Course Objectives

After successful completion of this course students will be able

to:
Discuss the basic concepts of function and equations and their
applications
Apply bivariate and multivariate techniques to economic
problems
Compute rates of changes, slopes, and derivatives of economic
relationships
Compute extreme points for a maximum or minimum and
undertake the appropriate tests
Apply integration formulas to calculate areas under curves and
other economic problems such as consumers’ and producers’
surplus
Manipulate matrices using the operation addition, subtraction,
1
multiplication and transposition whenever it is possible.
Solve large system of linear equations using
matrix algebra
Optimize different resources related to a given
constraint
Apply partial and total differential calculus to
solve different economic problems
Apply the technique of unconstrained
optimization in solving economic problems
Solve constrained optimization problems using
substitution, Lagrange Multiplier and Border-
Hessian determinant method.

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 

1. Introduction COURSE OUTLINE

 Mathematics as a language for Economists

 Mathematical Economics: Basics and Purposes
 Economic Models
2. Equations and Economic Applications
 Linear function
 Economic applications of Linear function
 Nonlinear functions
 Economic applications of non-linear and quadratic functions
 Functions and curves in Economics
3. Sequences, Series and Mathematics of Finance
 Sequence and Series
 Arithmetic and geometric progressions
 Interest Rates, Savings and Loans
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 Compounding and Discounting
 Present Value and Investment appraisal
 Annuities and Perpetuities
 Mortgage Payments and Amortization
4. Limit
 The concept of limit and rate of change
 The limit theorem and evaluation of limits
5. Univariate Differential Calculus and Its Applications
 Definition of derivative and its basic rules
 Economic applications of derivatives
 Relative maximum and minimum
 Further topics on Applications
6. Multivariate Differential Calculus and Its Applications
Partial Derivatives
Higher-order partial derivatives and Young’s Theorem 4
 Total differential
 Total derivatives
 Economic applications of multivariate calculus
7. Integral Calculus in Economics
 Indefinite and Definite integrals
 Fundamental rules of integration
 Integration by substitution and by parts
 Economic applications of integral calculus
8. Matrix Algebra and its applications
 Application of Basic Matrix operations
 Determinants and Inverse of a Matrix
 Solving a system of linear economic equations by
Cramer‟s rule
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9.
Optimization
 Unconstrained optimization
 Constrained optimization
Course delivery method:
 Lectures, class discussion, questioning
and answering, readings, assignments,
individual and /or group works and
presentation.

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Assessment Methods
 Evaluation will be carried out based on continuous
assessment (maximum of 50%) which comprises Mid
exam, assignments, quiz, and final examination.
 Mid Exam (25%),
Quiz (5%),
Assignment/Term Paper (20%) and
Final Exam (50%).

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References
 Binger, B. R. and E. Hoffman (1988), Microeconomics
with Calculus, Scott, Foresman and Company.
 Black, J. and J. F. Bradley (1980), Essential
Mathematics for Economists, 2nd edition, John Wiley &
Sons.
 Casson, M. (1973), Introduction to Mathematical
Economics, William Clowes and Sons, Limited.
 Chiang, A. C. (1984), Fundamental Methods of
Mathematical Economics, McGraw-Hill.
 Edward T. Dowling, 2006. Introduction to
Mathematical Economics, Schaum's Outlines.
 Glyn Burton, George Carroll, Stuart Wall, 2001.
Quantitative Methods for Business and Economics,
8
References
 Hoffman, and Bradley: Brief Calculus with
Applications, 5th ed.
 Ken Binmore, Joan Davies, 2002. Calculus: Concepts
and Methods, Cambridge University Press.
 Ken Holden, Alan Pearson, 1992. Introductory
Mathematics for Economics and Business, Palgrave
Macmillan.
 Leighton Thomas, 1999. Using Mathematics in
Economics, Pearson Education.
 Martin Anthony, Norman Biggs, 1996. Mathematics
for Economics and Finance, Cambridge University
Press.
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References
 Michael W. Klein, 2002. Mathematical Methods for
Economics, Pearson Education.
 Teresa Bradley, 2008. Essential Mathematics for
Economics and Business, John Wiley & Sons.
 Schaum Series: Introduction to Mathematical
Economics, McGraw-Hill, 1992.

