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Applications of Matrices to Business and Economics
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Published by gupta_akash88
Project on Applications of Matrix Theory to Business and Economics.

Subject: Business Mathematics
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Categories:Types, Research, Business & Economics
Published by: gupta_akash88 on Sep 10, 2009
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The Leontief Input-Output Model
The Leontief Input-Output Model discusses the interdependence of industries on
eachot her . Based on t he ass umpt i on t hat each i ndust r y i n t he economy has
t wo t ypes of demands: ext er nal demand ( f r om out si de t he s ys t em) and
i nt er nal demand ( demand placed on one industry by another in the same system), the
Leontief model represents theeconomy as a system of linear equations. The Leontief model was
invented in the 30s byProfessor Wassily Leontief who was awarded the Nobel Prize in
Economics in 1973 for his effort.There are two types of Leontief models, i.e. Closed and Open.
Closed Input-Output Model
Consider an economy consisting of
n
interdependent industries (or sectors)
S
1
,,S
n
.
Thatmeans that each industry consumes some of the goods produced by the other
industries,including itself (for example, a power-generating plant uses some of its
own power for production). We say that such an economy is
closed
if it satisfies its own needs; that is,no goods leave or enter the system. Let
m
ij
be the number of units produced by industry
S
i
and necessary to produce one unit of industry
S
j
. If
p
k
is the production level of industry
S
k
, then
m
ij
p
j
represents the number of units produced by industry
S
i

and consumed byindustry
S
j
. Then the total number of units produced by industry
S
i
is given by:
p
1
m
i1
+p
2
m
i2
+
+
p
n
m
in
.
In order to have a balanced economy, the total production of each industry must be equalto its
total consumption. This gives the linear system:
nnnnnn nnnn
p pm pm pm p pm pm pm p pm pm pm
=+++ =+++ =+++

2211 22222121 11212111
If

nnnnnn
mmmmmmmmm A

212222111211
then the above system can be written as
AP = P
, where- 17 -


n
p p p P

21
A
is called the
input-output matrix.
We are then looking for a vector
P
satisfying
AP = P
and

with non-negative components,at least one of which is positive.- 18 -

Illustration 9 -
Suppose that the economy of a certain region depends on three industries:service, electricity and
oil production. Monitoring the operations of these three industriesover a period of one year, we
were able to come up with the following observations:1.

To produce 1 unit worth of service, the service industry must consume 0.3 unitsof i t s own
pr oduct i on, 0. 3 uni t s of el ect r i ci t y and 0. 3 uni t s of oi l t o r un i t s operations.2.

To produce 1 unit of electricity, the power-generating plant must buy 0.4 units of service, 0.1
units of its own production, and 0.5 units of oil.3.

Finally, the oil production company requires 0.3 units of service, 0.6 units
of electricity and 0.2 units of its own production to produce 1 unit of oil.Find the production
level of each of these industries in order to satisfy the external andthe internal demands
assuming that the above model is
closed
, that is, no goods leave or enter the system.
Solution
Consider the following variables:1.

p
1
= production level for the service industry2.

p
2
= production level for the power-generating plant (electricity)3.

p
3
= production level for the oil production companySince the model is closed, the total
consumption of each industry must equal its total production. This gives the following
linear system:
3321 2321 1321
2.06.03.0 5.01.04.0 3.03.03.0
p p p p p p p p p p p p
=++=++=++
The input-output matrix is
=
2.06.03.0 5.01.04.0 3.03.03.0
A
and the above system can be written as
(A-I)P = 0.
Note that this homogeneous systemhas infinitely many solutions (and consequently a nontrivial
solution) since each column- 19 -

in the coefficient matrix sums to 1. The augmented matrix of this homogeneous systemis

08.06.03.0 05.09.04.0 03.03.07.0 which can be reduced to

0000 092.010 082.001 To solve the system, we let
p
3
= t
(a parameter), then the general solution is
t pt pt p
===
321
92.082.0a n d a s we me n t i o n e d a b o v e , t h e v a l u e s o f t h e v a r i a b l e s i n t h i s
s ys t e m mu s t b e nonnegative in order for the model to make sense. In other words,
t 0.
Taking
t=100
for example would give the solution
units punits punits p
1009282
321
===
- 20 -

Open Input-Output Model
The first Leontief model treats the case where no goods leave or enter the economy, butin
reality this does not happen very often. Usually, a certain economy has to satisfy
anoutside demand, for example, from bodies like the government agencies. In this case, let
d
i
be the demand from the
i
th
outside industry,
p
i
,
and
m
ij
be as in the closed model above,then
ininiii
d pm pm pm p
++++=

2211
for each
i
. This gives the following linear system (written in a matrix form):
d AP P
+=
where
P
and
A
are as above and

321
d d d d

is the
demand vector.
One way to solve this linear system is
d A I P d P A I d AP P
1
)()(

==+=
Of cour s e, we r equi r e her e t hat t he mat r i x
I-A
be i nver t i bl e, whi ch mi ght not be always the case. If, in addition,
(I-A)
-1
has nonnegative entries, then the componentsof the vector
P
are nonnegative and therefore they are acceptable as solutions for thismodel. We say in this case
that the matrix
A
is
productive.
- 21 -

Illustration 10 -
Consider an open economy with three industries: coal-mining operation,electricity-generating
plant and an auto-manufacturing plant. To produce Re 1 of coal, themining operation must
purchase Re 0.1 of its own production, Rs 0.30 of electricity andRe 0.1 worth of automobile for
its transportation. To produce Re 1 of electricity, it takesRs 0.25 of coal, Rs 0.4 of electricity and
Rs 0.15 of automobile. Finally, to produce Re 1worth of automobile, the auto-
manufacturing plant must purchase Rs 0.2 of coal, Rs 0.5of electricity and consume Rs
0.1 of automobile. Assume also that during a period of oneweek, the economy has an exterior
demand of Rs 50,000 worth of coal, Rs 75,000 worthof electricity, and Rs 1,25,000 worth
of autos. Find the production level of each of thethree industries in that period of one
week in order to exactly satisfy both the internal andthe external demands.
Solution
The input-output matrix of this economy is

1.015.01.0 5.04.03.0 2.00251.0
A
and the demand vector is

000,25,1 000,75000,50
d
Now, using the equation
d A I P
1
)(

=
where

9.015.01.0 5.06.03.0 2.025.09.0
A I
Using the Gauss Jordan elimination technique, we find that


464.1503.0330.0 606.1488.2007.1 771.0803.0464.1 )(
1
A I
- 22 -
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bukuni added this note
thanx a lot ..it helped me ..but i sugest if u could show the steps as well in some sums


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