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Leontief PDF
Leontief PDF
1
The following equations are satisfied:
Production of Total output = Internal consumption + External Demand
farming industry (in tons): x = 0.05 x + 0.5 y + 8000
.
horse industry: y = 0.01 x + 2000
(in 1000km horse rides)
In general, let x1 , x2 , . . ., xn , be the total output of industry S1, S2 , . . ., Sn ,
respectively. Then
x1 = a11 x1 + a12 x1 + + a1n x1 + b1
x2 = a21 x1 + a22 x1 + + a2n x2 + b2
...
xn = an1 x1 + an2 x1 + + ann xn + bn ,
since aij xj is the number of units produced by industry Si and consumed by indus-
try Sj . The total consumption equals the total production for the product of each
industry Si .
Let
a11 . . . a1n b1 x1
A = ... .. , B = .. , X = ..
. . .
an1 . . . ann bn xn .
A is called the input-output matrix, B the external demand vector and X the
production level vector. The above system of linear equations is equivalent to the
matrix equation
X = AX + B.
0
..
In the open Leontief model, A and B 6= . are given and the problem is to
0
determine X from this matrix equation.
We can transform this equation as follows:
In X AX = B
(In A)X = B
X = (In A)1 B
if the inverse of the matrix In A exists. ((In A)1 is then called the Leontief
inverse.) For a given realistic economy, a solution obviously must exist.
For our example we have:
! ! !
0.05 0.5 8, 000 x
A= , B= , X=
0.1 0 2, 000 y
.
2
We obtain therefore the solution
X = (I2 A)1 B
! !!1 !
1 0 0.05 0.5 8, 000
=
0 1 0.1 0 2, 000
!1 !
0.95 0.5 8, 000
=
0.1 1 2, 000
! !
1 10 5 8, 000
=
9 1 9.5 2, 000
!
10, 000
= ,
3, 000
i.e., x = 10, 000 tons wheat and y = 3 Million km horse!ride.
7, 300
If the external demand changes, ex. B 0 = , we get
2, 500
!0 ! ! !
x 1 10 5 7, 300 9, 500
= (I2 A)1 B 0 = = ,
y 9 1 9.5 2, 500 3, 450
i.e., one doesnt need to recompute (I2 A)1 .
One difficulty with the model: How to determine the matrix A from a given econ-
x1 b1
omy? Typically, X = ... is known, B = ... is known and (aij xj )i,j=1, ... n
xn bn
is known. One takes therefore the matrix (aij xj )i,j=1, ... n and divides the j-th column
by xj for j = 1, . . ., n to get A.
Example: An economy has the two industries R and S. The current consumption
is given by the table
consumption
R S external
Industry R production 50 50 20
Industry S production 60 40 100
Assume the new external demand is 100 units of R and 100 units of S. Determine
the new production levels.
Solution: The ! total production
! is 120 units for R and
! 200 units for S. We ! obtain
50 50
120 20 120 200 100
X = , B = , A = 60 40 , and B 0 = . The
200 100 120 200 100
solution is
! ! !
0 1 0 1 96 30 100 307.3
X = (I2 A) B = = .
41 60 70 100 317.0
The new production levels are 307.3 and 317.0 for R and S, respectively.
3
The closed Leontief Model
The closed Leontief model can be described by the matrix equation
X = AX,
0
The input-output graph looks now as follows:
4
If X is a solution, also t X for every t > 0 is a solution. (Usually, one gets a one
parameter family of solutions.) If x 6= 0, we can assume x = 1, 000 by choosing the
appropriate parameter t. One obtains then the solution
2900 18000
x = 1, 000, y= 263.63, z= 1636.36.
11 11
For this computation, it is important to use rational numbers (i.e., fractions) as
matrix entries since otherwise the approximation to the matrix In A usually will
be invertible and only the trivial uninteresting solution x = 0, y = 0, and z = 0
will exist. This is also the reason, why the entry a33 has large numerator and
denominator.
In a closed economy, the absolute units of output are less interesting. More
important is the relative consumption of a product.
We can normalize therefore the matrix A such that the sum of every row is 1.
1 1
e such that . e .
This is a matrix A, .. = A .. . The recipe is: Divide the i-th
1 1
1
..
row of A by the i-th component of A . (that is the sum of the i-th row).
1
For our example, we have
21
1 20
1
A 1 =
5
,
1 2231
1800
e = (e
The entries of the matrix A ai,j )i, j=1, ..., n have the following meaning: a
eij is
the relative consumption of the product of industry Si by industry Sj .
Market prices
The consumption of products is regulated by prices. All income of an industry
is used for buying other (or the own) products, i.e., income equals expenditure.
Let P = (p1, . . . , pn ) the price vector; pi is the relative price of the product of
industry Si . We can draw the flow of money into the input-output graph, the money
flows in exchange for the products:
5
One has
p1 = a11 p1 + a21 p2 + + a
en1 pn
p2 = a12 p1 + e
e a22 p2 + + an2 p2
...
pn = a1n p1 + e
e an2 pn + + a
enn pn
,
P A = P.
P In = P Ae
e = (0, . . . , 0).
P (In A)
1 0
e e .. .. .
The matrix In A is (similar as In A) not invertible, since (In A) . = .
1 0
0
One can show that this implies that there is also a solution P 6= ... . Since with
0
P also t P for t > 0 is a solution, only the relative price between the different
products has a well-defined meaning.
Example (continued): Assume p1 = $1, 000. One gets p2 = $ 40000 63 $ 634.92
and p3 = $ 11155500
567 $ 1967.37. We can compare these relative prices with the
production levels measured by the original units and obtain the following relative
1000
prices per unit: p1/x = 1000 = 1 for one ton of wheat, p2/y 634.92263 2.4 for
1000km horse ride, and p3 /z 1967.37
1636.36 1.2 for one man-year.
Since the above matrix equation for P is not of the usual form which we have
studied so far, we make a final modification. We define
e
Ae = (e
ai,j )i, j=1, ..., n ,
e e
where a
ei,j = e
aj,i .
6
This gives us (just by switching the role of rows and columns) the price equation
e
Pe = AePe ,
where e
ai,j is now the relative consumption of industry Sj by industry Si , so that the
e
p1
sum of each column is 1, and Pe = ... is the price column vector.
pn
e
e is again denoted by A and our Pe is denoted by
In the textbook, our matrix A
X. The price equation is therefore X = A X. However, one has to keep in mind
that this matrix A is different from the input-output matrix A we used in the open
Leontief model!
Example: Let
1 1 1
2 3 4
A=
1
4
1
3
1
4
.
1 1 1
4 3 2
X = AX
0
(I3 A)X = 0
0
1
2 23 34 x 0
34 2
34 y = 0 .
3
34 23 1
2 30, 000 0
This system of linear equations for x and y has the solution x = 30, 000 and y =
22, 500. The wages for the first and second product are therefore $, 30, 000 and
$ 22, 500, respectively.