Chapter 1

TECHNOLOGY-PRODUCTION
FUNCTION
INTRODUCTION
Basic concepts
Production: Production may be regarded as a
transformation from one state of the world to another.
Acts of production: There are four ways in which the
state of the world may be so change.:
(i) The quantity of a good may be changed: (We can
produce more motor cars )
(i) The quality of a good may be changed: ( We can
produce better motor cars )
(i) The geographical location of a good can be
changed: ( We can deliver a car to a customer )
(i) The time location of a good can be changed: (We can
hold a car in stock until the consumer wishes to take
delivery )
Measurement of inputs and outputs
Inputs: Economic resources such as labor,
capital, landare used in producing goods
and services.
Outputs: Goods that a firm produces in the
production process.
Inputs and outputs are measured in terms of
flow (a certain amount of inputs per time
period are used to produced a certain amount
of outputs per unit time period).
Example:
II. Specification of technology
2.1. Definition 1.1: Net output
Suppose the firm has m possible goods to
serve as inputs or outputs.
If a firm uses a
j
units of a goods j as an input
and produces b
j
units of the good j as an
output , then the net output of good j is given
by : y
j
=b
j
-a
j
.
y
j
> 0, then the firm is producing more of
good j than it uses as an input;
y
j
< 0, then the firm is using more of good j
than produces it
Definition of Production plan
A production plan is a list of net outputs of
various goods.
We can represent a production plan by a
vector y in R
m
, where y
j
<0 if the j
th
good
serves as a net input and y
j
>0 if the j
th
good
serves as a net output.
Example
Definition of Production possibilities set
The set of all technologically feasible
production plan is called the firms
production possibilities set and will be
denoted by Y, or
Production possibility set of a firm is a sub-
set Y of the space R
m.
A firm may select any
vector y eY as its production plan
{ | }
m
Y y R y isa feasible production plan e
Figure 1. Production possibilities set
.
Y
0
y
x
ASSUMPTION .1. Axioms on the Production
Possibility Set, Y

(iv) Y is a closed and bounded set. .

{ }
0 ; (possibility of inaction)
( ) 0 ; (no free production).
( ) ; (free disposal)
( )
m
m
Y
ii Y
iii Y
i
+

e
=
c

The first of these axioms is called the

possibility of inaction. It says that no inputs
and produce no output.
Since costs are the expense of acquiring
inputs, and revenue the proceeds from the
sale of output
one of implications of this axiom is that
firm profits in the long run need never be
negative .
Axiom 2 is called the axiom of no free
production at least some resources must be
used up in the production of any output).
Axiom 3 is called the axiom of free disposal.
It says that the firm can always use unlimited
amounts of inputs to produce no output.
Axiom 4 ensures that the production
possibility set contains its boundary so that
there will be an efficient frontier, giving a
well - defined maximum amount of output
than can be obtained from a given level of
input.
Figure 2. A production possibility set
not closed and closed
.
0
y
2
y
1
0
y
1
y
2
Short-run production possibilities set
Suppose a firm produces some outputs from
labor and capital.
Production plans then look like (y,-l,-k).
Suppose that labor can varies immediately
but that capital is fixed as level of in the
short- run . Then
k
{ }
( ) ( , , ) : Y k y l k Y k k = e =
Input requirement set
The production possibility set allows for
multiple inputs and multiple outputs.
However, we will want to consider firms
producing only a single product from many
inputs.
It is more convenient to describe the firm's
technology in terms of the inputs necessary to
produce different amounts of the firm's output.
The concept of input requirement set V(y) is
related to require positive amounts of n inputs to
produce a scalar output
Definition of input requirement set
The input requirement set is defined as all
combinations of inputs which produce at least y
units of output. Figure 3. input requirement set

{ }
( ) , : ( , )
n
V y x y y x Y
+ +
= e e e
20 40 60 80 100
0
20
40
60
80
100
V(y)
x
1
x
2
Assumptions on the Input Requirement Set
1. (Input regularity)
V(y) is non - empty, closed, and if y>0,
then, 0 e V(y)
2. (Monotonicity)
If x eV(y) and x > x, then xeV(y);
3. (Convexity)
If x
1
, x
2
eV(y) and with t e|0,1| then tx
1
+(1-
t)x
2
eV(y).