GOOD WORK!

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 CHAPTER ONE
1. Introduction
1.1. Mathematics as a language for Economists
 Economics is a social science.
 It attempts to explain how the economy operates and to
make predictions about what may happen to specified
economic variables if certain changes take place;
for example, what effect a crop failure will have on crop
prices, what effect a given increase in sales tax will have
on the price of finished goods, what will happen to
unemployment if government expenditure is increased.
It also suggests some guidelines that firms, governments
or other economic agents might follow if they wished to
allocate resources efficiently. 11
In introductory economic analysis predictions are often
explained with the aid of sketch diagrams.
For example, supply and demand analysis predicts that in a
competitive market if supply is restricted then the price of a
good will rise
An economist, also needs to be able to say by how much
price is expected to rise if supply contracts by a specified
amount. This quantification of economic predictions
requires the use of mathematics. An economist without the
tools of mathematics is like a blind person swimming in the
middle of ocean.
A firm needs to know how much quantity sold is expected
to change in response to a price increase. The government
wants to know how much consumer demand will change if
it increases a sales tax. 12
Therefore, algebraic notation, which is essentially a form of
shorthand, can, however, make certain concepts much clearer to
understand than if they were set out in words.
For example, the relationship between the quantity of apples
consumers wish to buy and the price of apples might be
expressed as: ‘the quantity of apples demanded in a given time
period is 1,200kg when price is zero and then decreases by 10kg
for every 1 Birr rise in the price of a kilo of apples.
It is much easier, however, to express this mathematically as:
Q_d=1200-10p where Qd is the quantity of apples demanded in
kilograms and p is the price in birr per kilogram of apples. This
is a very simple example.
The relationships between economic variables can be much
more complex and mathematical formulation then becomes the
only feasible method for dealing with the analysis. Because of
these, it is a language for economists. 13
In the other direction, as to the nature of mathematical
economics, it should note that economics is unique among
the social sciences to deal more or less exclusively with
metric concepts.
Prices, supply and demand quantities, incomes,
employment rates, interest rates, whatever studied in
economics, are naturally quantitative metric concepts,
where other social sciences need contrived concepts in
order to apply any quantitative analysis.
So, if one believes in systematic relations between metric
concepts in economic theory, mathematics is a natural
language in which to express them.

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1.2. Mathematical Economics: Basics and Purposes
The development of mathematical economics is not
revolutionary step. It took several centuries to develop the
present stage of mathematical economics.
Sir William Petty (1623-1687) is believed to be the first
participant in this field. He used the terms of symbols in his
studies, but he was not successful.
The first successful attempt was made by an Italian, named
Giovanni Ceva (1647—1734). After these earlier
developments, Antoine Augustin Cournot (1801-1877) made
use of symbols in his theory of wealth.
After his work, Alfred Marshall in his “Principles of
Economics” (1890), and Irving Fisher in his Ph.D. thesis
“Mathematical Investigations in The Theory of Value and
Prices” showed a great interest in mathematical formulation of
the economic theory. 15
It is almost as hard to define mathematics as it is to define
economics. An easy definition of economics is given by Jacob
Viner, “Economics is what economists do”, so we can say that
mathematics is what mathematicians do.
In mathematical economics, mathematical symbols and equation
are used in the statement of the problem.
Mathematical economics saying that it is the application of
mathematical methods in economic theory.
The term “mathematical economics” is sometimes confused with a
related term, “econometrics”. As the “metric” part of the latter term
implies, econometrics is concerned mainly with the measurement of
economic data. Hence it deals with the study of empirical
observations using statistical methods of estimation and hypothesis
testing.
Mathematical economics on the other hand refers to the analysis,
with little or no concern about such statistical problems as the
errors of measurement of the variable under study. 16
1.3. Economic Models
The term “Model” is very common in economics. In-fact
“model” and “theory” are two different names for the same
thing: the former is simply less ostentatious. It can be
defined as a set of assumptions from which the conclusions
can be drawn. In simple words we can say that model is
simply a representation of some aspects of the real world.
Economic theory is descriptive as well as analytical. It does
not give us complete descriptions of economic phenomenon,
but by making certain assumptions, we can construct models.
The models then help in representing reality and help in
understanding the characteristics of economic behavior.
In-fact, a model cannot explain everything, only a subset of
everything; usually a model explains only a small subset of
everything.
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In economic analysis, generally,
four types of models are used;
visual models,
mathematical models,
empirical models, and
simulation models.
Visual models are simply pictures of an abstract
economy; graphs with lines and curves that tell an
economic story.
Mathematical Models are the most formal and abstract
of the economic models are the purely mathematical.
These models are systems of simultaneous equations
with an equal or greater number of economic variables.
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 Empirical models are mathematical models designed to be used
with data.
With an empirical model, however, data is gathered for the
variables, and using accepted statistical techniques, the data are
used to provide estimates of the model's values.
 For example, suppose in an economic study the following
question is asked: "What will happen to investment if income
rises one percent?" The purely mathematical model might only
allow the analyst to say, "Logically, it should rise." The user of
the empirical model, on the other hand, using actual historical
data for investment, income, and the other variables in the model,
might be able to say, "By my best estimate, investment should
rise by about two percent.
 Simulation models, where, are used with computers, embody
the very best features of mathematical models without requiring
that the user be proficient in mathematics.
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Generally, mathematical economic model has three basic
components: variable, parameters and equation.

