ECON 315: Applied Mathematics for Economists

• Exponential and Logarithmic Functions and their

Applications

Slide 1
 Session Overview
By the end of this section, you should be able to:
• Define and explain expo and log functions
• Differentiate an ordinary expo function from a natural
expo function
• Perform basic operations involving expo and log
functions
• Sketch the graph of expo and log functions
• Apply these functions in interest compounding,
discounting and estimation of growth rate from data
points
Expo and log functions and their applications Slide 2
 Session Outline
The key topics to be covered in the session are as
follows:
• Expo Functions
• Algebra of Expo Functions
• Log Functions
• Algebra of Log Functions
• Application of Expo and Log functions: Interest
Compounding, Discounting, Estimating Growth Rates
from Data Points
Expo and log functions and their applications Slide 3
 What is an Expo Function?

Any function of the form

where b is the base of the function which is

constant and the exponent, x, is a variable.
Examples:

Domain of an expo function: Set of all real

numbers defining a range of all positive real
numbers for the function i. e.
Slide 4
 What is an Expo Function?
The constant base, b, must be positive and not equal
to one at the same time.
Why? For computational purposes, we are likely to
run into the problems of finding the square root of
negative numbers.

• For instance, and

• for all values of x.

Slide 5
 Graph of an Expo Function
Graphs of expo functions is always convex to
the origin but may be increasing or decreasing
depending on the value of the constant base:
• If b> 1then the graph will be sloping upward
from left to right
• If 0 < b < 1, then the graph will be sloping
downward from left to right.

Slide 6
Graph of an Expo Function-Example

 For b>1 let us take y  2x and y  3x

 2  3
x x
 For 0 < b< 1 let us take y  1 and y  1

Slide 7
 Graph of an Expo Function Cont’d

y  2 y  3 , y   1  and y  1  
x x
, x
x
2 3

The values of the function are obtained by inserting Slide 8

the value of x into the exponential function
 Graph of Four Expo Functions

• Graphs are convex to the origin

Slide 9
 Algebra of Expo Functions
• The following are the rules governing the operation
of exponential functions
x x x
b x y 1 x a a
1. b .b  b
x y x y
2. y
b 3. b   b 4.
x y xy
x
 b 5. x  
b b b b

y
6. b  b x x y
7. a .b  ab 
x x x

Slide 10
 Example
• Using the relevant rule(s) of exponential functions
compute

3
1. 2 2. 
3
4 2
16 4

Slide 11
 The Algebra of Expo Functions
SOLUTION
Rewrite 4 as 2 and substituting I obtain:
2 b x x y
2. Using division rule y  b
b
3
3 3 16 4
2 2

42 22   2 Rewrite 16 as 2 4 and substituting I obtain:
 2 
3
4 4
x
b
Using the rule b x y
  b xy and y  b x  y
b 1
Using the rule b x   b xy and
y
x
 b  x I obtain:
23 b
23 1
  4  2 3  2 4  2 3  4  2 1 
2 
2 2 2 2  
 24
3
4
2
43
4
 2 3 =
1 1
3

2 8

Slide 12
 ACTIVITY 1
• Using the relevant rule(s) of exponential functions,
compute the following:
16 3 1 2
4 10
3. 3 

3 3
1. 14 2. 4 2
4. 2
4 5

Slide 13
 Natural Expo Functions

• Natural expo function is a form of expo function in which

the base b=e..
where the value of
• The value of e is mostly important when dealing with
interest compounding and continuous growth.
• Examples of natural expo functions are:

2
y  3e ; y  e
x 2 x 5
; y  e and z  x .
x

1 e
Slide 14
The Graph of Natural Expo Function

Slide 15
 What is a Log Function?

