TOPIC 2

Basic math for

economics

ECONOMICS AND MATH

• Basic economics is important.
– Much of what you will use of economics in your life
is in this introductory unit.

• Quantitative thinking is important

– This is unsurprising since basic ideas – ‘price’,
‘quantities’ etc. are numbers.

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 ECONOMICS AND MATH
• We use simple theories because the world is
complex
– You need arithmetic.
– You need to be able to read tables, charts & graphs.
– Most theory is presented as graphs – you need to
get good at interpreting & reasoning using graphs.

EXAMPLE: CRICKET BALL

PRODUCTION
• Suppose it costs you $1 to Ball output & costs

Balls produced Total costs

produce the first ball but
– less to produce additional up 1 $1
to a particular amount and 2 $1.90

– more to produce beyond that 3 $2.70

point. 4 $3.40
5 $4.00
6 $4.70
• The connection between the
7 $5.50
number of balls produced & 8 $6.40
costs is represented here as 9 $7.40
a table. 10 $8.60

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 EXAMPLE: CRICKET BALL
PRODUCTION
• This relationship can also be represented as a
graph
– Graphs provide a clear visual way of describing
relationships than equations, words & tables.
– They help us understand relationships by seeing them.
Total
10
costs $
9
8
7
6
5
4
3
2
1
0
1 2 3 4 5 6 7 8 9 10
Number of balls

EXAMPLE: CRICKET BALL

PRODUCTION
• Note that
– We can work out the cost of producing 5 balls ($4).

– We can also work out how many balls can be produced

if $4 is spent (5).

– Fractional production also makes sense

• we can ask how much does producing 1.5 balls cost (about
$1.45)

– The relation graphed is positive ( it displays positive

correlation).
• Producing more costs more.

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 MORE ON GRAPHS
• Sometimes graphs show a negative relation
– they display negative correlation

MORE ON GRAPHS
• Another negative relation is the demand curve
– We discuss demand curves later – they summarise
buyer intentions towards purchasing a product at
different prices.

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 USE OF SYMBOLS
• Original Graph • Graph with symbols
Total costs C
10 10

9 9

8 8

7 7

6 6

5 5

4 4

3 3

2 2

1 1

0 0
1 2 3 4 5 6 7 8 9 10 1 2 3 4 5 6 7 8 9 10

Number of balls Q

REVISITING THE COST DATA

• Economists are interested in total costs as we
have defined them.

• They are also interested in average costs

– total cost divided by the number of tees produced.

• They are also interested in marginal costs

– the extra cost involved in increasing production by one
unit from any current level.

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 REVISITING THE COST DATA
Cricket balls output & costs

Balls produced Total costs Average costs Marginal costs ($)

($)
1 $1 1.00 1.00
2 $1.90 1.90/2=0.95 1.90-1 = 0.90
3 $2.70 2.70/3=0.90 2.70-1.90 = 0.80
4 $3.40 0.85 0.70
5 $4.00 0.80 0.60
6 $4.70 0.783 0.70
7 $5.50 0.785 0.80
8 $6.40 0.800 0.90
9 $7.40 0.825 1.00
10 $8.60 0.860 1.20

REVISITING THE COST DATA

Costs

10

5 Total costs
Average costs
4
Marginal costs

2
MC
1
AC
0
0 2 4 6 8 10 12 Balls

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 REVISITING THE COST DATA
• Note
– MC is above AC when AC is increasing
– MC is below AC when AC is decreasing
– TC is the ‘box’ area formed by multiplying AC by ball
production

• We will go through these cost ideas later in this

course.
– These types of arguments – distinguishing between
average, marginal & total quantities will be used again
& again.

ELEMENTARY COORDINATE
GEOMETRY
• Just as we can graph a table to make economic
behaviour clear so too we can graph an equation.
– The simplest equation is that of a straight line.
• Suppose for example we knew that the demand for pizzas
from a certain store was 42 per evening if they were given
away free but for every extra $1 charged the demand for pizza
fell by 6.
• Represent this by the linear equation Y = 42 - 6X.
• Here X (price) is the independent variable & Y (pizza
demanded) is a dependent variable.
– We can also graph this in the plane by letting the
vertical axis represent Y & the horizontal axis X.

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 ELEMENTARY COORDINATE
GEOMETRY
• If Y=42-6X.
– Then when Y = 0,
• 42-6X = 0
• so X = 7.
– When X = 0,
• Y = 42.

• These are the intercepts of the line with the axes.