Input regularity is both a continuity

requirement and an implication of the "no
free production" axiom.
Monotonicity says that adding more of any
input can never reduce the amounts of
output produced and it is implied by the
axiom of free disposal.
The axiom of convexity say that any convex
combination of two processes which each
produce at least y units of output as separate,
third process can produce at least y units.
Example on properties of v(y)
For an input requirement set:
Assume that the parameters a, b and the output
level is strictly positive. Show that v(y) is
monotonic and convex, nonempty but not closed.
Proof: It is easy to show that v(y) is nonempty and
not closed (since x
1
>0)
( )
{ }
2
1 2 1 2 1
( ) , : , 0 V y x x y ax bx x
+
= e s + >
Understading v(y) and Y
V(y) is convex but Y may not be convex, for
example:
Consider the technology generated by a
production f(x)=x
2:
The production possibility set is
Y={(y,-x): ys x
2
} which is not convex,
V(y)={x: x s y
1/2
} which is convex set.
Definition1.6: Isoquant
An isoquant shows the different combinations of
inputs ( labor (L) and capital(K) )with which a firm
can produce a specific quantity of output. A higher
isoquant refers to a greater quantity of output and a
lower one, to smaller quantity of output.
The isoquant is the efficient frontier of the input
requirement set and is where we expect a firm
producing y units of output to choose to operate
whenever inputs are costly:

{ }
( ) ( ) & ( );0 1
n
Q y x x V y x V y
+
= e e e s <
Figure 4. Isoquant(ng lng)
.
0 20 40 60 80 100
x
1
V(y)
20
40
60
80
100
x
2
x
Q(y) xe V(y)
Figure 5. Slope of isoquant
The slope of the isoquant at x is the tangent of
the isoquant at x
0 20 40 60 80 100
Q(y) = {x | y = f(x)}
20
40
60
80
100
120
x
1
x
2
x
Production Function
A real valued function f(x) is called a
production function if: f(x) max {y > 0 | x e
V(y)}.
Since by definition.
V(y) = {x | f(x) > y}
Q(y) = {x | f(x) = y}.
When V(y) is input regular, the production
function is continuous and f(0)=0. If y=f(x) and
y>0, then x
i
>0 for at least one input i. If V (y) is
monotonic, the production function is non -
decreasing. When V(y) is convex, f(x) is
quasiconcave.
Figure 6. Production function y=f(x) and
production possibility set
.
x
y
y=f(x)
Y
0
Figure 7. Isoquant lines for Cobb-Douglas
and Leontief technology
.
0 10 20 30 40 50 60 70 80 90 100
0
10
20
30
40
50
60
70
80
90
100
Q(y
2
)
Q(y
1
)
x
1
x
2
0 10 20 30 40 50 60 70 80 90 100
0
10
20
30
40
50
60
70
80
90
100
Q(y
2
)
Q(y
1
)
x
1
x
2
Examples
Draw an isoquant map in the case of production
function: y=x
1
1/2
x
2
1/2
1
..
Assume that we hold output constant y=1,2,10
1(2,3,,10)=x
1
1/2
x
2
1/2 ,
where only x
1
and x
2
are
allowed to vary. The range of combinations allowed
by that equation is the isoquant for the production
level: x
2
=1/x
1
.
Figure 8. Production function in the short-
run
.
0 20 40 60 80 100 120
20
40
60
80
100
x
1
y =f(x
1
,)
The Cobb-Douglas technology is defined in the
following manner
( )
{ }
( )
{ }
( )
{ }
( )
{ }
3 1
1 2 1 2
2 1
1 2 1 2
2 1
1 2 1 2
3 1
1 2 1 2 2
1
1 2 1 2
1
1 2 1 2
, , :
( ) , :
( ) , :
( ) , , : ,
( , , )
( , )
a a
a a
a a
a a
a a
a a
Y y x x y x x
V y x x y x x
Q y x x y x x
Y z y x x y x x x z
T y x x y x x
f x x x x

