of the number is: number ×
100
The increased number (not the percentage but the value itself!) is thus:
number number x x
number + increase = +( × ) = number(1 + )
1 1 100 100
Basic knowledge on spreadsheets

Electronic spreadsheet =computer equivalent of paper ledger sheet
-involves easy number manipulation yet there is complex math behind it, it is an aid in
mathematical and statistical problem solving
-consists of a grid made from columns and rows

-the intersections of these columns and rows are called cells
d
o cells may contain the following data:

1. text (labels)
2. number data (constants)
3. formulas (mathematical equations that do all the work)
-Using Excel, you can:
§ open and save files

§ enter data
§ select cells
§ move, cut, copy, and paste contents of cells
§ copy a formula to a range of adjacent cells
§ choose commands from the menu bar
§ transfer files from the WWW into Excel
§ enter formulas
§ use functions and toolbar buttons
§ create and edit different types of charts
Chapter 2: The straight line and Applications

Is defined by the equation y = ax + b where:
1). x is the independent variable
2). y is the dependant variable and value of the linear function f(x) = ax + b for a given x
• to find the vertical intercept (VI)/ y-intercept, you have to make x = 0

-in the equation f(0)= a(0) + b, VI is thus b
• to find the horizontal intercept (HI)/ x-intercept, you have to make f(x) = 0
−b
-in the equation 0 = ax + b, HI is a , where a ≠ 0
-thus in the equation y= ax + b, b is the vertical intercept and a will be the slope
-if two points of an unknown linear equation are given, you can determine the values of a and
b and thereby the linear equation as shown below:
y1= ax1 + b
y2 = ax2 + b
Subtract these two equations from each other and you get:
Y1 − y2 = a(x1 − x2), where x1 ≠ x2
y1 − y 2
a=
x1 − x 2
Substitute this in the equation y=ax + b:
y1 − y 2
y= ⋅x+b
x1 − x 2
e
You can therefore derive the slope (a) by using the coordinates of the two points
In order to determine the value of b, we calculate in a similar manner:
Y1x2 = ax1x2 + bx2, y2 x1 = ax2 x1 + bx1
Subtract these two equations from each other and you get:
Y1x2 − y2 x1 = b(x2 − x1)
y1 x 2 − y 2 x1
b=
x 2 − x1
-A straight line can also be written in the form y = mx + c→ here the slope is represented by
m instead of a and the vertical intercept by c instead of b
y 2 − y1
→the same thing holds: m=
x 2 − x1
→the slope can also be written as: m = ∆y / ∆x , where ∆ = delta = change in y and x
→Or it can be written as: slope = change in height / change in distance
→and the y- and x-intercepts also can still be derived as follows:
vertical intercept = c
−c
horizontal intercept =
m
-We can rearrange the equation ax + by + d = 0 to obtain the following:
ax + by +d = 0
ax + by= -d
by = - ax – d
1 1
by = (−ax − d )
b b
1 (−ax) 1 − d
y= +
b 1 b 1
a d
y = -− x−
b b
−a
→slope(m) =
b
−d
→vertical intercept (b) =
b
f
− (− a / b ) a/b
→horizontal intercept (-m / b) = = −
− d /b d /b
Translations of y = f(x)
-Vertical translations:
↑ by c units → replace y with (y - c)

↓ by c units → replace y with (y + c)
-corresponding horizontal shift ∆x = ∆y / m
Ex. Given: y = 2x + 2
↑ by 2 units
y - 2 = 2x + 2
y = 2x + 4
↓ by 3 units
y + 3 = 2x + 2
y = 2x - 1
-Horizontal translations
← by c units → replace every x with (x – c)
→ by c units → replace every x with (x + c)
Ex. Given: y = 0,5x + 2
← by 2 units
y = 0,5(x + 2) + 2
y = 0,5x + 3
→by 4 units
y = 0,5(x+4) + 2
g
y = 0,5x+4
Mathematical Modeling
- A dynamical system (process): any finitely delimited portion of our universe
-where:
Ø the system input (I) is the action of the universe upon the system
Ø the system output (O) is the re-action of the system caused by the input
- A (mathematical) model: a (mathematical) description of a dynamical system.

-where:
Ø the model input (I) is the way we have represented the action of the uni-
verse upon the system
Ø the model output (O) is the result produced by the model when the model
input has been applied
- When is a model good?

• a model is considered good enough if the model output comes sufficiently close to the
system output (given the predefined qualities)
• a model has to substitute the system itself
-There are two methods to obtain a model, namely:

(0) System Identification Techniques (SIT)
(1) First Order Modeling Principles (FOMP)
(1). System Identification Techniques (SIT)
→input/ output
-you excite a system (input) and you get a response (output)
(I1,O1) … (In, On)
-modeling means determining a function → O = f(I) which best represents those points
O1 ≈ f (I1) ... O2 ≈ f (I2)
(2). First Order Modeling Principles (FOMP)

-is often used in engineering principles but not in business systems
-involves energy conservation
-certain universal laws of physics (ex. F = m*a)
-is used for the application to the dynamical system which is being questioned. The model is
the following relationship:
g(I,O, p) = 0, where p collects the model parameters
-Two main goals of modeling :

1) Analysis
→to try and forecast/ predict the future/ evolution of the dynamical system
h
(based on the model I/O behavior)
2) Synthesis
→to try and find the input (I) that obtains the desired system output (O)
(the system obeys us)
Economic Models
-can be divided into two types:

1) Microeconomic →only looking at individual firms
2) Macroeconomic →global (for instance, 106 times as big as a standard I/O model)
Linear Models
Ø A supply-demand model (in which X is the product)
1) Demand-law:
Q = f(P, Y, PS, A, · · · ), where:
• Q is the quantity demand of product X
• P is the price of product X
• Y is the income of the consumer
• PS is the price per surrogate (substitute) of product X
• A is the amount invested in advertising product X
2) Supply-law:
P = f(P,C,N, S, · · · ), where:
• P is the price of product X
• C is the production cost
• N is the number of producers on the market
• S is the level of subsidies, etc.
-opposite of subsidies is taxation
Ø These supply and demand laws are the most complex and realistic because they rely on
a lot of factors and have un-constant coefficients (that change with time for example)
Ø The simplest demand-law is the linear one with constant coefficients alpha (α) en beta
(β)
→Q = α + βP
i
Demand function P = 10 - 0.5Q

Inverse demand function Q = 20 - 2P
Supply function P = -5 + Q
Inverse supply function Q = 5 + P
Other basic economic modeling ingredients; Elasticity of Demand, Supply and Income
Price elasticity of demand (εd)
- measures the sensitivity of demanded quantity with respect to changes in the price
of the good which are being questioned. In other words, it shows by how many percent will
the quantity demanded change if the price increases by 1%.
% ∆Q (d )
εd = , where %ΔQ(d) is the change in demand, and %ΔP the change in price
% ∆P
-by multiplying n by (N/100), you obtain n% of N. Likewise:

( ∆f / f ) ∆f x
f ( x ) = ∆f = = ×
∆x / x) f ∆x
j
and accordingly:
% ∆Q (d ) 100 × (∆Q / Q) ∆Q P
εd = = = ×
% ∆P 100 × (∆P / P) ∆P Q
-when the demand-law is linear P = a + bQ then ΔP = bΔQ

-this implies that the point elasticity demand in a certain point (P 0,Q0) is:
εd =(ΔQ/ γΔQ) x (P0/Q0)

or
εd = (1/b) x (P0/Q0)
Example.
P = 100 - 5Q
Determine εd when Q = 8
P = 100 - 5*8 = 60
εd = 1/(-5) x (60/8) = -1.5
Quantity demanded will drop by 1.5% if price rises by 1% when Q=8 and P=60.
The elasticity of demand changes in the range of - < εd ≤ 0. It cannot be positive, because
of the law of demand which states that if the price of a good increases, the quantity of this
good demanded will decrease.
The range in which price elasticity of demand changes can be divided into 3 intervals:
Ø < εd < -1
- If elasticity of demand is lower than -1, we say that demand is elastic. It means that if price
rises by 1%, the quantity demanded will drop by more than 1%.
Ø εd = -1
-If elasticity of demand equals -1, we say that demand is unit elastic. It means that if price
rises by 1%, the quantity demanded will drop by exactly 1%.
Ø 1 < εd ≤ 0
-If elasticity of demand is more than -1 but still negative or equals zero, we say that demand
is inelastic. It means that if price rises by 1%, the quantity demanded will drop by less than
1%.
k
There are two special cases of demand elasticity. They are:

Ø εd = -
The demand is perfectly elastic.

Ø εd = 0
The demand is perfectly inelastic.
Factors Affecting the Price Elasticity of Demand

1). Availability of substitutes/products: the more possible substitutes/products, the
greater the elasticity.
2). Degree of necessity or luxury: luxury products tend to have greater elasticity.
3). Proportion of the purchaser's budget consumed by the item: products that
consume a large portion of the purchaser's budget tend to have greater elasticity.
4). Time period considered: elasticity tends to be greater over the long run because
consumers have more time to adjust their behavior.
5). Permanent or temporary price change: a one-day sale will evoke a different
response than a permanent price decrease.
6). Price points: decreasing the price from 2.00 to 1.99 may evoke a greater
response than decreasing it from 1.99 to 1.98.
Arc price elasticity of demand
§ As opposed to point elasticity, the arc elasticity measures the elasticity

over an interval on the demand function
§ Instead of using the price and quantity at a point as in point elasticity, arc elasticity
uses the average of the prices and quantities at the beginning and end of the stated
interval:
l
∆Q 1 / 2( P(1) + P(2)) ∆Q P(1) + P(2)

εd = × = =
ΛP 1 / 2(Q(1) + Q (2)) ∆P Q (1) + Q(2)
*note:here we use ½(P(1) + P(2)) and ½ (Q(1)+Q(2)) because

those are the middle points
§ This is called the midpoints elasticity formula or arc-price elasticity formula
§ When the demand-law is linear, then:
∆Q P(1) + P (2) 1 P (1) + P(2) ∆Q − 1

εd = × =− × , since =
∆P Q(1) + Q (2) b Q (1) + Q(2) ∆P b
(the slope)
P = a- bQ
bQ = a – P
a 1
Q= − ×P
b b
∆Q 1
=−
∆P b
Ex. P = 90 - 6Q → the slope of P is –b = -6
→ |b| takes on an absolute value = 6
90 1 1 1
Ex. Q = − × P → the slope of Q is − = −
6 6 b 6
Price elasticity of supply

