Background Review

Cobb-Douglas Functions
Handy Formulas

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Cobb-Douglas: 2-goods case

Utility function U = X Y where : share of good X : share of good Y : scale factor + = 1 (crs)
(constant returns to scale)

Production function Q = K L where : capital share : labor share : scale factor + = 1 (crs)
(constant returns to scale)

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Marginal utility MU x = MU y = U U = X X U U = Y Y

Marginal product MPk = MP = Q Q = K K Q Q = L L

Marginal rate of substitution MRS = MU x Y = MU y X

Marginal rate of technical substitution MRTS = MPk L = MP K

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Utility maximization maximize X Y subject to Px X + Py Y = I rst-order conditions of consumer equilibrium Y Px = X Py Px X + Py Y = I

Cost minimization minimize r K + wL subject to K L = Q rst-order conditions of producer equilibrium L r = K w K L = Q

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Demands for goods I X = Px Y = I Py

Demands for factors Q w K = r Q r L = w Shares of costs rK = r K + wL wL = r K + wL

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Shares of expenditures Px X = I Py Y = I

Cobb-Douglas: n-goods case

Utility function
n

Production function
n

U =
j=1

X jj

Q=
j=1

X jj

where j : share of good j : scale factor 1 + . . . + n = 1 (crs)

where j : share of factor j : scale factor 1 + . . . + n = 1 (crs)

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Marginal utility MU j = jU U = Xj Xj

Marginal product MP j = j Q Q = Xj Xj

Marginal rate of substitution MRSi j = i X j MUi = MU j j Xi

Marginal rate of technical substitution MRTSi j = i X j MPi = MP j j Xi

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Utility maximization
n

Cost minimization n minimize subject to

j=1

maximize
j=1 n

X jj Pj X j = I

wj X j
j=1 n

subject to
j=1

X jj = Q

rst-order conditions i X j Pi = j Xi Pj
n

rst-order conditions i X j wi = j Xi wj
n

Pj X j = I
j=1

j=1

X jj = Q

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Demands for goods j I Pj

Demands for factors Q j wj

n

Xj =

Xj =

i=1

i wi

Shares of expenditures Pj X j = j I

Shares of costs wj X j = j w1 X 1 + . . . + wn X n

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