= e s
= e s
= e =
= e s =
=
=

Homogeneous production functions

A production function f (x) is called:
1. Homogeneous of degree k iff : f(tx)=t
k
f(x)
Two special cases are worthy of note. f(x) is:
2. Homogeneous degree 1(or linear homogeneous) iff
f(tx)=tf(x) for all t>0
Homogeneous of degree zero iff f(tx)=f(x) for all t>0
Homogeneity is a global characteristic. When a function
homogeneous of degree zero, changes in all variables
leave the value of the function unchanged.
Example : Consider the production function:
f(x)= Ax
1
a
x
2
b
, A > 0, a > 0, b > 0
We check whether this function is homogeneous by
multiplying all variables by the same factor t and seeing
what we get.
We find that
According to the definition, the Cobb Douglas form is
homogeneous of degree a+b>0 .
1 2 1 2 1 2
1 2
( , ) ( ) ( ) .
( , ).
a b a b a b
a b
f tx tx A tx tx t t Ax x
t f x x
+

=
Theorem:(Shephard) Linear Homogeneous
Production Functions Are Concave
Let f(x) be a production function and suppose
that it is homogeneous of degree 1. Then f (x)
is a concave function of x
(Exercise)
Homothetic production function
A function is homothetic if it can be written
as a monotonic transformation of a
homogeneous function. More formally
z = f(x): f: is homothetic if there
exist two functions h and g , where h: is
homogeneous at degree r and g
With g > 0 such that f(x) = g[h(x)].
n

n


For examples
1. Prove that production functions in (i) and
(ii) are homothetic production functions and
(iii) is not homothetic production function
(i) y= f(x)=x
1
1/2
x
2
1/2,
.
3 2
1 2 3
1 2 3
2 2
1 2 1
( ) ( , , )
( ). ( , ) ( 2)
x x x
ii f x x x e
iii f x x x
+
=
=
Figure 9. Homogeneous and homothetic
production functions
.
20 40 60 80 100
0
20
40
60
80
100
20 40 60 80 100
0
20
40
60
80
100
x
2
x
1
x
2
x
1
2x
x
2x'
x' y
2
=2y
1
y
1
y
2
= 2y
1
y
1
2x
2x'
x
x'
(b) (a)
Figure (a). Presents an homogeneous function
at degree 1. If x and x' can produce y , then
2x and 2x' produce 2y.
Figure (b) shows an homothetic function . If
x and x' produce y then 2x and 2x' can
produce the same level of output , but not
necessarily 2y.
Cobb-Douglas production function
Cobb-Douglas production function with two inputs
satisfied assumption constant return to scale:
: y=f(K,L)=AK
o
L
1-o
, where K is capital, L is labor. y is
output. A , 1>o > 0 are parameters.
The many input- Cobb-Douglas production function
(1) It is easy to show that this function exhibits constant
return to scale if |
1
+|
2
++ |
n
=1.
(2) Since |
i
e [0,1] for all i, it exhibits diminishing
marginal productive for each input.
(3) Any degree of increasing return to scale can be
incorporated into this function depending on the value of
|
1
+|
2
++ |
n
I
=
= =
n
i
i
i
x A x f y
1
) (
|
Isoquant of Cobb-Douglas Production
function
Cobb-Douglas production function with two
variable in the form:y=f(K,L)= AK
a
L
b
, where
K is capital, L is labor. y is output. A , a,b> 0
are parameters.
The equation for an isoquant is obtained if we
fix the value of output y=y
0
. We then obtain:
y
0
= AK
a
L
b,
Rearranging, we find L=(y
0
/ A)
1/b
K
-a/b
Figure 10 Isoquant map of Cobb-Douglas
Production function with two variables
.
0 10 20 30 40 50 60 70 80 90 100
0
10
20
30
40
50
60
70
80
90
100
Q(y
2
)
Q(y
1
)
L
K
CES production function
The two input constant elasticity of substitution
production function is given by
1. This function exhibits constant return to scale
2. It becomes the linear production function (if p=1)
3. It becomes the Cobb-Douglas production function ( p=0).
When p=0 the CES is not defined.
However, one can show that as p approaches zero, the
isoquants of the CES function look like the isoquants of the
Cobb-Douglas production function.
4.The Leontief production function (p- )

| | 1 0 , 0 ; ) 1 ( ) , (
/ 1
2 1 2 1
< < > + = =


o o o
p
p p
A x x A x x f y
A general CES production function
The CES production function can be
generalized to any degree of homogeneity.
Consider the production function
x
1
,x
2
> 0; B , o and k are positive. This
function is homogeneous of degree k .
If k<1 , this function is strictly concave.
| |
p
p p
o o
/
2 1 2 1
) 1 ( ) , (
k
x x B x x f y


+ = =
The many input constant elasticity of
substitution
The many input constant elasticity of substitution is
given by:
is a CES form with for all . It can
be shown that as giving Leontief form
1/
1 1
, 1
n n
i i i
i i
y x where
p
p
o o
= =
| |
= =
|
\ .

