lecture 3 national income 1 1.supply side factor markets (supply, demand, price) determination of...
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Lecture 3National Income
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1. Supply side factor markets (supply, demand, price) determination of output/income
2. Demand side determinants of C, I, and G
3. Equilibrium goods market loanable funds market
Lecture 3. National Income
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A basic classical model
• the determinants of the level of output (income)
• how income is distributed
• how output is allocated among alternative uses
• what ensures that the supply of and demand for goods are
equal
Lecture 3. National Income
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Lecture 3. National Income
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What Determines the Total Production of Goods and Services?
• The Factors of Production K = capital: tools, machines, and structures used in production L = labor: the physical and mental efforts of workers
• The Production Function: Y = F(K,L)o shows how much output (Y ) the economy can produce from K units of capital and L units of labor o reflects the economy’s level of technology o exhibits constant returns to scale
• The Supply of Goods and Services
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Returns to scale: A review
Initially Y1 = F (K1 , L1 )
Scale all inputs by the same factor z:
K2 = zK1 and L2 = zL1
(e.g., if z = 1.2, then all inputs are increased by 20%)
What happens to output, Y2 = F (K2, L2 )?
• If constant returns to scale, Y2 = zY1
• If increasing returns to scale, Y2 > zY1
• If decreasing returns to scale, Y2 < zY1
Lecture 3. National Income
6Capital (K)
Out
put (
Y)
0
Y=F K,L( )
Production function
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k
y
Slope. Marginal product of capital (>0)
Output-labourratio
(y=Y/L)
0
y=f k( )
Capital-labour ratio(k=K/L)
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1y
2} y
Curve. Diminishing marginal productivity
Output-labourratio
(y=Y/L)
0
y=f k( )
k
k
Capital-labour ratio(k=K/L)
1 2y y
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Shift. Changes in productivity
Output-labourratio
(y=Y/L)
0
( )1
y=f k
Capital-labour ratio(k=K/L)
( )2
y=f k
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The Distribution of National Income to the Factors of Production
• Factor Prices
• The Decisions Facing the Competitive Firm
• The Firm’s Demand for Factors
• The Division of National Income
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Lecture 3. National Income
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Production Function: Y=f(K,L)
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The Cobb–Douglas Production Function
• The Cobb-Douglas production function has constant factor shares: = capital’s share of total income:capital income = MPK x K = Ylabor income = MPL x L = (1 – )Y
• The Cobb-Douglas production function is:
where A represents the level of technology.
1Y AK L
Lecture 3. National Income
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Demand for Goods and Services
• Consumption
• Investment
• Government Purchases
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The Consumption Function
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The Investment Function
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What Brings the Supply and Demand for Goods and Services Into Equilibrium?
• Equilibrium in the Market for Goods and Serviceso Demand for g&s
o Supply of g&s
• Equilibrium in the Financial Markets
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Saving, Investment, and the Interest Rate
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A Reduction in Saving
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Wars and Interest Rates in the UK
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An Increase in the Demand for Investment
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An Increase in Investment Demand When Saving Depends on the Interest Rate
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Student Presentations
Due: February 24th at the end of the lecture
1st topic: GDP in Azerbaijan
2nd topic: Inflation and Unemployment in Azerbaijan