§ is treated in a very similar manner as the price elasticity of demand
§ the co-efficient will be positive because of the positive slope, and is given by the
formula:
% ∆Q (s ) ∆Q P
εs= = ×
% ∆P ∆P Q
§ given the supply function P= c +dQ, the slope = d = ∆P/∆Q
§ 1/d is thus ∆Q/∆P
1 P
§ the point elasticity of supply formula is: єs= ×
d Q
Like in case of price elasticity of demand, coefficient range of elasticity of supply can be
divided into 3 intervals.
Ø 1 < εs <
- If elasticity of supply is greater than 1, we say that supply is elastic. It means that if price
rises by 1%, the quantity supplied will rise by more than 1%.
Ø εs = 1
- If elasticity of supply equals 1, we say that supply is unit elastic. It means that if price rises
by 1%, the quantity supplied will rise by exactly 1%.
Ø 0 ≤ εs< 1
- If elasticity of demand is less than 1 but still positive or equals zero, we say that supply is
inelastic. It means that if price rises by 1%, the quantity supplied will rise by less than 1%.
m
Chapter 3: Simultaneous Equations

Systems of equations
- The solution of a set of simultaneous equations is the value of x and y which satisfies all
equations
§ To solve the equations algebraically, eliminate all but one variable, solve for this one
variable, then solve for the other(s)
§ To solve the equations graphically, plot the graphs. The solution is given by the
coordinates of the points of intersection of the graphs.
Linear systems of equations

- The general form is:
(1) a1x + b1y = c2
(2) a2x + b2y = c2
-where:
§ x and y are the variables
§ a1, a2, b1 and b2 are system coefficients
§ c1, and c2 are the free terms
The method of substitution

Example
4x - 2y = 14 (1)
2x +3y = 3 (2)
We need to eliminate one of the variables from system of equations. For example, to
eliminate y, we multiple equation (1) by 3 and equation (2) by 2 and then add them up:
12x - 6y = 42
4x - 6y = 6
16x = 48
x =3
Now,we substitude x=3 into one of the equations:

4*3 - 2y = 14
12 - 2y = 14
2y = -2
y = -1
So,the set (3;-1) satisfies the system of two equations.
Two lines can have zero, one or infinitely many points of intersection:
§ One point of intersection
→ the system has a unique solution
6x + 2y = 10
x-y=1
§ Infinitely many points of intersection (THE LINES COINCIDE)
→the system has infinite many solutions (2 proportional yet not identical
equations)
x+y=5
2x + 2y = 10
§ No intersection points (THE LINES ARE PARALLEL)
→the system has no solutions
3x + 2y = 10
n
3x + 2y = 5
Ø This is similarly calculated for systems with three unknowns x , y and z described by:
a1x + b1y + c1z = d1

a2x + b2y + c2z = d2
a3x + b3y + c3z = d3
- yet the computation is more lengthy

- a general solution is provided by MATRIX CALCULUS
Equilibrium and break-even
Goods market equilibrium

→Equilibrium is obtained when DEMAND = SUPPLY
§ On the good markets, let:
§ Qd be the quantity demanded
§ Qs be the quantity supplied
§ Pd be the price that the consumer is willing to pay
§ Ps be the price the producer is willing to accept.
- Then the goods market equilibrium condition reads out:
Ps = Pd and Qd = Qs
Labour market equilibrium

- Labour demand: wd = a - bL : a negative relationship between the number of labor unit
and the wage rate (price per unit)
Ø Labour supply: ws = c + dL: a positive relationship between the number of labor units
and the wage rate (price per unit)
Ø Labour market equilibrium: L d = Ls and wd = ws
-Revise price ceilings, black market profits, price floors
Governmental intervention
Ø When the balance Ps = Pd is reached at too high of a level, the government can
intervene and apply ceiling prices which are below the market equilibrium.
Ø On the contrary, when the balance is too low, the government applies floor prices which
are above the market equilibrium.
Price ceiling
When government introduces price ceiling, it means that companies cannot sell their
product above certain price. In such cases, there is shortage of goods, since there are not
enough suppliers who want to produce for this price.
o
Here, the difference Q2 - Q1 is called a shortage. For a new price P0 there are Q2 goods
demanded but only Q1 goods that suppliers produce.
Price floor
When government introduces price floors, it means that producers cannot their goods below
certain price. In such cases, there is surplus of goods, since there are not enough buyers
who would by all goods that suppliers want to produce.
Here, the difference Q1 - Q2 is called a surplus. For a new price P0 there are Q1 goods
produced but only Q2 goods that customers are willing to buy.
p
The other form of governmental intervention is taxes and subsidies
Taxes
There are two types of taxes:
Ø Fixed tax. Whatever amount of goods supplier produces, he always pays a fixed
amount of tax.
Example:
Original supply function is P = 2Q + 6. If there is a tax of 4 (euros) the supply function
becomes P = 2Q + 10. Producers sell their goods for more money than they used to
because they want to cover taxes.
Ø Percentage tax. For every unit produced, supplier pays certain amount above the
good’s original price.
Example:
Original supply function is P = 2Q + 6. If there is a tax of 10% for every good sold, the
supply function becomes P = 2(Q+0.1Q) + 6 = 2.2Q + 6.
It is important to see the difference between following graphs:
Taxes
There are two types of subsidies:

Ø Fixed subsidy. Whatever amount of goods supplier produces, he always receives a
fixed amount of subsidy from government.
Example:
Original supply function is P = 2Q + 6. If there is a subsidy of 3 (euros) the supply
function becomes P = 2Q + 3. Producers can sell their goods for less money than
they used to because they will compensate it by money received from government.
Ø Percentage tax. For every unit produced, supplier receives certain amount of money.
Example:
Original supply function is P = 2Q + 6. If there is a subsidy of 5% for every good sold,
the supply function becomes P = 2(Q - 0.05Q) + 6 = 1.9Q + 6.
It is important to see the difference between following graphs:
q
Surpluses
Ø A balance is advantageous for everyone (consumer surplus is only beneficial for
consumers, producer surplus only for producers)
Ø Consumer Surplus (CS) is the difference between the expenditure a consumer is willing
to make on successive units of a good from Q = 0 to Q = Q0 and the actual amount
spent on Q0 units of the good at market price P0 per unit.
Ø Producer Surplus (PS) is the difference between the revenue the producer receives for
Qo units of a good when the market price is P0 per unit and the revenue that the
producer was willing to accept for successive units of the good from Q = 0 to Q = Q0.
National Income Model

Ø Equilibrium exists when income (Y) = expenditure (E)
Ø Expenditure may consist of:
§ Consumption:C = C0 + bY, less tax
§ Investment: I0
§ Government expenditure, G0
r
§ Exports, X0
§ Less imports, M = M0 + mY
E=C+I+G+X–M
Ø To find the level of income (Ye) at which equilibrium exists, solve the equation Y = E for
Y. The solution is Ye.
Ø Equilibrium consumption: Ce = C0 + bYe
Ø Equilibrium taxation: Te = tYe
Ø Revise the reduced expressions for Ye with multipliers. These are formulae from which
Te may be calculated directly for various standard national income models.
IS/ LM model
Ø Equilibrium in the goods market when Y = E (national income), but consider investment
as a function of interest rate: I = I0 – dr, thus
1
Y= × (C (0) + I (0) − dr + G(0))
1 − b(1 − t )
hence the equation r = f(Y), which is the IS schedule.
Ø Equilibrium in the money market when money supply = money demand
Money demand: Md = M dT + M dP + M dS =L1 + L2 = kY + (a – hr)
Money supply: Ms = M0
Equilibrium: Ms = Md
M0 = kY + (a – hr)
Ø This equation may also be written as r = g(Y). This is the LM schedule. The goods and
money market are simultaneously in equilibrium for the values of r and Y which satisfy
the simultaneous IS and LM equations, for example:
IS schedule: r = 32 – 0.014Y
LM schedule: r = -2.0 + 0.0025Y
Chapter 4: Non-linear Functions and Applications

Quadratic polynomial functions
The general expression is P(x) = ax2+bx+c, a ≠ 0
The completion of squares formula
We are interested in determining the roots of P2(x) and classifying their nature.
ax2+bx+c = 0
ax2+bx = −c since a ≠ 0
x2+ (b / a)*x = −(c / a)
x2+ (b / a)*x + (b2/ 4a2) = −(c / a) + (b2/ 4a2)
(x + (b / 2a))2 = (b2 – 4ac) / (4a2)
± b 2 − 4ac
x + (b / 2a) =
2a
s
− b ± b 2 − 4ac
x=
2a
Note: b 2 − 4ac is called discriminant and is denoted as D.
Root classification
There are 3 possible outcomes of roots of quadratic polynomial equations:
Ø When b2 - 4ac > 0
There are two real roots of the equation.

− b + b 2 − 4ac
x1 =
2a
− b − b 2 − 4ac
x2 =
2a
Since b2 - 4ac > 0, the part ± b − 4ac is real and one of its values is positive, the
2
other is negative.
Example: 3x2 - 8x - 3 = 0
Ø When b2 - 4ac = 0
There are two identical real roots of the equation. In other words, there is only one
real root.
−b
x=
2a
Since b2 - 4ac = 0, the part ± b − 4ac equals zero and therefore the sign in front of
2
expression does not matter.
Example: 9x2 - 12x + 4 = 0
Ø When b2 - 4ac < 0

There are two complex roots of the equation.
Since b2 - 4ac < 0, the part ± b − 4ac has no meaning (in real numbers) and therefore
2
the roots are not real as well.
Example: 2x2 + 3x + 8 = 0
t
Two real roots. One real root.
No real roots.
The formulas of Viete
A French mathematician Viete has discovered that:

for any quadratic equation ax2+bx+c = 0
x1 + x2 = - b / a
x1 * x2 = c / a
This hint may be useful when one tries to “guess” roots:
2x2-10x+12=0
x1 + x2 = -(-10)/2 = 5
x1 * x2 = 12/2 = 6
It is easy to guess that the roots are 2 and 3.
Graphs translations
u
For any function y = f(x):

• to shift function UP by c units substitute it by y = f(x) + c
• to shift function DOWN by c units substitute it by y = f(x) - c
• to shift function LEFT by c units substitute it by y = f(x +c)
• to shift function RIGHT by c units substitute it by y = f(x - c)
Locating the maximum/minimum
Any quadratic equation y = ax2+bx+c has either minimum or maximum. To find the values of
x and y of maximum/minimum substitute a, b and c into formulas:
x max/min = - b / 2a
y max/min = (4ac - b2)/ 4a
Rather than memorize second formula, you can substitute the x-value you obtained with the
first formula, into the quadratic equation and get y-value of maximum/minimum.
Example:
y = 2x2 + 8x - 6
x max = - b / 2a = -8/4 = -2
y max = (4ac - b2)/ 4a = (-48 - 64)/8 = -112/8 = -14
OR
x max = - b / 2a = -8/4 = -2
y = 2*(-2)2 + 8*(-2) - 6 = -14
Quadratic functions in economics
v
- Recall we have introduced the linear supply-demand law as a basic dynamical model of a
market. We shall extend now the model to be quadratic:
PS(Q) = a1QS2+b1QS+c1
Pd(Q) = a2Qd2+b2Qd+c2
- (Q0;P 0) is called break-even point if PS(Q0) = PD(Q0).
- How many break-even points admits the above model?