1/(1 )
ij
o p =
i j =
, 0
ij
p o
1
min{ ,..., }
n
y x x =
Leontief production function
(fixed proportion)
A Leontief technology uses inputs in fixed
proportions. The Leontief can be defined as:
y=f(x
1
,x
2
)= min{ax
1
,bx
2
}
Where a,b (>0) are parameters
Suppose we produce a goods by using one unit
of input 1 (x
1
) and one unit of input 2. Extra
x
1
arent worth anything, and either are extra
x
2
.
Figure 11. Isoquant map of Leontief
production function
.
0 10 20 30 40 50 60 70 80 90 100
0
10
20
30
40
50
60
70
80
90
100
Q(y
2
)
Q(y
1
)
x
1
x
2
Linear production function
( perfect substitute)
Linear production function can be as
y=f(x
1
,x
2
,,x
2
) = a
0
+a
1
x
1
+.+a
n
x
n
where a
i
is the quantity of the ith input
required to produce one unit of output.
In the case of two variables:
y=f(x
1
,x
2
) = a
0
+a
1
x
1
+a
2
x
2
Translog production function
N-input case of the translog production function can
be as
1. Note that the Cobb-Douglas function is a special
case of this function |
j
=|
ji
=0 for all i and j.
2. The condition |
k
=|
ki
is required to assure equality
of the cross-partial derivatives.
3. This function can assume any degree of returns to
scale . If for all i, this function
exhibits constant return to scale .
0 ; 1
1 1
= =

= =
n
j
ij
n
i
i
| |
ji ij j i
n
i
n
j
ij i
n
i
i
x x x y | | | | | = + + =

= = =
; ln ln
2
1
ln
1 1 1
0
Average product of an input
Total product divided by the number of units
of the input used
i
x
x x f ) , (
2 1
Marginal physical product
Maginal physical product: The change in
total product per unit change in the quantity
used of one input
The marginal physical product of an input is
the additional output that can be produced by
employing one more unit of that input while
holding all other inputs constant.
If y= f(K,L)
( , )
K K
f K L
MP f
K
c
= =
c
( , )
L L
f K L
MP f
L
c
= =
c
Law of diminishing returns
As more units of an input are used per unit of
time with fixed amounts of another input, the
marginal physical product declines after a
point
Mathematically, an assumption of
diminishing marginal physical productivity is
an assumption about the second-order
derivatives of the production function
2
2
( , )
0
K
KK
MP f K L
f
K K
c c
= = <
c c
2
2
( , )
0
L
LL
MP f K L
f
L L
c c
= = <
c c
Definition of Technical rate of
substitution (TRS) (or marginal rate of
technical substitution)
The amount of an input that a firm can give
up by increasing the amount of other input by
one unit and still remain on the same
isoquant
Explanation
Suppose that we have some technology
summarized by a smooth production function
y=f(x
1
,x
2
).
Suppose that we want to increase the amount
of input 1 and decrease the amount of input 2
so as to maintain a constant level of output.
How can we determine this technical rate of
substitution (TRS) between these two factors?
Consider the particular change in which only
factor 1 and factor 2 change, and the change is
such output remain constant.
f(x
1,
x
2
(x
1
))=y. Differentiating the identity yields
This gives an explicit expression for the TRS.
2 1
1 2 1
2 1
1 1 2
( *) ( *) ( *)
0
( *) ( *) ( *)
/
f x f x x x
x x x
x x f x f x
or
x x x
c c c
+ =
c c c
c c c
=
c c c
Here is another way to derive the technical
rate of substitution (TRS).
This expression is known as the total
differential of the function f(x) .
2
1 2
1 2 1 1 2
( ) ( ) ( ) ( )
0 /
f x f x dx f x f x
dx dx
x x dx x x
c c c c
= + =
c c c c
1 2
1 2
( ) ( ) f x f x
dy dx dx
x x
c c
= +
c c
In general, the TRS of factor i for factor j is
defined as
( )
( ) /
( 1)
( ) /
j
i
ij
i j
along Q y
dx
f x x
TRS
dx f x x
c c
=
c c
Figure 12. Illustrated TRS
.
0 20 40 60 80 100
Q(y) = {x | y = f(x)}
20
40
60
80
100
120
x
1
x
2
x
1
2
( ) /
( ) /
f x x
f x x
c c