• The log of a given number is the number to

which the base of the log must be raised in order
to obtain that given number.
• For instance, 81=92 can be written as
• More symbolically
- when you raise b to the power y, you must get
x.
where b > 0, and b ≠ 1.
Slide 16
 Graph of Log Functions
• Graph of log functions could be concave or convex
depending on the value of the base of the logarithm
• If b>1, the graph will slope upward from left to right and
concave
• If 0<b<1, the graph will slope downward from left to right
and convex
• Lets look at the table of values and graph of the following
logarithmic functions

Y  Log 2 X and Y  Log0.5 X

Slide 17
Table of Log Functions cont’d
X Y=Log2X  Y=Log0.5X 
2y=X 0.5y=X
-2.50 0.18 5.66
-2.00 0.25 4.00
-1.50 0.35 2.83
-1.00 0.50 2.00
0.00 1.00 1.00
1.00 2.00 0.50
1.50 2.83 0.35
2.00 4.00 0.25
2.50 5.66 0.18Slide 18
Graph of Log Functions cont’d

Slide 19
 Common and Natural Log
• The base of a log can be any positive real
number.
• Base 10 and e are mostly used.
• Log of base 10 are referred to as common log
whiles that of base e is called natural log.
• In practice, is symbolised as log X
is symbolized as In X .

Slide 20
 Rules of Log Functions
• Lets a, b, x, and y be positive real numbers and
a, b ≠ 1, then.
Product rule log a xy  log a x  log a y
Quotient rule x
log a    log a x  log a y
 y
Power rule log a xb  b log a x
Base inversion log x  1
a
rule log x a
Miscellaneous log a 1  0 , log a a  1
Slide 21
 Example
1. x  3(5) 2
2. x  5

Slide 22
 Example contd

1
9
3. x 25 2 4. x 
3

0.47712
𝑥 =10 =3
Slide 23
 Application: Interest Compounding -1
• Bank loans attract interest which is computed
at discrete or continuous intervals.
• If an amount P is borrowed at an interest rate
r, compounded annually. At time
• t=1, :

• At t=2,

• Thus, at time t=t,

Slide 24
• If interest is compounded m times in a year
for t years, then at the end of the t-th year,
the amount to be paid is given as:

Slide 25
 Interest Compounding-2
• If interest is compounded continuously, then the limit
of the discrete formula as m turns to infinity must be
taken. Thus:

or
.

Slide 26
 Example

Mr Okine borrowed an amount of ¢ 250 at an

interest rate of 15%. How much is he going to
pay at the end of 3 years if interest is
compounded:
i. Yearly ii. Quarterly
iii. Continuously

Slide 27
 Solution
Given P=250, r=0.15 and t=3
Annual interest
Compounded quarterly
m=4

Slide 28
Solution contd

Slide 29
 Example 3
• A sum of money is invested at a certain fixed interest rate and the
interest is compounded continuously. After five years, the money
has doubled.
a. Calculate the rate of interest.
b. How will the balance at the end of ten (10) years compare with
the initial investment?
c. How much should be invested today at 10.4% compounded
weekly so that at the end of 3 years it will be worth GH¢3000?
d. How quickly will a given investment double if it is invested at
annual interest rate of 10% and the interest is compounded semi-
annually?

Slide 30
 Solution to Example 3
a. Continuously compounded b.

Slide 31
 Solution to Example 3
With r=0.13862 and t=10,

This means the amount will be four times the initial

investment
Slide 32
 Solution to Example 3 Cont’d
c. To get the principal that need to be invested, make P
the subject from the formula

Slide 33
 Solution to Example 3 Cont’d
d. This question requires that we calculate time t.

Slide 34
 Activity 2
• How quickly will a given investment triple if it is
invested at an annual interest rate of 10% per annum and
interest is compounded
a. annually b. weekly
• Assume a population growth model of
How long will it take for the population to double?
• Calculate the balance at the end of 2 years if you deposit
¢100 in savings account with a bank which compounds
interest monthly at the rate of 10% per month.

Slide 35
• The quoted value of interest is termed the nominal
rate of interest. however, the actual percentage by
which an amount grows in a year is called the effective
rate of interest.
• To derive the relationship between nominal and
effective interest rate, we equate

Slide 36
 Nominal versus Effective Rates of Interest

• This formula allows us to find the effective annual

rate of interest (re) for multiple compounding once
the nominal rate is known.
Slide 37
Nominal versus Effective Rates of Interest Cont’d

• However, to find the effective interest rate for

continuous compounding, we equate

• Dividing both sides by P and raising each side to

the power 1/t

Slide 38
 Example
• If the interest rate is 20% and interest is
compounded
• i) half yearly and
• ii) continuously,
• what will be the corresponding effective
interest rates?