1. Variable: is simply a symbol which take any value (informally) and

the value varies (not fixed).
 refers to a characteristic of interest for the elements

 In economics, it is something which has any magnitude that

determined after goes through and hence its magnitude changed.

Example: Price (P), Demand (D/Qd), Revenue (R), Cost (C),
Consumption (C), National Income (Y), Investment (I), etc.
 Variable can be divided based on different criteria.

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 Based on the nature of the value, variable can be divided as
Quantitative and Qualitative variables.
 Quantitative variable are a variable which expressed in terms of
number or numerically; for example Height, Price etc.
 Qualitative variables are a variable which are not expressed in
terms of number or numerically; for example Sex, Religion etc.
Based on the behavior, variable can be divided as Dependent
and Independent variables.
 Dependent variable is the effect in the model and independent
variable is cause in the model.
 Based on the source of the value, variable can be classified as
Endogenous and exogenous variables. In models make a
distinction between those variables whose levels you want to
explain in your model, and those variables you want to include
in your model, but not explain. The former are called
endogenous variables, the latter exogenous variables.
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A simple economic model illustrates the distinction between
endogenous and exogenous variables.
Consider a simple demand and supply analysis of the market
for the familiar mythical good the “widget” (an unnamed,
unspecified, or hypothetical manufactured good or product)
the endogenous variables in this model are the price of a
widget and the quantity of widgets sold.
The exogenous variables in this example include the price of
the input to widget production and the price of the good that
the consumers consider as a possible substitute for widgets.
The purpose of the model determines which variables are
endogenous and which are exogenous. You include
exogenous variables in a model because you assume they,
together, will determine / explain the level of endogenous
variables in your model.
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2. Parameter or Constant: is a symbol which is not
variable. Informally, it is a number that is in a model and not
changed (it is fixed).
For example, in the demand model Qd = a – bP; “Qd”
and “P” are variables and “a” and “b” are parameters.
3. Equation: is a mathematical statement that shows an
economic expression.
Generally, in economics, equation can be classified in to
three as
identity, behavioral and equilibrium equation.

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 Identity equation: is a definition or a statement which
shows that two or more variables or expression are
always equivalent.
 It sets an identity between two or alternative expression
that have exactly the same meaning.
 For example: ; Y = C + I + G.
 Behavioral equation: is a statement which shows how a
variable can change in response to the change in another
variable.
 For example: Qs = a + bP; Qd = a – bP.
 Equilibrium equation: is a mathematical statement
which shows the condition that two or more variables are
equal to one another. Equilibrium equations appear in a
model to show the existence of equilibrium or state of
rest. For example Qd = Qs; S = I. 24
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