c c
Example
Compute the TRS for a Cobb-Douglas
technology : f(x
1
,x
2
) =x
1
a
x
2
1-a
Elasticities
Definition: The elasticity of f(x) with respect to
x is (approximately) the percentage change in
f(x) corresponding to a one per cent increase in
x.

Partial elasticity of f(x

1
,x
2
,..., ) with respect to
x
i
can be defined as
.
( ( ))
'( ) ( ) '( )
( ) ( ) ( )
x
x x d Lnf x
f x or f x f x
f x f x d Lnx
c c = = =
( )
( )
i
i
i
x f x
f x x
c
c
=
c
General rules for calculating elasticities
( )
2. ( ) / ( ) ( ) ( )
x x x
f x g x f x g x c c c =
( )
3. ( ) ( ) ; ( )
x u x
f g x f u u u g x c c c = =
( )
( ) ( ) ( ) ( )
4. ( ) ( )
( ) ( )
x x
x
f x f x g x g x
f x g x
f x g x
c c
c
+
+ =
+
( )
( ) ( ) ( ) ( )
5. ( ) ( )
( ) ( )
x x
x
f x f x g x g x
f x g x
f x g x
c c
c

=

( )
1. ( ) ( ) ( ) ( )
x x x
f x g x f x g x c c c = +
Special rules for calculating elasticities
6. 0; tan
x
A A cons t c = =
7.
a
x
x a c =
1
8.
x
Lnx
Lnx
c =
1
9. log
x a
x
Lnx
c =
Definition of Elasticity of Substitution
The elasticity of substitution (o) is defined to
be the ratio of two factors (capital labor ratio
(K/L)) and the TRS changes. It is measure of
how curved the isoquant is.
In moving from A to B on the Q = Q
0
isoquant,
both the capital labor ratio (K/L) and the TRS
will change.
Figure.13. Description of the elasticity of
substitution
.
A TRS
A
10 20 30 40 50 60 70 80 90
L
0
10
20
30
40
50
60
70
80
90
K
Q=Q
0
B TRS
B
(K/L)A
(K/L)B
Mathematical definition of The Elasticity
of Substitution
For a production function f(x), the elasticity
of substitution between factors i and j at the
point x is defined as
ln( / ) ( / ) ( ) / ( )
ln( ( ) / ( )) / ( ( ) / ( ))'
ln( / )
ln
j i j i i j
ij
i j j i i j
j i
d x x d x x f x f x
d f x f x x x d f x f x
d x x
d TRS
o =
= =
An alternative formula for the elasticity of substitution

If f(x
1
,x
2
) is homogeneous of degree 1, then
i j
ij
i
i
x x
x x f
f
x
x x f
f c x x f
f
f
f f
f
f
f
f x f x
c c
c
=
c
c
= =
+
+
=
) , (
;
) , (
; ) , ( ,
) (
2
) (
1 1
2 1
2
2 1
2 1
2
2
22
2 1
12
2
1
11
2 2 1 1
o
12
2 1
ff
f f
= o
The closer o is to zero, the more strictly
convex the isoquants and the more "difficult"
substitution between factors.
The larger o is, the flatter the isoquants and
the "easier" substitution between factors.
Isoquants for two extreme and one
intermediate value of o are illustrated in
Figures below.
Figure 14. Isoquant map for two extreme and
one intermediate values.
.
0
Q(y)
Q(y)
x
2
x
1
o
0
Q(y)
Q(y)
x
2
x
1
< <o 0
Q(y)
Q(y)
x
2
x
1
0 = o
In figure (a) capital and labor are perfect
substitutes. In this case the TRS will not
change as the capital- labor ratio changes.
In figure (b) the fixed proportion case, no
substitution is possible. The capital-labor
ratio is fixed.
A case of limited substitutability is illustrated
in figure (c)
Example
Calculate o for the Cobb - Douglas
production function y= Ax
1
a
x
2
b
, where A>0,a>,
and b>0
Example : In the case of homogeneous of
degree 1
The elasticity of substitution can be phrased in terms of
the production function and its derivatives in the constant
return to scale
For example: given f(K,L)= AK
a
L
1-a
( )( )
( )
2
/ /
( , ) /
f L f K
f K L f L K
o
c c c c

