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Lecture 3: Supply
Advanced Micro Theory
MSc.EnviNatResEcon.
1/2005
Charit Tingsabadh
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Outline
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Supply concept
Production function
Cost function
Empirical examples
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Supply concept
• Supply: offer of goods at a price
• Goods are produced-output
• Using inputs-- as factors of production—in
combination
• Factors include: land, labour, capital,
energy, materials, etc.
• Technology of production
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Supply concept
• Scale effect: constant, increasing,
decreasing return to scale
• Relation between output and input at
different levels of output
• Division of labour as an example:
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Supply concept
• The short run and the long run
• Short run: all factors fixed except one
• Usually capital/technology are fixed, only
labour variable. Capacity utilization index.
• Long run: all factors variable, new
technology
• Let’s have some case examples: IT,
automation etc.
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Representation
• Production function
• Relation between output Q and factors of
production – labour, capital, materials,
energy, nature etc.
• Various functional forms
• Cobb-Douglas, CES, Translog etc.
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Production function
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Example: Q=f(K,L)
Cobb-Douglas:
Q=aKa L (1-a)
Other forms
Total, average, marginal product
Factor substitution as part of technology
option-may be possible, may be not.
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Cost function
• Dual of production function
• Factors have prices, so can calculate cost of
production
• C = wL + rK,
• So, what is the production problem?
• What combination of factors (what
technology) to choose to produce the
output?
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Supply concept
• So far, assume fixed output
• But decision is about how much to produce,
with what combination of factors, so need
to account for the output side as well
• So, cost expressed in terms of output.
• Total, average, marginal cost, with respect
to output.
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Supply concept
• Types of costs
• Fixed cost and variable cost
• Varies with output
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Supply concept
• Demand for factors of production-labour,
capital
• As derived demand
• Demand determined by marginal product of
factor
• Consider case of labour, when to employ
new worker?
• And capital, when to invest?
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Dynamic perspectives
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Technology on the move, innovations
Types of innovation: product, process
Stable vs. disruptive
Types of technical progress: Hicks-neutral,
capital/labour saving;Harrod-neutral; vintageembodied/disembodied technical progress
• Measurement of technical progress: growth
accounting
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Empirical functions
• Search and destroy mission:
• Find your own production/cost function and
write a critique of the study.
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Homework
• Using the internet, obtain data on bananas:
quantities, prices, etc.
• Develop 1 demand function and 1 supply
function for your bananas and
• Estimate the price and income elasticities
for your bananas, using the equation that
you have developed.
• Enjoy!
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