# Mathematics for Economics (Part I) Note 5: Convex Sets and Concave Functions

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1 Natalia Lazzati Mathematics for Economics (Part I) Note 5: Convex Sets and Concave Functions Note 5 is based on Madden (1986, Ch. 1, 2, 4 and 7) and Simon and Blume (1994, Ch. 13 and 21). Concave functions play a key role in optimization as they provide much more structure to the problem. For instance, in unconstrained optimization problems if the objective function is C 1 and concave, then the rst order conditions fully characterize global maxima. We start the analysis with the notion of convex sets, as they are the domain of concave functions. (Do not confuse convex sets with convex functions!) Then we de ne concave functions and characterize them in alternative ways. We end this note describing some useful properties of this kind of functions. Convex Sets Let us consider a set S R and suppose x; x 0 2 S with x x 0 : The set [x; x 0 ] is then a set of real numbers between (and including) x and x 0, or visually, the set of all points on the line joining x to x 0. Now it may or may not be that [x; x 0 ] S. If it is the case that for all x; x 0 2 S with x x 0 we have that [x; x 0 ] S, then we say that S is a convex set. The next de nition formalizes this idea. De nition 1. (Convex set) A set S R is convex if, 8 2 [0; 1] and 8x; x 0 2 S, x + (1 ) x 0 2 S: If x; x 0 2 R and 2 [0; 1], then x + (1 ) x 0 is said to be a convex combination of x and x 0. De nition 1 simply says that S is a convex set if any convex combination of every two elements of S is also in S. Example 1. Consider the interval [a; b] R. We next show that this interval is a convex set. Let x; x 0 2 [a; b] be two arbitrary elements. We need to prove that x + (1 2 [0; 1] : ) x 0 2 [a; b] for all 1

2 Select an arbitrary in [0; 1]. Since x; x 0 2 [a; b], then x; x 0 b. As 2 [0; 1], it follows that x + (1 ) x 0 b: Using a similar argument x + (1 ) x 0 a. As ; x and x 0 were arbitrarily chosen, then x + (1 ) x 0 2 [a; b] 8x; x 0 2 [a; b] and 8 2 [0; 1] : N Let us move to higher dimensions. The Cartesian product of n sets A 1, A 2,..., A n, written A 1 A 2 ::: A n, is the set of all ordered tuples (x 1 ; x 2 ; :::; x n ) such that x 1 2 A 1, x 2 2 A 2,..., and x n 2 A n : A convex set in R n can be visualized in the same way as in R; S R n is convex if and only if the line joining any two points in the set lies entirely within the set. De nition 2. A set S R n is convex if, 8 2 [0; 1] and 8x; x 0 2 S, x + (1 ) x 0 2 S: (Show that [a; b] [a; b] R 2 is a convex set.) The next theorem states that the intersection of two convex sets is a convex set. Theorem 3. If S and T are two convex sets in R n then S \ T is a convex set. Proof. Let x; x 0 2 S \ T. Then x; x 0 2 S and x; x 0 2 T: Since S and T are convex sets it follows that x 00 2 S and x 00 2 T where x 00 = x + (1 ) x 0 and 2 [0; 1] : Hence x 00 2 S \ T. Since this is true for any x; x 0 2 S \ T and any 2 [0; 1], S \ T is convex. In fact the intersection of an in nite collection of convex sets is convex as well. (Show that the union of two convex sets need not be convex. Hint: nd a counter-example.) A very important family of subsets of R n are the hyperplanes. De nition 4. A set H R n is a hyperplane if it can be described as H = fx 2 R n : P n i=1 ix i = g for some 2 R and some ( 1 ; :::; n ) R n such that i 6= 0 for some i. In the case of n = 1; then H contains just the single point =. In the case of n = 2 and 1 ; 2 6= 0; then the hyperplane is a straight line with equation 1 x x 2 = : In the usual 2

3 representation (x 2 measured vertically and x 1 horizontally) if 1 = 0 then H corresponds to an horizontal line. If, alternatively, 2 = 0 then H corresponds to a vertical line. Generally, a hyperplane in R n "splits" R n in two parts: those points above or below the hyperplane. Therefore, associated to H we can de ne H + = fx 2 R n : P n i=1 ix i g and H = fx 2 R n : P n i=1 ix i g : Notice that H + [ H = R n and H + \ H = H: Theorem 5. A hyperplane H and its associated half spaces H + and H are always convex sets. Proof. (Show this result.) The major importance of hyperplanes stems from the celebrated theorems about (general) convex sets. We describe one of them without proof. Theorem 6. (The Separating Hyperplane Theorem) If S and T are two disjoint convex sets in R n then there is a hyperplane H R n such that S H + and T H. (To convince yourself about the result draw two pictures, one for H R and another one for H R 2.) Concave Functions Concave Functions on R For functions of one variable there is a familiar and useful visual representation. The graph of f; which we denote G f ; is described as follows G f = (y; x) 2 R 2 : y = f (x) ; x 2 R : Then G f is the set of all ordered pairs [f (x) ; x] for x 2 R: When x 2 R, then G f R 2 : 3