c c c
( )( )
( )
( )( )
( )( )
2
2
/ / 1 / ( / )
1
1 /
( , ) /
f L f K a f L a f K
f a a KL
f K L f L K
o
c c c c
= =

c c c
Returns to Scale and Varying Proportions
Returns to scale refers to how output responds
when all factors are varied in the same proportion,
i, e,..
Constant returns to scale: When all inputs are
increased in a given proportion and the output
produced increases exactly in the same proportion.
Decreasing returns to scale: The case when output
grows proportionately less than inputs.
Increasing returns to scale: The case when output
grows proportionately more than inputs.
Returns to scale and production
The scale properties of the technology may
be defined either locally or globally.
A production function is classified as having
globally constant, increasing, or decreasing
returns to scale according to the following
definitions.
(Global) Returns to Scale
A production function f(x) has the property of
(globally):
1. Constant returns to scale if, and only if
f(tx) =tf(x), for all t > 0 and all x.
2. Increasing returns to scale if, and only if,
f(tx)>tf(x) for all t > 1 and all x.
3. Decreasing returns to scale if, and only if,
f(tx)<tf(x) for all t > 1 and all x.
Notice from these global definition of returns
to scale that a production function has constant
returns if and only if it is a (positive) linear
homogeneous function.
Many technologies exhibit increasing,
constant, and decreasing returns over only
certain ranges of output. It is therefore often
useful to have a local measure of returns to
scale.
One such measure, defined at a point, tells us
the instantaneous percentage change in
output that occurs with a 1 percent increase
in all inputs.
It is known as the elasticity of scale or the
(overall) elasticity of output, and defined as
follows.
(Local) Returns to Scale
The elasticity of scale at the point x is
defined as
Returns to scale are locally constant,
increasing, or decreasing as is equal to
greater than, or less than 1. The elasticity of
scale and the output elasticities of the factors
are related as follows:
1
1
( )
log ( )
( ) lim
log ( )
n
i i
i
t
f x x
d f tx
x
d t f x
u
=

1
( ) ( )
n
i
i
x x u u
=
=

Example
What is the elasticity of scale of CES technology:
Since
Implies that the CES production function
exhibits constant returns to scale and hence
Has elasticity of scale of 1.
b a bx ax y = < = + = ; 1 0 ' ) (
/ 1
2 1
p
p p p
tf x ax t tx tx a tx tx f = + + =
=
p p p p p p / 1
2 1
/ 1
2 1 2 1
) ( ' ) ) ( ) ( ( ) , (
Example
Let's examine a production function with
variable returns to scale:
(E.1)
Where o>0 ,|>0 , and k is an upper bound
on the level of output, so that 0 sy<k .
Calculating the output elasticities of scale
1
1 2
(1 ) y k x x
o |
= +
Technical progress
Suppose that we let
y(t)=f(K(t),L(t),t)
Where t - time.
Differentiating the equation with respect to time gives.
The first two terms on the right indicate the change in output
due to increased inputs of labor and capital , respectively.The
last term on the right indicates the change in output due to
technical change