Ø Clearly, from PS(Q0) = PD(Q0) it follows that all break-even points are roots of the
following quadratic equation
a1Q2+b1Q+c1 = a2Q2+b2Q+c2
(a1 - a2) Q2 + (b1 - b2) + c1 -c2 = 0
Ø Accordingly to the positivity of discriminant (b1 - b2)2 - 4(a1 - a2) ( c1 -c2), there are 0, 1
or 2 break-even points. (don’t need to know the theoretical explanation for the exam)
Cubic polynomial functions
- The general expression is P3(x) = ax3+bx2+cx+d, a ≠ 0.
- a polynomial function of third degree (cubic equation) can always be factorized as the
product of two parts:
ax3 + bx2 +cx + d = (Ex + F)*(Gx2 + Hx + I)
-Cubic equations are continuous curves, which may have:

§ No turning points or three turning points
§ One or three roots
-How can we find the roots of the equation P3(x) = 0 ?
Ø Using the scheme of Cardan (Italian mathematician)

1. Normalize the equation by dividing the whole equation with a and denote the
result by x3+ex2+ f x+g = 0
2. Eliminate the x2-term by applying the substitution x →(y−e/3)

and obtain the equation of the form y3+ py + q =0
3. Introduce two new variables, t and u, defined by the equation

u−t = q
tu = (p / 3)3
− 3q 3 ± 4 p ^3 + 27 q ^ 2
4. Compute: t=
6 3
3q 3 ± 4 p ^3 + 27q ^ 2
u=
6 3
(where in the expression of t and u ± means in both either + or in both either −)
5. Then y1 = 3
t − 3 u is a solution of y3+ py + q = 0.
6. Write down y3+ py+q = (y−y1)(Ay2+By+C) and solve Ay2+By+C = 0 to get

the other two solutions.
• don’t have to memorize the derivation
w
Remark 1
→ There are no algorithms to solve quartic equations
P4(x) = ax4+bx3+cx2+dx+e = 0
-so which alternatives are left over?

1. Interval searching
2. Graphical methods
1. Interval searching
-Being given n+1 real numbers coefficients a0,a1, ··· ,an, an ≠ 0
a real polynomial function of degree n is an expression of the following form:
Pn(x) = anxn+an−1xn−1+···+a2x2+a1x+a0
-Make a line, where P(a) is on the left hand side, c = (a+b)/2 is in the middle and P (b)
is on the right hand side
P(a) * P(b) = a negative number
If P(a)* P(b) > 0, then the solution is between c and P(b)
Keep repeating this step until you end up with a very small interval (very short
line)
The solution may come as close as 0.001 to the actual solution

Ε < 0.001
Cn – X2
The exponential function

-the exponential function increases/ decreases faster than any other function
-it takes on the general form: f (x) = ax

- where: a is a real constant called the base
x is the variable index or power of the equation
f : R→(0,∞)
- the basic properties of the exponential function are as follows:
§ Semi-group property :
ax+y = axay; ax = 1↔ x = 0
§ Positivity :
ax > 0, ∀ x ⊂ R
In particular, a−x = 1/ ax, ∀ x ⊂ R
§ Monotonicity :
Let 1 < a < b. Then ax < bx (increasing function)
=growth curves
Let 0 < a < b < 1. Then ax > bx (decreasing function)
=decay curves
§ all curves are continuous (no breaks) and pass through the point x = 0, y =
1
§ the graphs of y = ax and y = a–x are always above the x – axis, therefore y is
always positive
x
§ the graphs of y = - a x and y = - a–x are always above the x – axis
-the basic rules of exponential functions are as follows:
§ am * an = am+n
§ am/an = am-n
§ (am)k = am * k
-unlimited growth:
-modeled by the equation: y(t) = ae rt, where a and r are constants
-limited growth:
-modeled by the equation: y(t) = M(1-e -rt ), where M and r are constants
-logistic growth:
-modeled by the equation y(t) = M / (1 + ae-rMt), where M, a and r are constants
The logarithmic function
-The inverse function of the exponential function is called the logarithmic function, defined as:
loga : (0,∞)→R
such that (according to the definition of invertibility)
loga ax = aloga x = x
-the basic properties and rules of the logarithmic function are as follows:
§ loga(xy) = loga x+loga y
-this can be proved: use ax = ay↔ x = y (injectivity) and get
loga(xy) = loga x+loga y, aloga(xy) = xy = aloga xaloga y = aloga x+loga y
§ loga x−loga y = loga (x/y)
§ loga x+loga y = loga (x*y)
§ loga(xz) ↔ z*loga(x)
§ loga(x) ↔ logz (x) / log z (a)
§ Change of basis: loga x = logb x / logb a
§ Log(1) = 0 for any base
§ There are no real logs of negative numbers
§ Logs of numbers greater than one are always positive, less than one
always negative
power
§ Number =base . Then logbase (Number) = power (reversing the
operation is called taking antilogs)
The natural logarithm and the Euler exponential function
- Define first the transcendental number: e = 2.71828182846···
y
a transcendental number van not be calculated / written in any

-
calculation such as a fraction (irrational number, just like µ)
-There are many mathematical and technical stories about how euler was originated
-It is quite sure that it was introduced by Euler (German mathematician) who was studying
the behavior of the values of the sequence en = (1+ (1/n))n for large values of n.
-Taylor has shown that the Euler exponential function e x is well approximated by the
following polynomial function of degree n
ex = 1 + x + x2 / 2 + x3 / 6 +···+ xn / n!
where n! is the factorial function of the first n natural numbers
n! = 1 ·2 ·3 ·····n
-The inverse of the Euler function is the natural logarithm

ln: (0, ∞)→R, lne*x = x=eln*x
ex = ln * x
The hyperbolic function

-can mostly be deduced from a fraction that has an unknown (variable) in its denominator
-is a function defined by h : R {−c / b} → R, h(x) = a/ (bx + c)
-The simplest hyperbolic function is : y = 1/x
- The vertical line x = 0 is called the vertical asymptote of the hyperbolic function y = 1x, while
the horizontal line y = 0 is called the horizontal asymptote.
-If y = a/ (bx + c), revise the graphs and notice the vertical asymptote
-If y = f(x), then Y*x = a constant
Chapter 5: Financial Mathematics

Arithmetic and Geometric Sequences and Series
- A sequence is a list of numbers, which follow a definite pattern or rule.
1). Arithmetic sequence: Tn = a + (n-1)d

a is the first term of the sequence
d is the common difference
n is the nth term
2). Geometric sequence: Tn = b*r (n-1)

b is the first term of the sequence
r is the common ratio
n is the nth term
- A series is the sum of the terms of a sequence. It is:

§ finite if it is the sum of a finite number of terms of a sequence
§ infinite if it is the sum of an infinite number of terms of a sequence
n
1). Arithmetic series (or progression denoted by AP) : Sn = (2a + (n-1)d)
2
z
a (1 − r ^ n )
2). Geometric series (or progression denoted by GP) : Sn =
1− r
a
If r is less than 1, the formula simplifies to S n = .
1− r
If r equals 1, the formula is simply Sn = n*a
Example (Computers manufacturing)
-Dell-Nederland produces N = 1200 computers/week. Due to an increase in the market

demand in Rotterdam, the manufacturer has to increase its production. He can do that by:
1. increasing the production with 80 computers each week

2. increasing his productivity by 5% each week
Then determine :
a). The production output in week 20 in both cases
b). The total output after 20 weeks (again both cases)
c). In which week the production exceeds 8000 computers
Solution
-Option 1 leads to an arithmetic series with a = 1200, d = 80
-Option 2 leads to geometric series with a = 1200, r = 1.05
a). Indeed, let n denote the index of the week and let:
fn denote the production in that week according to option 1
gn denote the production in that week according to option 2
Then:
fn = a+(n−1)d = 1200+(n−1)80
→ f0 = 1200
gn+1 = gn+(5/100)gn = (105/100) gn+1 = 1.05gn-1 = 1200(1.05)n−1

→ g0 = 1200.
Accordingly, when n = 20, then f20 = 2720 while g20 = 3032
b). The total output is the sum of the weeks outputs. This is given by the corresponding
arithmetic and geometric series for n = 20
n
An = (2a+(n−1)d) = (20/ 2) (2(1200) + 19(80)) = 39200
2
r n−1
Gn = a* =1200 *{(1.0520 – 1) / (1.05-1)}= 39679
r −1
c). Since fn and gn represent the productions in week with index n, we have to:
-Find n, such that

fn = a+(n−1)d > 8000↔ n > (8000- a)/d = 86
-Find n, such that
g n = a*rn-1 > 8000, 8000/a < (1.05)n−1↔n > 1+(log 8000/1200) / log 1.05= 39.8833
Hence n = 40
Simple Interest and Compound Interest
aa
Simple interest
-Let P0 be a certain initial amount of € one has put in the bank in an account with simple
interest. How does the amount of money change in time?
-Simple interest is a fixed percentage of the initial amount P0
-This is modeled by arithmetic progression.
-Let i% = i / 100 be the simple interest in question. Then after N-years, the owner of
that account has accumulated an interest
I = P0 ·i ·N
-Therefore, the total amount (end-sum) of euros he will have in the account (assumed
no-withdrawals are made) is
PN = P0+P0iN = P 0(1+iN)
Related problems
→There are two types of problems associated with the simple interest:
1. The end-sum problem : Being given P0, i% and N find the end-sum after these N
years
PN = P0+P0iN = P 0(1+iN)
2. The initial investment problem: How large should be the initial deposit P0 such that for
a given simple interest of i% so that after N-years we can count on an available
amount of PN
P0 = PN / (1+iN)
*so when you put money in a bank for a long period of time, don’t think about simple interest,
but select the bank with compound interest
Compound interest
→interest applies not to initial amount but to amount of money at that moment, so it doesn’t
grow linearly like simple interest but exponentially, therefore, faster
-Let P0 be a certain initial amount of € one has put in the bank in an account with compound
interest. How does the amount of money change in time?
-This is modelled with geometric progression.
-Compound interest is a variable percentage of the initial amount P0
-More precisely, compound interest applies to the interest of previous years as well as to the
initial sum
PN = P0(1+i)N
Multiple-compound interest
Some banks have another kind of offers than to compound interest annually. They
compound it several times a year, e.g every month or every quarter.
-In reality the interest is compounded several times each year