Slide 39
 Solution to Example 4
• Half yearly it means that m=2.

• For continuous compounding,

Slide 40
 Application: Discounting
• Discounting is the opposite of compounding and the
process by which the present value of a future value is
determined
• Under annual interest compounding we found

• Note that A is Future Value (FV) and P is the Present

Value (PV)
• Thus,
Slide 41
 Application: Discounting
• Making FV of the formula, we obtain:

• Also, for multiple compounding/discounting

Slide 42
 Example
• How much should you deposit in your savings
account if the annual interest rate of the bank
is 10% so that your balance 5 years from now
will be ¢1500 given that the interest is
compounded
a. Semi-annually b. continuously

Slide 43
 Solution

Given FV= ȼ1500, m=2, r=10% and t=5

For continuous discounting,

Slide 44
 Topic 6
Estimating Growth Rates from Data Points
• We can estimate growth rates from data points
if we make the fundamental assumption that
growth occurs consistently.
• For instance, with profit for two time periods,
we can estimate the growth rate of profits if we
assume that profit grow discretely or
continuously and consequently forecast profits.

Slide 45
 Example
• Statistic available shows that the GDP of a
country in 1990 and 2000 were 500 billion and
1250 billion respectively. Compute the rate of
growth in GDP and use the information to
forecast GDP for 2010 if GDP grows:
a. Continuously/ exponentially
b. Discretely

Slide 46
 Solution to Example 6
• For exponential GDP growth

Defining 1990 as t=0 and the year 2000 as t=10, and

inserting values,

• ;

Slide 47
• From Equation (1),

• Substituting into Equation (2) gives

Slide 48
 Solution to Example 6 Cont’d
• Substituting this value of r into the GDP expression
we have

• To forecast GDP for 2010, substitute t=20 into

• We obtain

• This means GDP will be 3,123.20 billion in 2010.

Slide 49
• However, if GDP grows discretely every year,
then;

• Defining 1990 as t=0 and the 2000 as t=10, we

have

Slide 50
 Solution to Example 6 Cont’d

• From Equation (1)

• Substituting into Equation (2), we obtain
•
• Dividing both sides by 500 and taking the 10th root of both side we obtain:

• Substituting the value of r into GDP expression, we obtain:

Slide 51
 Solution to Example 6 Cont’d
• To forecast GDP for 2010, we substitute t=20
into the expression

• Thus,

• Meaning that the GDP will be 3125.10 billion in

2010 if growth is discrete

Slide 52
 Activity 3
• The government of Ghana Introduced the student’s loan
scheme in 1989. The basic aim of the programme was to
support students through university education and the amount
paid to students in that year is ¢500,000.
(a) Assume that in the year 2000, students were paid an amount
of ¢1,200,000. Calculate the growth rate if it is assumed to be:
(i) Discrete (ii) Continuous
(b) Using your results in (a) write down the general equation for
the growth of students loan in both cases
(c) How much will students receive in both cases in the year
2005?
Slide 53
 Activity 4
• (a) In order to convince policy makers that there is the need to
generate more energy for local consumption, Volta River
Authority (VRA), the sole power producer in Ghana estimates
that energy demand will increase from 3,586 to 9,794 GWh
over a ten-year period starting from the year 2000.
• calculate the growth rate in Ghana’s energy demand if its
(i) continuous
(ii) discrete

(b) Using your results in (a), write down the general equation
for Ghana’s Energy demand in both cases
Slide 54
 Activity 4 Cont’d
(c) Assume that the Energy Commission, charged with the
responsibility of formulating energy policies for Ghana estimates
that the energy demand growth is discrete, at what point in time
will the country be required to generate 14,500 GWh of energy.

(d) If the Ministry of Energy - the implementing agency of all

energy programmes estimate that the energy demand growth is
continuous and uses this in its projections, what will be the
excess or shortfall in energy generated at that point in time?.

Slide 55