4 If we draw the graph of a function f : R! R we may or may not nd that this graph possesses the following geometric feature (GF) The straight line joining any two points on the graph lies entirely on or below the graph. The concept of a concave function evolves from (GF). A function of one variable is concave if and only if its graph possesses the geometric feature (GF). We next formalize this idea. De nition 7. (Concavity in R) A function f : R! R is concave if f x + (1 ) x 0 f (x) + (1 ) f x [0; 1] and 8x; x 0 2 R: For strict concavity replace by > and [0; 1] by (0; 1) whenever x 6= x 0. Remark. In De nition 7 the domain of f is the whole real line, which is a convex set. As we shall emphasize at the end of this note, the domain of concave functions can be restricted to any other convex set S R: (Use De nition 7 to show that f (x) = x 2 is a concave function on R:) By doing so you will realize that this demonstration is tortuous even when the function is very simple. Fortunately, at least for di erentiable functions, there are easier ways to identify concavity. If a function f : R! R is concave, then it is continuous. Nevertheless it may not be di erentiable, e.g. f (x) = jxj is strictly concave on R but it is not di erentiable at x = 0: Consider for the moment the graph of a concave function that is both continuous and di erentiable. After a minute of re ection you will realize the graph has the next property (New GF) At any point of the graph, the tangent line to the graph at that point lies entirely on or above the graph. Using the tangent line formula, the last observation translate to the statement f x 0 + x x 0 f 0 x 0 f (x) 8x; x 0 2 R: Our argument states that if the function is di erentiable and concave, then the last inequality must hold. The next theorem states that for C 1 functions the opposite is also true. 4

5 Theorem 8. Suppose f : R! R is C 1 : Then f is concave if and only if f x 0 + x x 0 f 0 x 0 f (x) 8x; x 0 2 R: For strict concavity replace by > whenever x 6= x 0. Proof. (If) Suppose f (x 0 ) + (x x 0 ) f 0 (x 0 ) f (x) 8x; x 0 2 R: We have to show that this implies f x + (1 ) x 0 f (x) + (1 ) f x [0; 1] and 8x; x 0 2 R: To this end choose any two x; x 0 2 R and any 2 [0; 1]. We write x 00 for x + (1 ) x 0 : From the initial assumption it follows that f x 00 + x x 00 f 0 x 00 f (x) (1) and f x 00 + x 0 x 00 f 0 x 00 f x 0 : (2) Multiplying (1) by and (2) by (1 ) and adding gives, since 2 [0; 1], f x 00 + f 0 x 00 x + (1 ) x 0 x 00 f (x) + (1 ) f x 0 : As x 00 = x + (1 ) x 0 then f x + (1 ) x 0 f (x) + (1 ) f x 0 : Since this is true 8 2 [0; 1] and 8x; x 0 2 R then f is concave. (Note that f 0 (x 00 ) < 1 because f is C 1 :) (Only if) Now suppose f is concave: We need to show that this implies f x 0 + x x 0 f 0 x 0 f (x) 8x; x 0 2 R: If x = x 0 the implication follows immediately, so suppose this is not the case. By concavity f x + (1 ) x 0 f (x) + (1 ) f x [0; 1] and 8x; x 0 2 R. Or rearranging terms f x 0 + x x 0 f x 0 f (x) f x 0 5

6 8 2 [0; 1] and 8x; x 0 2 R. Assuming di ers from 0 we can get x x 0 f [x 0 + (x x 0 )] f (x 0 ) (x x 0 ) f (x) f x (0; 1] and 8x; x 0 2 R. Substituting (x x 0 ) by 4x x x 0 f [x 0 + 4x] f (x 0 ) 4x f (x) f x 0 : Taking take the limit when! 0 x x 0 f x 0 f (x) f x 0 or f x 0 + x x 0 f x 0 f (x) 8x; x 0 2 R. This completes the proof. (Now use Theorem 8 to show that f (x) = x 2 is a concave function on R:) The characterization of concavity takes an even simpler form for functions that are twice continuously di erentiable. This characterization has again an obvious geometric meaning. The slope of the graph diminishes as x increases; that is f 00 (x) 0 everywhere. The next theorem states that the "reverse" implication is also true. Theorem 9. Suppose f : R! R is C 2 : Then f is concave if and only if f 00 (x) 0 8x 2 R: Moreover, if f 00 (x) < 0 8x 2 R, then f is strictly concave. Proof. (Show this result.) (Use Theorem 9 to show that f (x) = x 2 is a concave function on R:) Note that f 00 (x) < 0 for all x 2 R is su cient (but not necessary) for f to be strictly concave. For instance, the function f (x) = x 4 is strictly concave but f 00 (0) = 0: Convex functions can be de ned in a similar way. In particular f : R! R is a convex function if and only if f : R! R is concave. So you do not need to remember more theorems! 6