-Each period is an interest period
-Let m be the number of periods of conversion each year
bb
-Then the interest rate applied to each period is i/m

-If t = m*N is the total number of interest periods (N is the number of years), then the value of
the investment at the end of these periods is
t mN
 i   i 
Pt = P0 1 +  = P0 1 + 
 m  m
Continuous compound
The last option of compounding is called continuous compound. Here, banks assume that
interest is compounded every fraction of second, i.e constantly.
The formula of continuous compounding is:
PN =P 0ei*N
where P0 is initial amount, i is annual interest rate and N is number of years for which
compunding works.
To sum up:
Interest Future value Present value
Simple Pt = P0 (1 + it) P0 = Pt(1 + I)-t
Compound Pt = P 0 (1 + i) t P0 = P t (1 + i) –t
Compound m times annually Pt = P0 (1 + (i/m)) mt P0 = Pt (1 + (i/m)) - mt
Continuous compounding Pt = P0eit P0 = Pt e-it
Annual Percentage Rates (APR)
It is important to know the difference between Nominal Interest Rate (usually denoted simply
as i) and Annual Percentage Rate (APR).
For example, a bank has 10% annual interest rate and compounds the interest quarterly (4
times a year). It means that its Nominal Interest Rate i=0.1.
APR shows by how many percent the initial amount will really increase. It is quite
straightforward that if interest is compounded more than once a year, it will be more than
10%.
To find the APR, we must substitute i=0.1 and m=4 into formula
Pt = P0 (1 + (i/m)) mt
Let’s leave Pt and P0 as variables and t=1 since we need to find out ANNUAL percentage
rate. We get:
Pt = P0 (1 + (0.1/4)) 4 = 1.1038 P0
It means that future value will be 1.1038 times initial amount. To find out by what amount the
investment has risen, we subscribe initial amount P0 from the equation:
Pt = 1.1038 P0 - P0 = 0.1038 P0
cc
It means that investment rose by 10.38% during the year. 10.38% is our APR.
After some derivations, we can come up with the following formula for compound interest m
times a year:
We can also derive APR for continuous compounding:
APR = e i - 1
For simple interest and interest compounded annually APR = i.
Depreciation
If you buy something new, in several years its value will be less than you have paid for it,
since you have been using it during this time, i.e. you depreciated it. There are two most
popular depreciation types:
1. Straight-line/ linear depreciation
Over time, the value depreciated is the same for each year. The formula of future
value At in t years given depreciation rate i and present value A 0 is:
At = A0 ( 1 - t*i)
For example, you bought a washing machine for 2500 euros. If depreciation rate is
10% annually, then in 6 years the value of this machine will be 2500*(1 - 0.1*6) =
1000.
2. Reducing-balance depreciation
Over time the value by which a product depreciates decreases. Formula is:
At = A0 (1 - i) t
Taking the same example, A0 = 2500, t = 6, i = 0.1. The value in 6 years will be:
At = 2500* (1 - 0.1) 6 = 1171 euros.
NPV and IRR
NPV = Net Present Value
→is the present value of future cash flow, discounted at a given discount rate r.
-The present value under compound interest is

P0 = PN /(1+i)N
We compute: NPV = present value of inflow− present value of outflows
Example:
dd
We need to decide whether or not to invest into a project with following cashflows:
Year 0 1 2 3 4
Cash flow -200 -100 -50 250 400
Interest rate = 10%
To calculate NPV of cash flows, we find the present values of future cash flows
P0 = PN /(1+i)N and sum them up:
NPV = -200 -100/1.1 - 50/ (1.1)2 +250/ (1.1)3 +400/ (1.1)4 = 128.80
We should invest in a project whenever NPV>0. In this case, NPV=128.80, and therefore we
should.
IRR = Internal Rate of Return
Internal Rate of Return is a rate by which NPV of cash flows equals zero. To find IRR, we
must choose such two rates r1 and r2 (r1 < r2), by which one of the NPVs is positive, the other
is negative (NPV2 < 0 < NPV 1). Then we substitute these values into formula:
Annuities and debt repayments
-Annuity represents an extra fixed investment A0 done at the end of each year for a period on
N years in the top of the original investment P0. Accordingly, the total investment is
(1 + i) N − 1
VN = P0(1+i)N + A0
i
Where: P0(1+i)N = initial
(1 + i ) N − 1
A0 = annuities
i
i% = the rate at which interest is compounded per time Interval
Vt = value
P0 = initial investment
t = time periods
(In the text, the basic time interval was assumed to be one year.
Calculations for other time intervals are adjusted accordingly.)
-The value Vt for an initial investment of P0 and t periodic investments of A0 is:

(1 + i) t − 1
V ANU ,t = A0 ×
i
-The present value of an annuity is:
1 − (1 + i ) t 1 − (1 + i ) t
V0 = A0 × , where is the annuity factor
i i
-The amount of periodic repayments on a loan L is
ee
Li 1 1
A0 = = L× −t
, where is the capital recovery factor
1 1 − (1 + i ) 1 − (1 + i) −t
1−
(1 + i ) t
Basic problem
→How much (V 0) should be invested now for the next N years at a given interest rate i% to
cover a series of N annual equal payments A0?
(1 + i) N − 1
V0(1+i)N = A0
i
1 − (1 + i ) t
V0 = A0
i
After N years what remains is 0 (the loan is paid). Hence
(1 + i) N − 1
0 = −L0(1+i)N + A0
i
A0  1 
L0= 1 − 
i  (1 + i ) n 
where :
1. L0 is the amount borrowed
2. A0 are the periodic debt payments
3. N is the number of paying periods
Mostly we are interested in computing A 0

1
A0 = L
1 − (1 + i ) −t
Sinking funds
*The value of a sinking fund, payments A 0 made at the start of each year, is:
(1 + i ) t − 1
VsK ,t = A0 (1 + i )
i
Chapter 6: Differentiation and Applications

Slope of the straight line y = mx + c is m
∆y
Slope of a curve y = f(x) over a infinitely small horizontal distance ∆x equals
∆x
(=change in vertical height divided by change in horizontal distance)
Slope of a curve at some point (x0; y0) equals dy/ dx. It also shows the slope of a chord which
is tangent to a curve at the point (x0; y0).
dy/ dx (also denoted as y’) is called a derivative of the function. Derivative shows the “speed”
at which a curve increases or decreases at a certain point on the graph. If it is positive, the
function increases, if it is negative, it decreases.
ff
Here are some examples of functions and their derivatives.

Function Derivative
Y= f(x) dy / dx
K 0
Kx K
xn nxn-1
ex ex
ln(x) 1/x
ax ln(a) * ax
Chain Rule for Differentiation:
Sometimes we need to find the derivative of complex function. Complex function is a function
that is expressed as y=f(g(x)). Its derivative is:
y‘ = (f(g))‘ *(g(x))‘
Thus, the derivative of complex function is derivative of the main function multiplied by the
derivative of sub-function.
For example, function ln(x4). You can think of this function as two different ones combined in
one: f=ln(g) and g(x).We get y=f(g(x))
According to the equation y‘= (f(g))‘ *(g(x))‘, we can write derivative as:
y‘ = ln(x4))‘ * (x4)‘= 1/x4 * 4x3 = 4/x
Sum Rule for Differentiation:
y = f(x) + g(x) = u+v
Derivative of sum of functions is:

y’ = u’ + v’
y = 2x2 - ln(x) + ex
y’ = 4x - 1/x +e x
Product Rule for Differentiation:

y = f(x) * g(x) = uv
Derivative of product of functions is:
y’ =u’v + v’u
y = 3x * ex
y’=3*ex + 3x*ex=3ex(1+x)
Quotient Rule for Differentiation:
y = f(x)/g(x) = u/v
Derivative of quotient is:
gg
y = 4x2 /ex
Higher derivatives:
The so-called second derivative measures the speed of the speed of function, in other words,
its acceleration. To find the second derivative means to find a derivative of derivative.
Second derivative is denoted as d 2y/dx2 or y’’.
y = 2x7
y’ = 14x6
y’’ = 84x5
Turning points and points of inflection
If there is a point on a graph where first derivative equals zero, we say that this point is
called a turning point. In this point:
Ø If second derivative is positive, there is a minimum of the function.

Ø If second derivative is negative, there is a maximum of the function.
Ø If second derivative is zero, there is neither a maximum nor a minimum of the
function.
The point at which second derivative equals zero is called a point of inflection.
Curvature
d2y
-The curvature along an interval is concave up is > 0 along that interval
dx 2
d2y
-The curvature along an interval is concave down is < 0 along that interval
dx 2
Marginal Function
= the derivative of the total function:
d (TC ) d (TR)
MC = MR =
d (Q) d (Q)
-Marginal cost (MC) is defined as the derivative of total cost with respect to output
-Marginal revenue (MR) is often defined as the change in TR per unit change in output
Average function
TC TR
AC= AR =
Q Q
-Average cost (AC) is total cost divided by the level of output produced
-Average revenue (AR) is defined as average revenue per unit for the first Q successive units
sold
Marginal and average propensity to consume and save
hh
∆C ∆S
MPC = MPS =
∆Y ∆Y
-Marginal propensity to consume (MPC) = the change in consumption per unit change in
income
-Marginal propensity to save (MPC) = the change in savings per unit change in income
C S
APC = APS =
Y Y
-Average propensity to consume (APC) = the consumption per unit in income
-Average propensity to save (APS) = the savings per unit in income
Note:
§ Since Y = C+S, then:
dY dC dS
= + → 1 = MPC + MPS
dY dY dY
Similarly, APC + APS = 1
§ Any reference to consumption and saving assumes planned consumption and

planned savings respectively
C (0 )
§ APC > MPC since +b > b
Y
C (0 )
§ MPS > APS since 1- b > 1 – b -
Y
Marginal and average funcions of product of labor
d (Q ) Q
MPL = APL=
d (L) L
-Marginal product of labour (MPL) is the rate of change in total output, Q, with respect to
labor input, L.
-Average product of labor (APL) is a measure of the labor productivity (average output per
unit of labor); it is equal to total output divided by the number of units of labor employed
Optimization: particular rules to note

d (MR) d ( MC )
1. Maximum profit when MR = MC and <
Q dQ
2. MC and AVC intersect at the minimum point on the AVC curve.
3. APL and MPL intersect at the maximum point on the APL curve.
Elasticity: point elasticity of demand