dy f dL f dK f
dt L dt K dt t
c c c
= + +
c c c
Dividing both sides of the equation by output y ,
to convert to proportonate rates of change ,
yields:
(1.26).
The first two terms on the right are the
proportionate rates of change of the two inputs,
each weighted by the elasticity of output with
respect to the input. The third term is the
proportionate rate of the technical change.
1 1 1 1 dy L f dL K f dK f
y dt y L L dt y K K dt y t
| | | | c c c
= + +
| |
c c c
\ . \ .
Assume that the elasticity of output with
respect to labor and capital are constant
and given by o and | , respectively.
Assume further that the proportionate rate
of technical change is constant at the rate
m , then the equation above implies that .
The rate of technical change , m, can be as
1 1 1 dy dL dK
m
y dt L dt K dt
o | = + +
1 1 1 dy dL dK
m
y dt L dt K dt
o | =
Classifying technical change
1. Neutral technical progress
Y=A(t) f(K,L)-Here technical progress affects all the
inputs equally-
2. Capital augmenting technical progress: Y=f[A(t)K,L].
In this case , technical progress affects only capital. K
becomes more productive overtime in which new
technology is applied.
3. Labor augmenting technical progress: Y=f[K,A(t)L].
In this case , technical progress affects only the quality
of labor-hours that enter into the production function.
The productive power of labor is augmented over time,
perhaps because workers learn to do their jobs better.
Exercise 1
For each input requirement set determine if it
is regular, monotonic, and/or convex. Assume
that the parameters a, b and the output levels
are strictly positive
1.1. v(y)={x
1
,x
2
: ax
1
>logy, bx
2
>logy}
1.2. v(y)={x
1
,x
2
: ax
1
+ bx
2
>y, x
1
>0}
Exercise 2
Prove that production functions in (i) and (ii)
are homothetic production functions and (iii)
is not homothetic production function
2 2
1 2
2 4
1 2 1 2
1 2
2 2
1 2 1
( ) ( , )
( ) ( , )
( ) ( , ) ( 1)
x x
i f x x x x
ii f x x e
iii f x x x
+
=
=
=
Exercise 3: Marginal physical
product of factor
Given that :
1. Y=Ax
a
y
b
2. Y=(x
1
r
+x
2
r
)
1/r
Compute the marginal physical product of
each input from two technologies.
Exercise 4: Relation between marginal
physical product and average physical
product
Veryfy that at the optimal point of the
average physical product of the factor is
equal to the marginal physical product of
that factor.
Exercise 5
Prove Shephards theorem that:
Linear Homogeneous Production Functions
Are Concave
Exercise 6. Law of a diminishing
TRS
Assume that y=f(K,L) and f
k
,f
l
>0, f
kk
<0
and f
LL
<0 and f
kl
>0.Show that
d(TRS)/dl<0 .
Exercise 7: Compute TRS
What is the TRS for CES and Cobb-Douglas
production functions
2. y=f(x)= Ax
1
a
x
2
b
| | 1 0 , 0 ; ) 1 ( ) , ( . 1
/ 1
2 1 2 1
< < > + = =


o o o
p
p p
A x x A x x f y
Exercise 8
Let's examine a production function with
variable returns to scale:
(E.1)
Where o>0 ,|>0 , and k is an upper bound
on the level of output, so that 0 sy<k .
Calculating the output elasticities for each
factor
1
1 2
(1 ) y k x x
o |
= +
Exercises 9
1.A generalization of the CES production
function is given by
for A > 0, o
0
>0, o
i
>0 and 0 # p < 1.
Calculate o
ij
for this function and show
that the elasticity of scale is measured by
the parameter | . Is this function
homogeneous?
2. Calculate the elasticity of substitution
for the production in the form of
y=k(1+x
1
-a
x
2
-b
)
/
0
1
( )
n
i i
i
y A x
p | p
o o
=
= +

Exercise 10
1. A Leonief production has the form:
for o>0, |>0. Sketch the isoquant map for
this technology and verify that the elasticity
of substitution is equal to zero.
2. The CMS (constant marginal shares)
production function is the form y= Ax
1
a
x
2
b
-
mx
2.
Calculate o for this function and show
the relationship with AP
2
1 2
1 1
min( , ) y x x
o |
=
Exercise 11
1. To calculate the elasticity of substitution
for CES production function
2. Veryfy that If f(x
1
,x
2
) is homogeneous
of degree 1, then
12
2 1
ff
f f
= o
; 1 0 ' ) (
/ 1
2 1
< = + = p
p p p
x x y
Exercise 12
Prove that if f(x
1
,x
2
) is homogeneous of degree 1, then
12
2 1
ff
f f
= o