ELEMENTARY COORDINATE
GEOMETRY
• Graphing a straight line is straight forward when
we know the intercepts

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 ELEMENTARY COORDINATE
GEOMETRY
• Slope (gradient)
– Given any two points, the slope of a straight line is
the change in one variable (dependent) divided by
the change in another variable (independent).

– Here one point is (0,42) the other is (7,0) so slope

is:
• (42-0)/(0-7) = -6
• the coefficient of the independent variable.

– This is always so in case of linear equations.

ELEMENTARY COORDINATE
GEOMETRY
• Slope (gradient)
– Generally

• Given a straight line Y= mX + b where m, b are numbers.

• The slope of the line is m.

• The vertical intercept is b.

• The horizontal intercept is –b/m.

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 ELEMENTARY COORDINATE
GEOMETRY
• Slope (gradient)
– Generally
• Y changes from Y1 to Y2 when X changes from X1 to X2:
The rate of change of Y with respect to X is
Y2  Y1
X 2  X1

e.g. Y changes from 12 to 50 when X changes from 2 to 21

the rate of change of Y with respect to X is (50-12)/(21-2) = 2.

• This is the slope of the line joining (12,2) & (50, 21).

ELEMENTARY COORDINATE
GEOMETRY
• Slope (gradient)
– The idea of the slope of a line is important
• it shows how sensitively one variable (say Y) depends on
another (say X).

– However, slope depends on units used to measure

variables.
• This can be a problem and there are alternative measures
– elasticities – that show
– how % changes in one variable are linked to % changes in another.
These do not depend on units.
• We discuss elasticities in later classes.

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 ELEMENTARY COORDINATE
GEOMETRY
• Slope (gradient) of ‘curves’
– So far we have discussed the slope of a straight
line.

– The slope at a point on a curve can also be

defined.
• If the curve is ‘smooth’ the slope at a point on it is defined
as the slope of a tangent to the curve passing through that
point.
• Also called the derivative at that point.

ELEMENTARY COORDINATE
GEOMETRY
• Slope (gradient) of ‘curves’
– Consider the following graph

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 ELEMENTARY COORDINATE
GEOMETRY
• Slope (gradient) of ‘curves’
– The slope shows how AC changes with output
• At a point like ‘a’ the tangent to the curve at ‘a’ (‘the slope
of the graph at ‘a’) is negatively sloped
• AC is falling with increased output.

• At ‘b’ the slope is flat

• AC is constant with small enough output changes.

• At ‘c’ the slope is positive

• AC is increasing as output increases.
–

ELEMENTARY COORDINATE
GEOMETRY
• Convex curves
– Join any 2 points
on function with
straight line – all
points on line lie
above or on the
function.

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 ELEMENTARY COORDINATE
GEOMETRY
• Concave curves
– Join any 2 points
on function with
straight line – all
points on line lie
below or on the
function.

ELEMENTARY COORDINATE
GEOMETRY
• Note on convex and concave curves
– Convex curves often have well-defined minimum
values.
• e.g. Costs are often assumed to be a convex function of
output and we try to minimise these.

– Concave functions often have well-defined

maximum values.
• e.g. Profits are often assumed concave and we try to
maximise these.

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 ELEMENTARY COORDINATE
GEOMETRY
• Interpreting graphs needs care!
– Suppose you observe the following graph
Amount of exercise
per household

Number of Gyms per

square km in the local
area

ELEMENTARY COORDINATE
GEOMETRY
• Interpreting graphs needs care!
– Reverse causation
• Can you infer that increasing the number of gyms causes
increased exercising in neighbouring household?
– Sometimes it does. But it may not be true.

• Gym owners have an incentive to set up shop in an area

with high demand for exercise.

• In short we cannot infer much about causation here since

reverse causation may occur.

• Some express this idea by saying that correlation does not

imply causality.

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 ELEMENTARY COORDINATE
GEOMETRY
• Interpreting graphs needs care!
– Omitted variables
• Another explanation is that a third unidentified variable
might drive both the variables graphed.

• For example high proportion of youth in an area might drive

exercise demand & this proportion may also encourage
vendors to open gyms in the area.

• An omitted variable is driving both variables – there is no

causal link between them at all.

SUMMARY
• Don’t need much math in this unit but need
basic arithmetic & ability to read graphs.

• Need to understand slope & positive/negative

relationships.

• Idea of slope at a point on a curve is important.

• Don’t infer causality from graph. Think first.

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