% ∆Q dQ / Q dQ P
1. Definition: If P = f(Q), then ε d = = = ×
%∆P dP / P dP Q
2. The function Q = a/Pe has a constant elasticity of demand εd= - c
ii
3. Relationship between MR and εd: MR = P(1+ 1/ εd)
d (TR)
4. Relationship between change in TR and εd: = Q(1 + ε d )
dP
Production and Labor
-A short-run production function Q = f(L)

TLC = wL
TLC
-Costs: ALC =
L
d (TLC )
MLC =
dL
jj
Chapter 7: Functions of Several Variables

Function of two variables z = f(x, y)
E.g. z = 2x - 4y + 5
Isoquant is a set of two independent variables (L and K) in function Q (L;K) by which
dependent variable Q remains the same.
Q = 5KL2
Given Q= 125
5KL2=125
KL2=25
K=25/L2 Isoquant K (L) at Q = 125

L= (25/K) =5/ K Isoquant L (K) at Q = 125
First-order partial derivatives

If we have function of 2 variables, there are two outcomes of finding the derivative. We
differentiate with respect to one or another variable:
Q=4L3K2
∂Q/∂L =QL = 12L2K2 (Here, we assume that K2 is constant)
∂Q/∂K = QK =8L3K (Here, we assume that L 3 is constant)
These derivatives are called first-order partial.
Second-order partial derivatives

To find second-order partial derivatives, we differentiate both first-order partial derivatives
with respect to both variables. Therefore, we get 4 outcomes (2 derivatives * 2 variables):
∂2Q/∂L2 = QLL = 24LK

∂2Q/∂K2 = QKK = 8L
∂2Q/∂L∂K =QLk = 24L2K
∂2Q/∂K∂L =QkL = 24L2K
Mixed second-order partial derivatives are equal in almost every function.
kk
-The straight second order partial derivatives are calculated by differentiating the first-order
partial derivatives again with respect to the same variable
-The mixed second-order partial derivatives are calculated by differentiating the first-order
partial derivatives with respect to the other variable
The total differential of z is given by

∂f ∂f
dz = ( ) * dx + ( ) * dy
∂x ∂y
or for small changes dx → ∆x etc., the small (incremental) changes formula is given by
∂f ∂f
∆z ≅ ( ) ∆x + ( ) ∆y
∂x ∂y
Example:
Given Quantity function Q = 1000L0.4K0.6. Furthermore, we know that L incresases by 5% and

K decreases by 3%: L= 0.05L K = -0.03K. We need to find Q.
∂Q ∂Q
∆Q = ( )∆L + ( )∆K
∂L ∂K
∂Q
= 600K 0.4 L−0.4=
∂L
∂Q
= 400L 0.6 K −0.6
∂K
Note: these two values are called Marginal product of labor andMarginal product of capital,
respectively.
Q = 600K 0.4 L−0.4 * 0.05L + 400L 0.6 K −0.6 * (-0.03)K

Q = 0.6*1000K 0.4 L−0.4 * 0.05L + 0.4*1000L 0.6 K −0.6 * (-0.03)K
Q = 0.6*1000K 0.4 L0.6 * 0.05 + 0.4*1000L 0.6 K 0.4 * (-0.03)
ll
Q = 0.03*1000K 0.4 L0.6 - 0.012*1000L 0.6

K 0.4
Q = (0.03 - 0.012)*1000L 0.6 K 0.4
Q = 0.018*1000L 0.6 K 0.4
Since 1000L 0.6 K 0.4

=Q
Q = 0.018Q
The quantity produced will increase by 18%.
Unconstrained optimization
Step number:
1. Find the first and second derivatives
∂z ∂z ∂ 2 z ∂ 2 z ∂ 2 z
, , , ,
∂x ∂y ∂x 2 ∂y 2 ∂x∂y
2. First order conditions:
-At stationary point ∂z / ∂x = 0, ∂z / ∂y= 0
-Solve these two stationary points for the x- and y- coordinates of the turning
point(s).
-If required, find z for the x- and y- coordinates of the turning point(s).
3. Second-order conditions:
-the point is a:
-minimum if ∂2z / ∂x2>0 and ∂2z / ∂y2> 0 and provided ∆ > 0.
-maximum if ∂2z / ∂x2<0 and ∂2z / ∂y2< 0 and provided ∆ > 0.
-point of inflection if both second derivatives have the same sign but ∆
<0
-a saddle point if the second derivatives have different signs and ∆ < 0,
where
2
 ∂2z   ∂2z   ∂2 z 
∆ =  2  ×  2  −  
 ∂x   ∂y   ∂x∂y 
Constrained optimization: Lagrange multipliers
Constraint optimization is an equation like:

1) aK + bL = M
2) aK + bL < M
3) aK + bL > M
It means that sets of capital and labor must (1) equal M; (2) be less than M; (3) exceed B
Given the function of two variables z = f (x; y). The constraint is given ax + by = M.
To find optimum values for z and not to violate constraint, we introduce Lagrange function:
L(x; y; λ) = L(x; y) + L(M- ax - by)
Then we calculate the stationary points of the Lagrangian function by solving the system of
equations:
mm
The values of x and y we got in this system of equation are optimum set of function z.
Example:
f(x; y) = 5xy
x + 2y = 10
L(x; y; λ) = 5xy + λ(10 - x - 2y) = 5xy - λx - 2 λy +10 λ
5x - λ = 0
5y -2 λ = 0
10 - x - 2y = 0
We eliminate λ from the first and the second equation.

10x - 2λ = 0
5y -2 λ = 0
y = 2x
Substitute y into third equation
10 - x - 4x = 0
x=2
y = 2*2 = 4
Cobb-Douglas Production
Q = AL∝ K β where Q stands for production, L for labor and K for capital
1. Represent production functions in two-dimensional diagrams (isoquants) by fixing the

value of Q, then express K = f(L)
2. The slope of dK/dL is called the marginal rate of technical substitution (MRTS)
-if it exhibits a diminishing MRTS then ΔK / ΔL or the rate at which the
amount of capital deceases for each unit in increase in labor
diminishes as L increases
3. Slope is also expressed as

dK MPL
§ =−
dL MPK
α K
§ MRTS = ×
β L
nn
4. Returns to scale. When L and K are each replaced by λL and λK respectively in

Q1 = AL∝ K β then Q2 = A(λ × L) ∝ (λ × K ) β =λα+βALαKβ=λα+βQ1
If α+β = 1: constant returns to scale, i.e. Q2 = λQ1

If α+β < 1: decreasing returns to scale, i.e. Q2 < λQ1
If α+β > 1: increasing returns to scale, i.e. Q2 > λQ1
5. A Cobb-Douglas production function exhibits diminishing returns to each factor. This

is confirmed by the negative second derivatives:
§ Law of diminishing returns to labor: QLL < 0 → curve concave to origin

§ Law of diminishing returns to capital: QKK < 0 → curve concave to
origin
6. a). Production conditions for using labor:

∂Q
MP L = >
∂L
d ( MP L ) ∂ 2Q
= < 0
dL ∂L2
MP L < APL
b). Production conditions for using capital:

∂Q
MPK = >0
∂K
d (MPK ) ∂ 2 Q
= <0
dK ∂K 2
MPK < APK
7. A Cobb-Douglas production function is considered homogenous, order r, if:

f (λL, λK ) = λr f ( L, K )
where r = (α + β)
Utility functions
-The analysis of utility functions parallels that of production functions in the previous section.
-A utility function describes utility as a function of the goods consumed and may be written in
the general form as:
U = f (x, y)
-A utility function that is widely used in economic analysis is the Cobb-Douglas utility function
which is expressed in general form as:
U = Axαyβ
-An isoquant is a combination of inputs L and K which when used give a firm the same level
of output
-An indifference curve is a combination of goods X and Y which when consumed give the
consumer the same level of utility
oo
• Do not mix up marginal utilities (dU/dx = MUx, dU/dy = MUy) and the MRS
(dy/dx)!!
Partial inelasticity
Partial inelasticities of demand
-we will examine the general demand function of the form:QA = f(PA, Y, PB...)
where: QA= quantity demanded of good A
PA= price of good A
Y = consumer income
PB = price of another good B
-the responsiveness of good A to a change in any of the three variables is given by:
Price elasticity of demand
→This measures the percentage change in QA with respect to PA, keeping Y
and P B constant. It is given by:
∂Q A PA
εd= ×
∂PA Q A
where ∂ can also be replaced with d but this is not the case here
because it is a function of several variables
Income elasticity of demand

→This measures the percentage change in QA with respect to Y keeping PA
and P B constant. It is given by:
∂Q A Y
εY = ×
Y QA
Cross Price Elasticity of demand

→This measures the percentage change in QA with respect to PB keeping PA
and Y constant. This is given by:
∂Q A PB
εc = ×
∂PB Q A
Partial inelasticities of labor and capital
Partial inelasticity with respect to labor

→ is defined as the proportionate change in output (Q) resulting from a
proportionate change in labor input (L) when capital is held constant:
∂Q L
ε QL = ×
∂L Q
→the partial inelasticity with respect to labor may also be expressed as the
ratio of the marginal product of labor to the average product of labor:
∂Q L (∂Q / ∂L) MPL
ε QL =× = =
∂L Q (Q / L) APL
→For the Cobb-Douglas production function, Q = AL∝ K β
αALα −1 K β L αALα K β αQ
ε QL = × = = =α
1 Q Q Q
Partial inelasticity with respect to capital
pp
→is defined as the proportionate change in output (Q) resulting from a

proportionate change in labor capital (K) when labor is held constant:
∂Q K
ε QL = ×
∂K Q
→the partial inelasticity with respect to capital may also be expressed as the
ratio of the marginal product of capital to the average product of capital:
∂Q K (∂Q / ∂K ) MPK
ε QL = × = =
∂K Q (Q / K ) APK
→For the Cobb-Douglas production function, Q = AL∝ K β

βALα K α −1 K βALα K β βQ
ε QK = × = = =β
1 Q Q Q
National income model multipliers
∂Ye 1
= : the investment multiplier
∂I 1 − b(1 − t )
∂Ye 1
= : the government expenditure multiplier
∂G 1 − b(1 − t )
∂Ye bYe
= : the income tax rate multiplier
∂t 1 − b(1 − t )
Chapter 8: Integration and Applications

