Chapter-Four

INPUT-OUTPUT ANALYSIS
AND LINEAR PROGRAMMING
1

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 I. Input –Output Model
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 It is used to analyze inter industry relationship in order to understand
the interdependencies and complexities of the economy and thus the
conditions for maintaining equilibrium between supply and demand. Thus
it is also known as “inter industry analysis.”
 The basic notion of input-output analysis rests on the belief that the
economy of any country can be divided into a distinct number of
sectors called industries each consisting of one or more firms
producing a similar but not necessarily homogeneous product.

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 Input –Output Model------------
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 Each industry requires certain inputs from other sectors in order to
produce its own output. Similarly, each industry sells some of its gross
output to other industries so that they too can satisfy their intermediate
material needs.

 In other words, the input of one industry is the outputs of another

industry and vice versa, so that ultimately their mutual relationships lead
to equilibrium between supply and demand in the economy as a whole.

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4 Features of the model
i. The I-O model concentrates on an economy that is in
equilibrium. It is not applicable to partial equilibrium.
ii. It does not concern it self with the demand analysis. It deals
exclusively with technical problems of production.
iii. It is based on empirical investigation

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 The assumptions of input – output Analysis.
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Before we are going to deal with the details of the input- output analysis, it is
important to note the basic assumptions:
 An economy is decomposed into n sector (industries) and each of these produces
only one kind of product i.e. no two products are produced jointly.
 The total output of any industry is capable of being used as inputs by other
inter- industry sectors, itself and consumed by final demand sector.
 There are constant returns to scale.
 Prices, consumer demands and factor supplies are given
 There are no external economies and diseconomies of production.
 All transactions may be considered in terms of money value since money.

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 Input – output Analysis----------------
The Model
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 Let’s suppose that an economic system consists of four producing
sectors:
 Three inter industry sectors; agriculture, manufacturing,
service and one final demand sector that is the household
sector;
 It is convenient to tabulate the data for input-output analysis
which shows the value of the flow of goods and services
between different productive sectors especially inter industry
flows. The table below provides a simplified example of such
an economy.

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 Input – output Analysis----------------

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 Input – output Analysis----------------

8  The data in any row show the distribution of output to various

sectors and uses; while the data in any column indicate the source
of inputs needed for production.

 For example reading across the first row, altogether the agricultural
output is valued at birr 300 per year, of this total, birr 100 worth of
goods go to final consumption (house hold and government
consumption, investment and export). The remaining output from
agriculture goes as inputs 50 to itself, 150 to manufacturing.

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 Input – output Analysis----------------

9  The elements in each column show the input or cost structure of the
sector. For instance reading down in the first column we see that in
order to produce its total output of birr 300 worth of goods,
agriculture uses 50 of its own output, 100 from manufacturing. Thus
total intermediate purchase of the agricultural sector equals 150.

 The remaining 150 birr worth of total inputs purchased consists of the
importation of foreign goods, to households as wages, for the use of
capital in the form of interest, and for the use of land in the form of
rent(remember all are in money value).
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 Input – output Analysis----------------
Transaction matrix
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 A transaction matrix shows how the total output of one
industry is distributed to all other industries as inputs and to
the final demand sector.
 Now we can convert the above input output table in the form
of “transaction matrix” as given below.
Table-2 The transaction matrix

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 Input – output Analysis----------------

11 Notations
 Xi=Total output of sector i
 Xij=Sale of sector i to j. i.e. the amount of the product of industry i
absorbed annually as an intermediate input by industry j.
 Fi=Final demand of sector i
 aij= Technical coefficient indicating the amount of product i needed
to produce a birr worth of product j.
 Li=Total labor hired of sector i or other input

Q- How can we find technical coefficients (aij’s)?

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 Input – output Analysis----------------

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The mathematical Notion of Input-output model
 The set of equations for the three sectors therefore can
be put in linear form as follows(from table-1):

X1 = X11 + X12+X13+F1

X2 = X21+X22+X23+F2

X3 = X31+X32+X33+F3
Xi  X ij  F j
That is

Where i = 1, 2, 3---n
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  Input – output Analysis----------------
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aij  X ij X j

 The second and most important foundation of the input

output model consists of another set of n equations (in
our case n =3) one for each industry, describing the input
output structure of that industry in terms of a derived set
of technical coefficients (aij)
Xi  aijXi  Fi 07/10/2024
 Input – output Analysis----------------

14 That is Rewriting in terms of matrix notation, we have

X1 = a11 X1+a12X2+a13X3+F1

X2 = a21X1+a22X2+a23X3+F2

X3 = a31X1+a32X2+a33X3+F3

In short X = AX+F
Where :-

 X= Column matrix of total output

 A = Square matrix of technical coefficient of production

 F = Column matrix of total final demand

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 Input – output Analysis----------------

15  Now we can construct a table indicating the input requirement for the
production of one birr worth of output. For example, to produce br 300
worth of agricultural goods,
 Because of the assumption of fixed proportions, to produce a birr worth of
agricultural output requires:
 50/300 = 0.17 worth of agricultural goods
 100/300 = 0.33 worth of manufacturing goods
 150/300 = 0.5 worth of primary inputs
 =0 worth of service
 The same analysis applies to the other sectors i.e.
manufacturing and service.
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 Input – output Analysis----------------

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The technical table

 The result of technical coefficient represented in the form of a table and

is called technical table.
 Consists of n-by-n elements.
 For a table with only 3 inter industry sectors as in our example, the
technical table consists of 9 elements arranged in a 3 by 3 square matrix.