Integration is a process reverse to differentiation.
qq
However, sometimes it is possible to differentiate a function, but the function that is its
derivative - impossible to integrate back. Stated differently, if major functions can be
differentiated, there are much less functions that can be integrated.
Rules for Integration
The Power Rule for Integration
-Step number
1. Always start by simplifying where possible. If you do not simplify, you will give
yourself a lot of extra work, or even worse, it may not be possible to integrate the
unsimplified function at all
2. Write the power function ‘on line’ so that you may state the power n clearly
3. Apply the power rule for integration:

x n +1
∫ x n dx = +c
n +1
The minus one exception to the power rule:
-the power rule applies for any value of n except n = - 1 because else you get
zero in the denominator ((-1) + 1) and division by zero is not defined
-the rule for integrating x-1 is:

1
∫ dx = ∫ x −1 dx = ln x + c
x
Working rules for integration
-When integrating sums and differences of several functions, the following rules apply:
§ As in differentiation, the sum or difference of several power functions is integrated by
integrating each function separately:
∫ { f ( x) + g ( x)}dx = ∫ f ( x )dx + ∫ g ( x)dx
§ As in differentiation, the integral of a constant multiplied by a variable term is the
constant multiplied by the integral of the variable term:
∫ Kf ( x)dx = K ∫ f ( x)dx
Standard functions
F(x)
∫
F(x)= f ( x) dx
K Kx+c
Xn, n ≠ 1 x n+1
+c
n +1
x-1 or 1/x Ln(x) + c
ex ex + c
Functions of linear functions
rr
F(mx+c) (m≠0) F(mx+c)= ∫ f(mx+c)dx

n
(mx+c) , n ≠ 0 1 (mx + c) n +1
× +c
m n +1
1 / (mx+c) (1 / m) * ln(mx+c)+c
e(mx+c) (1 / m) * e(mx+c) + c
The definite integral

∫
x =b
x=a f ( x)dx = F (b) − F (a )
-This is the net area enclosed between the curve and the x-axis over the interval x = a and
x= b
→Areas above the x-axis are evaluated with a positive sign
→Areas below the x-axis are evaluated with a negative sign
Shaded area =
For definite integral, there is a rule that says that integral on interval [a;b] equals the sum of
integral of the same function on the interval [a;c] and interval [c;b], given that point c belongs
to intercal [a;b] and this function does not interrupt on this interval:
Another important rule states that the area between two functions on the same interval
equals integral of the difference of these functions on the same interval:
Consumer and Producer Surplus
ss
1. Consumer Surplus
= the difference between the expenditure a consumer is willing to make on
successive units of a good, from Q= 0 to Q = Q0, and the actual amount spent
on Q0 units of a good at the market price of P0 per unit:
CS = (revenue consumer was willing to pay at higher prices)-(actual

expenditure at P=P 0)
= (the area enclosed between the demand function over the interval
Q=0 to Q=Q0) – P0Q0
In general, consumer surplus at P = P0 (corresponding quantity Q0) is:
∫
Q =Q 0
Area under the curve – area of rectangle = Q =0 (demand function)dQ – P0Q0
2. Producer Surplus
= the difference between the revenue the producer receives for Q0 units of a
good when the market price is P 0 per unit and the revenue that she was willing
to accept for successive units of the good from Q= 0 to Q = Q0:
PS = (actual revenue at P=P0) - (acceptable revenue at lower prices)

= P 0Q0 - (the area under the supply function over the interval Q=0 to
Q=Q0)
In general, producer surplus at P = P 0 (corresponding quantity Q0) is
∫
Q =Q0
Area of rectangle–area under curve = P0Q0 - Q =0 (supply function)dQ
Consumer Surplus
tt
Producer Surplus
First order differential equations
Solution of differential equations of the form dy / dx = f(x)

→solve by direct integration
Step number:
1. Write the differential equation in the form dy / dx = RHS
2. Integrate both sides with respect to x. This gives the general solution.
3. If conditions are given for both x and y, substitute these values into the general
solution and solve for the arbitrary constant, c.
4. Substitute this value of c into the general equation to find the particular solution
(which doesn’t contain the arbitrary value anymore)
Solution of differential equations of the form dy/ dx = ky {or f(x)g(y)}

→solve by separating the variables
Step number:
1. Write the differential equation in the form dy / dx = RHS, i.e dy / dx = ky. In this case,
it is not possible to integrate both sides with respect to x immediately sine the RHS
contains Y
 dy 
∫  dx dx = ∫ ky * dx
We can only integrate functions of x with respect to x and functions of y with respect
to y, etc. Therefore, separate the y terms with dy and the x terms with dx before
integrating. This is called separating the variables.
2. Separate the variables: separate the x terms with dx and the y terms with dy
uu
1 dy 1
× = k → dy = k × dx
y dx y
3. Integrate both sides with respect to x. This gives the general solution.
4. If conditions are given for both x and y, substitute these values into the general
solution and solve for the arbitrary constant, c.
5. Substitute this value of c into the general equation to find the particular solution.
Limited and Unlimited Growth
-Differential equations are used to model situations which involve change, for example
limited and unlimited growth
§ Dy/ dt = r(A-y) has a solution of the form Q = A – Be-rt, which describes limited growth
§ Dy/ dy = ry has a solution in the form y = Ae rt , which describes unlimited growth
Integrate marginal functions to obtain total functions
d (TC )
TC = ∫ dQ = ∫ ( MC )dQ
dQ
d (TR)
TR = ∫ dQ = ∫ (MR)dQ
dQ
Integrate rates with respect to time to obtain the total amount accumulated over a
given time interval
-Example: Given the rate at which a resource is consumed: dQ/ dt = Ae bt, then the total
amount used between t = t0 and t1 is given by the integral
dQ
∫ dt = ∫ tt ==tt10 Ae bt dt
t = t1
t = t0
dt
-In the function P t = P0ert, the constant proportional rate of growth is defined in general as:
rate of change of P at time t / size of P at time t = (dPt / dt) / Pt
This can be proved as follows:

Pt = P0ert
(dPt / dt) = P0(rert ) = rP0ert
(dPt / dt) = rPt
Chapter 9: Linear Algebra and Applications

Linear Programming
The easiest way to understand linear programming is by an example.
A company produces two types of products, X and Y. Product X requires 3 employees to

work on the project, while Y requires 2 employees. There are 60 workers available.
vv
The other constraint is: the raw materials for X cost 25 euros, and for Y - 20 euros. Maximum
budget allows the company to buy raw materials for 550 euros.
The last condition states that profits from selling a product X and Y are 50 and 25,
respectively.
What is the maximum profit a company can obtain?
From first part we can derive an inequality:

2x + 3y ≤ 55
From second:
50x + 100y ≤ 2000
We leave the third condition out for now. We get system of inequalities:
3x + 2y ≤ 60
25x + 20y ≤ 550
Now we graph these two sets on the same diagram:
Now, we think logically - with every extra X and Y unit produced our profit increases. Thus,
we need to find a point at which we produce as much as possible X and Y. This point is
marked bold on the graph above. We can also show why it is so graphically. Here we would
need the last condition:
ww
50x + 25y = profit
You can see 4 parallel lines on the graph. They represent different options (50x + 25y=profit).
The difference is, they represent profits of different values, say, (option 1 is better than 2, 2 is
better than 3, and 3 is better than 4). If we want to maximize profit, then must choose a line
as high as possible. Unfortunately, we cannot choose lines 1 and 2 because of constraint of
limited workers and raw materials budget. Therefore, we need to “put the line down” till the
moment when it touches the bold point - profit option 3. This is our profit-maximizing profit
given two previous constraints.
The option 4 is also feasible, since it is inside our sets, but it would be unwise to choose it,
since it results in lower revenue than profit option 3.
Now, we need to determine values of x and y in order to know what profit is.
3x + 2y = 60 3x + 2y = 60 2y = 60 - 3x
=> =>
25x + 20y = 550 5x + 4y = 110 5x + 120 - 6x = 110
x = 10 y = 15
Substitute x = 10 and y = 15 into profit equation to get:
50*10 + 25*15 = 875
Matrix calculus
-A matrix is:
§ a rectangular array of numbers or symbols
xx
§ a concatenation (link) of vectors belonging to the same Euclidian space Rn, which can
be interpreted as a “row-vector of column-vectors”
a11  a12  a1m 

a 21 a 22  a 2m 
Let a1 =   , a2 =   , a3 =  
...  ...  ... 
     
an1  an 2  anm 
Then the matrix a1, a2 .. am is the n−rows × m−columns table
a11...a12...a1m 
a 21...a 22...a 2m 
 
an1...an2...anm 
Each element of a matrix is uniquely addressed by 2 indexes - its row and column.
Special matrices
§ The square matrix

→A matrix is square if and only if m = n (same number of rows and columns)
§ The unit or identity matrix

→The unit or identity matrix (represented by the symbol I) is any square matrix in
which every element is zero, except the elements on the main diagonal, each of
which has the value 1, such as
1...0...0 
1...0   
I =  , I = 0...1...0
0 ... 1 0...0...1
§ The null matrix
→The null matrix is a matrix of any dimension in which every element is zero, such
as:
0...0...0
0...0...0
 
0...0...0
Operations with matrices
§ Matrix transposition
(row-vector of column-vectors)Τ = column-vector of row-vectors
-If A ⊂ Rn×m then AΤ ⊂ Rm×n
 a11...a12...a1m  a11...a 21...an1 


A =  a 21...a 22...a 2 m  , A = a12...a 22...an 2 
 Τ 
 an1...an 2....anm a1m..a 2 m...anm
yy
1........ − 2.........4  1..........0....... − 3 


A = 0..........2..........0  , A = − 2.......2..........5 .
 Τ
 − 3.......5....... − 5 4..........0....... − 5
§ Scalar multiplication
-Similar to vector-scalar multiplication
-If A ⊂ R n×m and α ⊂ R, then B ⊂ R n×m is the scalar multiplication of A and α if and
only if b i j = α ai j
i = 1, ···, n
j = 1, ···,m
§ Matrix-vector multiplication
-Let A ⊂ Rn×m,
 a11...a12...a1m 
A =  a 21...a 22...a 2 m  = [A1 A2 ··· An ]
 an1...an 2....anm
-Let x = [x1 x2 ··· xn ]
-The multiplication A*x = [A1 A2 ··· An ]* [x1 x2 ··· xn] is possible if and only if m = N.
In this case,
( A1, x)  a11x1 + a12 x 2 + ... + a1mxm 

( A2, x)  a 21x1 + a 22 x2 + ... + a 2mxm
A*x =   =  
...  ... 
   
( Am, x) an1x1 + an 2 x 2 + ... + anmxm 
§ Matrix-matrix addition
-Let A ⊂ Rn×m, and B ⊂ Rn×m. Then C ⊂ Rn×m is called the sum of A and B, denoted
C = A+B, if and only if ci j = ai j+bi j,1 ≤ i ≤ n,1 ≤_j ≤ m
§ Matrix-matrix multiplication
-Let A ⊂ Rn×m, and B ⊂ Rm×p. Then a matrix C ⊂ Rn×p is called the matrix product of
A and B, denoted by C = AB if and only if
b1 j 
b 2 j  m
ci j = [ai1 ai2 ··· aim]* 
... 
= ∑ aik * bjk , where 1 ≤ i ≤ n,1 ≤_j ≤p
k =1
 
bmj 
Determinants
-are mathematical objects that are very useful in the analysis and solution of systems of
linear equations
zz
-a determinant is simply a square array of numbers or symbols, such as:
1...0. − 2
2.....5   
A=   B = 2...2....3
 
3.. − 4 1...3....2 
-the dimensions of the determinants are stated as (number of rows, r) times (number of
columns, c).
-the dimensions of the determinants above are thus: A=2x2, B=3x3
-we calculate the determinant of a matrix to see if the matrix has an inverse
(because calculating the inverse is a lot of work and maybe the inverse doesn’t even
exist so then all those calculations have been for nothing)
§ matrix does not have an inverse if it is equal to zero
§ it does have an inverse if it is not equal to zero
* in other words, the determinant “measures” the property of a linear system of equations to
admit a unique solution
How to calculate the determinant of a 2×2-matrix:
-in order to derive the value of the determinant, you have to multiply the rows diagonally and
consequently subtract them from each other, as shown below:
a...b 
c...d  =(a)(d)-(c)(d)
 
2.....5 
-so the value of determinant A   is: (2)(- 4) – (3)(5) = - 8 – 15 = -23
3.. − 4
-Consider the following system of two linear equations with two unknowns :
(1) a11x1+a12x2 = b1
(2) a21x1+a22x2 = b2
-From (1) follows:

x2 = b1−a11x1
a12
-which plugged into (2) yields

b1 − a11x1
b2 = a21x1+a22( )
a12
-or equivalently by isolating the terms containing x1

(a21a12−a11a22)x1 = b2a12−a22b1
-Then the x1-component of the solution [x1,x2] exists if and only if

a11a22−a21a12 ≠ 0
-In this case:

x1 = a22b1−b2a12
aaa
a11a22−a21a12
x2 = a11b2−b1a21
a11a22−a21a12
How to calculate the determinant of a 3x3 matrix:
-in order to derive the value of the determinant, you have to multiply each element in the first
row by the diagonal numbers of the rows under it, as shown below:
 a1,1...a1,2...a1,3 
a 2,2...a 2,3 a 2,1...a 2,3 a 2,1...a 2,2 
A =  a 2,1...a 2,2...a 2,3 = (a1,1)   − (a1,2)   + (a1,3)
 a3,2...a3,3   a3,1...a3,3   a 3,1...a3,2 
 a3,1...a3,2...a3,3 
-multiply the 2x2 matrixes as learned previously with the factors in front of it, as follows:
|A| = a11(a22a33−a23a32)−a12(a21a33−a23a31)+a13(a21a32−a22a31)
-note that the you have to alternate the minus and plus operations between the different
multiplied elements (subtract, add, subtract, add.. and so on)
+ ... − ... + 

-thus for a 3x3 matrix: − ... + ... −

 
+ ... − ... + 
-Consider similarly a system of 3 linear equations in 3 unknowns x1,x2,x3

a11x1+a12x2+a13x3 = b1
a21x1+a22x2+a23x3 = b2
a31x1+a32x2+a33x3 = b3
-We are interested in finding necessary and sufficient conditions so that the
above system has a unique solution. We can proceed similarly to the 2×2-
matrix case as follows : from (5), assumed that a33 ≠ 0
x3 = b3−a31x1−a32x2
a33
-substitute the equation above in (3) and (4) and obtain a system of two linear equations,
namely (3) and (4), with 2 unknowns x1 and x2
-further apply the techniques learned in the 2×2 case and write down the solutions.
-we obtain is something like this :

x1 = ···
a11(a22a33−a23a32)−a12(a21a33−a23a31)+a13(a21a32−a22a31)
- from the denominator, you then derive the same real-valued determinant/ matrix function as
found before, namely:
|A| = 11(a22a33−a23a32)−a12(a21a33−a23a31)+a13(a21a32−a22a31)
There is also another possibility to calculate a 3 x 3 matrix determinant. Given the matrix
bbb
a11...a12...a13 
A = a 21...a 22...a 23
a 31...a 32...a 33 
the determinant is (a11*a*22*a33 + a12*a23*a31 + a21*a32*a13 - a13*a22*a31 -

a12*a21*a33 - a11*a23*a32). This expression is a little difficult to remember. Therefore you
can try remember this:
Cramer’s Rule
-The solution of the simultaneous equations: a1x + b1y = d1 and a2x + b2y = d2
is given by the formulae:
d1...b1 a1...d 1
d 2...b 2 a 2...d 2
x= , y=
a1...b1 a1...b1
a 2...b 2 a 2...b 2
-note that the denominator in both cases is the same, this is referred to as: ∆
a1...b1
∆=
a 2...b 2
→when you look at the original equations a1x + b1y = d1 ; a2x + b2y = d2, you will see that
that column 1 in ∆ consists of the coefficients of the x variables in the original set of
equations
→correspondingly, column 2 in ∆ consists of the coefficients of the y variables in the original

set of equations
- the numerator of x is referred to as ∆x
d1...b1
∆x =
d 2...b 2
→here you see that the x column (first column) in ∆ is replaced by the column (d1, d2)
- the numerator of y is referred to as ∆y
ccc
a1...d1
∆y =
a 2...d 2
→here you see that the y column (second column) in ∆ is replaced by the column (d1, d2)
*The solution of two simultaneous equations in two unknowns is given by:
x = ∆x/∆ y = ∆y /∆
-Cramer’s rule states that thus general formula can be extended to any number of equations
in the same number of unknowns
-For example, the solution of three linear equations in three unknowns is given by:
x = ∆x/∆ y = ∆y/∆ z = ∆z/∆
-note: if ∆ = 0, there is a division by zero when applying Cramer’s rule formulae. ∆ = 0 means
that the set of equations has no unique solution.
Basic properties of determinants
-Let A ⊂ Rn×n. Then the following statements hold:
§ Interchanging two rows/columns of A just changes the sign of |A|
§ If A has a complete row/column of zeroes then |A| = 0
§ A = A^ T
§ To any row/column of A we can add any multiple of any other row/column without
changing |A| (very important rule!)
§ If a α ⊂ R is then α|A| = αn|A|
§ Let B ⊂ Rn×n. Then |AB| = |A| |B|
The inverse matrix
Recall that in general the matrix product is not commutative/interchangeable, so:

AB ≠ BA
even when both A and B are square and of the same dimension.
Problem 1 (Matrix inversion)
-Being given A ⊂ Rn×n,

1. find necessary and sufficient conditions for the existence of B ⊂ Rn×n
1...0 
AB = BA = I =  
0...1
2. Assumed it exists, is such a matrix B (called the inverse of A, denoted A−1)
unique ?
ddd
3. Develop an algorithm to compute it.
Theorem 1(Unicity)
→ The inverse of a matrix is unique
Proof:
-Let us suppose that the contrary holds, namely that the inverse of A is not unique
-This is equivalent with the existence of another matrix C ⊂ Rn×n, different than B, (C ≠ B
that is ∀ i, j = 1, ··· , n, ci j ≠ bi j). Both are assumed to be inverse of A. This fact implies
(7) AB = BA = I
(8) (8) AC =CA = I
-Yet by using the fact that the matrix product is associative, we can re-write everything as
B = IB = (CA)B =C(AB) = CI =C
-This contradicts the assumption that B and C are different. Therefore we can conclude that
the two matrices must coincide, B =C.
*The inverse matrix A−1 can be computed in two manners:

1. Cofactor method
2. Elimination method (Gauss-Jordan elimination)
The cofactor method
-The minor of an element is the determinant of what remains when the row and column
containing the element is crossed out
-The cofactor of an element is the value of the minor multiplied by ± 1. The ± 1 is given by
the determinant of signs.
-Theorem 2: Given a matrix A, the inverse of A is defined as
A−1 = CT / |A|
-where C T is the matrix in which every element is replaced by its cofactor
 C1,1...C1,2...C1,3 
1   T
A-1 =  C 2,1...C 2,2...C 2,3  ^
A 
 C 3,1...C 3,2...C 3,3 
-Some basic properties of A−1
§ If A, B ⊂ Rn×n are two invertible matrices, then (AB)−1 = B−1A−1
§ If k ⊂ R, k ≠ 0, then:
§
(kA)−1 = (1/k)*A-1
§ (AT)−1 = (A−1)T
eee
 x ^1...0  1 /( x ^1)...0 
§ 0....x^ n  = 0...(1 / x ^ n)
   
 a...b  1  d ... − b 
§ A =   → A−1 =  
 c...d  ad − bc  − c...a 
-Theorem 3: The following statements are equivalent :
§ |A| ≠ 0
§ A is invertible (hence the existence of A-1)
§ the linear system A*x = b has a unique solution, x = A −1*b
2. The elimination method
-Recall that:
-To any row/column of A we can add any multiple of any other row/column without
changing |A|
-By interchanging the positions of two arbitrary chosen rows/columns the determinant |A|
remains the same.
-These are called row/column similarity transformations
-The idea behind elimination:
To find the inverse by Gauss- Jordan elimination, set up the augmented matrix as
(A|I), where A is the square matrix to be inverted and I is the unit matrix of the same
dimension.
Use Gauss-Jordan elimination to reduce A to the unit matrix, hence (A|I)→(I/A-1).
Read off the inverse of A
-Applications of inverse matrices:
1. Simplifying calculations and other operations on large arrays of data

2. Solving simultaneous equations
Input/Output analysis
-Input/output analysis is based on the condition
total input = total output
-Is a way of modeling analyzing the balance of a multi-sector economy. The

basic equation is:
AX +d = X
Where:
fff
X is the column matrix of total output from each sector

d is the column matrix of final demands from each economy sector
A is a matrix of technical coefficients: each column represents the fraction of
inputs to one corresponding economical sector
Let’s denote agriculture as x, Industry as y, service as z. We have following system of

equations:
200x + 300y +200 = 500

100x + 100y + 50z +450 = 700
150x + 200y + 350z+ 50 = 750
This can be represented by a table:
Input to
Agriculture Industry Service Other inputs Total
Agriculture 200 300 0 200 500
Output Industry 100 100 50 450 700
from Service 150 200 350 50 750
Other outputs 50 100 350
Total 500 700 750
To find technical coefficients, we divide each cell in the table by total of this column:
The whole system is rewriten as:
-This equation can be used in the input/output analysis when the demand
changes in the following way
X = (I−A)−1dnew
→this shows the total input required from each sector when final demands d are changed to
dnew
Chapter 10: Difference Equations