 Each column of the new matrix comprises the input coefficients of one
particular sector
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 Input – output Analysis----------------

17 Thus, the inter sectoral technical matrix A = aij for our hypothetical
example is:

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18
The Leontief Matrix
 We have in above

 X = AX+F

 X-AX=F

 (I-A)X=F
 The matrix (I-A) is called the Leontief matrix

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19 For our hypothetical case, the Leontief matrix is:
1 0 0 0.17 0.30 0.00 0.83  0.3 0.00 
I  A  0 1 0  0.33 0.20 0.17    0.33 0.80  0.17 
0 0 1 0.00 0.30 0.17  0.00  0.30 0.83 

 Now find the most important mathematical manipulation of input output analysis
which is used for planning with the use of matrix inversion.

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 Determination of Employment Level
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 The labour coefficient (li) required to produce a birr worth of output in sector I
is given by

li = Li/Xi

L i = l i Xi

 For example, the labour coefficient for our three-sector economy would be the
11  75  0.25  Per unit labour requirment for agriculture
following: 300
l 2  15
500  0.03  for manufacturing sec tor
l3  110
300  0.367  for service sec tor

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 Use of Input – Output Analysis in Planning
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The input output analysis can help planners:
► To forecast the sectoral output needed to sustain a given desired level of final
demand.

► To forecast the primary factor or resource required to produce the given level of
sectoral output.

► Forecast capacity expansion (investment requirements) consistent with a given

growth target if information is available on incremental capital output ratios
sector by sector.
► To forecast import requirements and the balance of payments effects of given
changes in final demand.
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 II. LINEAR PROGRAMMING
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 Linear Programming- is an optimization method, which
shows how to allocate scarce resources such as money, materials
or time and how to do such allocation in the best possible way
subject to more than one limiting condition expressed in the form
of inequalities and/or equations.

 It enables users to find optimal solution to certain problems in

which the solution must satisfy a given set of requirements or
constraints.
 Optimization in linear programming implies either
maximization (such as profit, revenue, sales, and market share)
or minimization (such as cost, time, and distance) a certain
objective function.
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23 LP; also called linear optimization, is to achieve
the best outcome such as maximum profit or
lowest cost in a mathematical model whose
requirements and objectives are represented by
linear relationship.

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 Characteristics of LPM
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 The goal in linear programming is to find the best
solution given the constraints imposed by the
problem; hence the term constrained optimization.

 The characteristics can be grouped into two categories:

 Components and
 Assumptions.
 The components relate to the structure of a model, whereas the
assumptions reveal the conditions under which the model is valid.

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 Characteristics of LPM------------
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 Characteristics of LPM------------
26 Example:
Maximize: 4X1 + 7X2 + 5X3 (Profit) ________________ objective
function
Subject to:
2X1 + 3X2 + 6X3  300 labor hrs System
5X1 + X2 + 2X3  200 lb raw material A constraints

3X1 + 5X2 + 2X3  360

X1 = 30 Individual
X2  40 constraints
X1, X2, X3  0  Non-negativity constraints.

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 Formulating LP Models
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 Linear Programming (LP) models are mathematical
representations of LP problems.
 Once a problem has been defined, the attention of the
analyst shifts to formulating a model.
 Just as it is important to carefully define a problem, it is
important to carefully formulate the model that will be
used to solve the problem.
 If the LP model is ill formulated, ill-structured, it can
easily lead to poor decisions.

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 Formulating linear programming models involves the
following steps:
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i. Define the problem/problem definition
* To determine the # of type 1 and type 2 products to be produced
per month so as to maximize the monthly profit given the
restrictions.
ii. Identify the decision variables or represent unknown quantities
* Let X1 and X2 be the monthly qualities of Type 1 and type 2
products
iii. Determine the objective function

iV. Identifying the constraints

 System constraints - more than one variable
 Individual constraints - one variable
 Non-negative constraints

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 Example Formulating LP Models--------
29  A firm that assembles computer and computer equipment is
about to start production of two new microcomputers. Each type of
micro-computer will require assembly time, inspection time and
storage space. The amount of each of these resources that can be
devoted to the production of microcomputers is limited. The
manger of the firm would like to determine the quantity of each
microcomputer to produce in order to maximize the profit
generated by sales of these microcomputers.

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 Formulating LP Models--------
30 Additional information
In order to develop a suitable model of the problem, the manager
has met with design and manufacturing personnel. As a result of
these meetings, the manger has obtained the following information:
Type 1
Type 2
Profit per unit Birr 60 Birr
50
Assembly time per unit 4hrs 10hrs
Inspection time per unit 2hrs 1hr
Storage space per unit 3cubic ft
3cubic ft
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 Solution Approaches to Linear Programming Problems
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A. The Graphic Solution Method

 This method can be used only to solve problems that
involve two decision variables.

E.g.:- solving the micro-computer problem with graphic

approach
Z max = 60X1 + 50X2
4X1 + 10X2  100
2X1 + X2  22
3X1 + 3X2  39
X1, X2  0 07/10/2024
 Solution Approaches ---------------------------------------

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Steps:
☻ Plot each of the constraints and identify its region
– make linear inequalities linear equations.

☻ Identify the common region, which is an area that

contains all of the points that satisfy the entire set
of constraints.
☻ Determine the Optimal solution
- identify the point which leads to maximum
benefit or minimum cost.

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