Important points about difference equations
§ A difference equation relates the value of a dependant variable which changes at

discrete points in time only (such as income) to its values during previous time
periods
ggg
120
§ For example, Yt+1= × Yt
100
§ In words, the difference equation states ‘income in any year is 20%
higher than income in the previous year’
§ The order of a difference equation is the number of time periods spanned by the
equation. The order is 1 in the example given above.
§ Solution of difference equations over a reasonably small number of time intervals by

iteration, provided conditions are given. Excel is very useful here.
§ Mathematically, the solution of a homogenous difference equation is of the form Yt =

A(a)t. To determine the actual solution, substitute the trial solution Yt = A(a)t into the
difference equation and solve for the base a. The constant A is determined if one
condition is given, such as Y0 = 30.
§ The solution of a non-homogenous difference (where RHS ≠ 0) equation is the sum of

the two parts: the complementary function (CF) and a particular integral (PI)
§ CF is the solution of the corresponding homogenous equation
§ PI is a function which satisfies the full difference equation and is

determined by inspection/ deduction of the RHS of the equation
Solution of Difference Equations
There are different types of First-order Difference equations. Here, we discuss 2 most simple
models:
Ø Homogeneous equations
Ø Non-homogeneous equations
Homogeneous equations
General formula is: aYt+1 + bYt = 0
The general solution of such equations is:
Yt = A(a)t
Yt+1=A(a)t+1
For example: From equation Yt+1 -0.8 Yt = 0 find Yt given that Y2 = 80.
Yt+1 -0.8 Yt = 0
A(a)t+1 - 0.8 A(a)t = 0
Aat *a - 0.8 Aat = 0
Aat (a - 0.8) = 0
A cannot equal 0, therefore a=0.8.Now, we know that Yt = A(0.8)t.
To find a we have to substitute Y2 = 80 into Yt = A(0.8)t .
80 =A(0.8)2
A = 80/(0.8)2
A = 125
hhh
Yt = 125(0.8)t
Non-homogeneous equations
General formula: aYt+1 + bYt = RHS. Here, RHS is anything but zero. We will consider two
possibilities: RHS = k (a constant) and RHS = k*b t.
General solution: Yt = CF + PI = Yt,c + Yt,p

CF = Yt,c - Complementary Function - is the solution of the homogeneous part of equation.
PI = Yt,p - Particular Integral - is part of solution that wholly satisfies the equation.
1) aYt+1 + bYt = c
Find particular solution of Yt given the function Yt+1 - 0.95Yt = 1000 and Y5 = 20950
Firstly, we find CF by changing the equation into Yt+1 - 0.95Yt = 0. Since Yt equals A(a)t, we
rewrite it as:
A(a)t+1 - 0.95A(a)t = 0
Aat (a - 0.95) = 0
a = 0.95
CF = Yt,c = A(0.95)t
PI = Yt,p = k. Since RHS = c, and c is constant, PI for all values of t are the same - k.
Therefore Yt+1,p = k
Yt+1 - 0.95Yt = 1000

k - 0.95k = 1000
0.05k = 1000
k = 20000
Therefore, general solution is Yt = A(0.95)t + 20000. Since we know that Y5 = 20950, we

substitute it into general solution to get A.
Y5 = A(0.95)5 + 20000
20950 = A(0.95)5 + 20000
950 = 0.773781 A
A = 1228
We get the final particular solution:

Yt = 1228(0.95)t + 20000
2) aYt+1 + bYt = c(d)t
Find the particular solution of the difference equation 5Yt + 1 + 4Yt = 76(1.1)t given Y0 = 20.
To find Yt, c (the general solution of the corresponding homogeneous equation) we substitute
zero into RHS:
5Yt + 1 + 4Yt = 0
Yt + 1 + 0.8Yt = 0
A(a)t+1 + 0.8A(a)t = 0
Aat (a + 0.8) = 0
a = - 0.8
CF = Yt,c = A(-0.8)t
iii
As the right hand side of the given difference equation is 76(1.1)t , a particular integral has to
be of the following form:
Yt, p = k ⋅ (1.1)t
Therefore Yt+1, p = k ⋅ (1.1)t+1
5Yt + 1 + 4Yt = 76(1.1)t

5 k (1.1)t +1 + 4 k (1.1)t = 76 (1.1)t
5 ⋅ (1.1) ⋅ k (1.1)t + 4 k (1.1)t = 76 (1.1)t
5.5 k + 4 k = 76
9.5 k = 76
k=8
Yt, p = 8 (1.1)t
Since Yt = Yt,c + Yt,p, we get general solution of the equation:

Yt = A (−0.8)t + 8 (1.1)t
We substitute Y0 = 20 into general solution:

Y0 = A (−0.8)0 + 8 (1.1)0
20 = A +8
A = 12
Particular solution: Yt = 20 (−0.8)t + 8 (1.1)t
Stability
Sometimes we need to determine whether solution of equation is stable (it tends to a certain
value) or unstable (it tends to infinity)
Ø - < a < -1 => Solution unstable, at tends to +/-
Ø -1 < a < 0 => Solution stable, at tends to 0
Ø 0 < a <1 => Solution stable, a t tends to 0
Ø 1<a< => Solution unstable, at tends to
Applications of First-order Difference Equations
Lagged Income Model
→macroeconomic application of difference equations using the standard national income

model
-there exists no government or foreign sectors
Equilibrium condition: Yt = Ct + It
where: Ct = C0 + B x Yt-1 (if consumption depends on the income during the previous period)
It = I0 (a constant)
-Substitution of Ct into the equilibrium equation gives a difference equation in Y,

Yt = C0 + B x Yt-1+ I0
Yt = B * Yt-1+ K0
Where: K 0 = C0 + I0
-This is a linear, first-order difference equation
jjj
Cob-Web Model
→microeconomic application of difference equations
Equilibrium condition: QD 1 t = Qs 1 t
where: QD 1 t = a – B x Pt
Qs 1 t = c + D x Pt-1
-The quantity of the good supplied in time period t is a function of the price in the
previous time period
-This reflects the fact that a firm’s output may lag behind the market price
-Substitution of the RHS in the two previous equations into the condition for market
equilibrium gives rise to a difference equation in P:
a – B x Pt = c + D x Pt-1
-B x P t - D x Pt-1 = (c - a)
Harrod - Domar Growth Model
→another macroeconomic application of difference equations
Equilibrium condition: It = St
where: It = k (Yt – Yt-1)
(investment is proportional to the rate of change in income)
St = s x Y t
(savings at time period t depend on income)
the constant k is the capital output ratio, usually k > 1 and
the constant s is the marginal propensity to save, MPS, where 0 < s < 1
-Substitution of the last two equations in the equilibrium condition gives:

k (Yt – Yt-1) = s x Yt
(k-s) Yt – Yt-1 = 0
thus reducing to a first-order homogenous difference equation. On dividing by

(k-s) this may also be written as:
Yt – (k / (k-s)) Yt-1 = 0
Which has the general solution Yt = A(k / (k-s))t
k
→If < 1, the system stabilizes
k−s
kkk

Chapter 1: Mathematical Preliminaries: B A y X y B X B y A

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Essential Mathematics for Economics and Business

Chapter 1: Mathematical Preliminaries

Variables and letters

Square root (√)

Ø Number and symbols

Multiplication/ Division→ outcome of sign is dependent on amount of negative signs of the

A x B, (A•B), (A*B), (AB) A times B (the product of A and B)

Ø Other important identities

→ because only zero divided by any number is zero

Equations and inequalities

• A linear equation can have:

*because 2 - √3 is a positive number, x > 0

2). Now calculate the equivalent value of €400 in:

Basic knowledge on spreadsheets

-consists of a grid made from columns and rows

o cells may contain the following data:

-Using Excel, you can:

§ open and save files

Chapter 2: The straight line and Applications

• to find the vertical intercept (VI)/ y-intercept, you have to make x = 0

Y1 − y2 = a(x1 − x2), where x1 ≠ x2

Substitute this in the equation y=ax + b:

In order to determine the value of b, we calculate in a similar manner:

Y1x2 = ax1x2 + bx2, y2 x1 = ax2 x1 + bx1

Y1x2 − y2 x1 = b(x2 − x1)

→and the y- and x-intercepts also can still be derived as follows:

-We can rearrange the equation ax + by + d = 0 to obtain the following:

↑ by c units → replace y with (y - c)

-corresponding horizontal shift ∆x = ∆y / m

Ex. Given: y = 0,5x + 2

- A (mathematical) model: a (mathematical) description of a dynamical system.

- When is a model good?

-There are two methods to obtain a model, namely:

(1). System Identification Techniques (SIT)

-you excite a system (input) and you get a response (output)

(I1,O1) … (In, On)

O1 ≈ f (I1) ... O2 ≈ f (I2)

(2). First Order Modeling Principles (FOMP)

-involves energy conservation

-certain universal laws of physics (ex. F = m*a)

g(I,O, p) = 0, where p collects the model parameters

-Two main goals of modeling :

(based on the model I/O behavior)

-can be divided into two types:

Ø A supply-demand model (in which X is the product)

Demand function P = 10 - 0.5Q

Price elasticity of demand (εd)

-by multiplying n by (N/100), you obtain n% of N. Likewise:

-when the demand-law is linear P = a + bQ then ΔP = bΔQ

εd =(ΔQ/ γΔQ) x (P0/Q0)

There are two special cases of demand elasticity. They are:

The demand is perfectly elastic.

The demand is perfectly inelastic.

Factors Affecting the Price Elasticity of Demand

Arc price elasticity of demand

§ As opposed to point elasticity, the arc elasticity measures the elasticity

∆Q 1 / 2( P(1) + P(2)) ∆Q P(1) + P(2)

*note:here we use ½(P(1) + P(2)) and ½ (Q(1)+Q(2)) because

§ This is called the midpoints elasticity formula or arc-price elasticity formula

§ When the demand-law is linear, then:

∆Q P(1) + P (2) 1 P (1) + P(2) ∆Q − 1

Price elasticity of supply

Chapter 3: Simultaneous Equations