7 There is an alternative characterization of concave and convex functions that does not require di erentiability. It is in terms of the convexity of certain sets associated with the graphs of the corresponding functions. For f : R! R the hypograph of f; HG f is HG f = (y; x) 2 R 2 : y f (x) for some x 2 R : Similarly, the epigraph of f; EG f is EG f = (y; x) 2 R 2 : y f (x) for some x 2 R : Visually the hypograph of f is the set of points in R 2 which lie on or below the graph of f; while the epigraph is the set of points in R 2 which lie on or above the graph of f. (Illustrate these concepts for f (x) = jxj :) The next theorem characterizes concave functions through their hypographs. Theorem 10. A function f : R! R is concave if and only if its hypograph is a convex set. Proof. (If) Suppose HG f is a convex set and choose any x; x 0 2 R; let f (x) = y and f (x 0 ) = y 0. Then (x; y) 2 HG f and (x 0 ; y 0 ) 2 HG f. Since HG f is a convex set, we have x + (1 ) x 0 ; y + (1 ) y 0 2 HG f 8 2 [0; 1]. That is f x + (1 ) x 0 y + (1 ) y [0; 1]. Since this is true for all x; x 0 2 R then f is concave. (Only if) Suppose f is concave and let (x; y) 2 HG f and (x 0 ; y 0 ) 2 HG f ; that is f (x) y and f x 0 y 0 : Multiplying the rst inequality by, the second one by (1 ), and adding f (x) + (1 ) f x 0 y + (1 ) y [0; 1]. But since f is concave f x + (1 ) x 0 f (x) + (1 ) f x 0 7

8 8 2 [0; 1]. Hence f x + (1 ) x 0 y + (1 ) y [0; 1]. Then [x + (1 ) x 0 ; y + (1 ) y 0 ] 2 HG f ; 8 2 [0; 1] : Since this is true for all (x; y) 2 HG f and (x 0 ; y 0 ) 2 HG f it follows that HG f is a convex set. In a similar way, the convexity of a function can be characterized through its epigraph. Theorem 11. A function f : R! R is convex if and only if its epigraph is a convex set. The characterizations of concave and convex functions in Theorems 10 and 11, respectively, are related to the notion of level sets. Level sets are of fundamental relevance in economics, as stated in Chapter 13 of SB. The level set of f for the value y in the image, written C f (y), is the complete set of x 2 R at which the value of f equals y C f (y) = fx 2 R : f (x) = yg : Notice that C f (y) is a subset of R whereas G f is a subset of R 2. Two associated concepts are the upper and lower level sets UC f (y) = fx 2 R : f (x) yg LC f (y) = fx 2 R : f (x) yg : The next result relates the concavity of f with UC f (y) ; and it follows as a direct corollary of Theorem 10. Corollary 12. If f : R! R is concave then UC f (y) is a convex set for all y in the range of f: (Check that the upper level sets of f (x) = jxj are convex sets:) It is important to stress that the last theorem goes in only one way. To convince yourself consider f (x) = x 3 : The range is R and UC f (y) = x 2 R j x 3 y = y 1=3 ; +1 : So the upper level sets are intervals, and then convex sets, but the function is not concave. Hence the class of functions which has convex upper level sets includes, but is not limited to, the concave functions; they are known as quasi-concave functions and are extremely important in economics (and in your rst year at the PhD!). We will study quasiconcave functions at the end of the course. 8

9 In a similar way, the convexity of f is related with LC f (y) : Corollary 13. If f : R! R is convex then LC f (y) is a convex set for all y in the range of f: Concave Functions on R n This section extends the results in the previous one to higher dimensions. Here f : R n! R: The graph of f; which we denote G f ; is now a subset of R n+1 G f = (y; x) 2 R n+1 : y = f (x) ; x 2 R where x T = (x 1 ; :::; x n ) : Some other sets associated with f : R n! R are the following 1. the level set of f for the value y in the range of f C f (y) = fx 2 R n : f (x) = yg ; 2. the upper level set of f for the value y in the rang of f UC f (y) = fx 2 R n : f (x) yg ; and 3. the lower level set of f for the value y in the rang of f LC f (y) = fx 2 R n : f (x) yg : When n = 2 the level sets can be visually represented, as they are subsets of R 2 : [Draw the level sets, upper level sets and lower level sets of f (x 1 ; x 2 ) = x 1 x 2 and f (x 1 ; x 2 ) = x 1 +x 2 for y = 1=4 and (x 1 ; x 2 ) 2 [0; 1] 2 :] For higher dimensions the notion of concavity is as follows. De nition 14. (Concavity in R n ) A function f : R n! R is concave if and only if f x + (1 ) x 0 f (x) + (1 ) f x [0; 1] and 8x; x 0 2 R n : For strict concavity replace by > and [0; 1] by (0; 1) whenever x 6= x 0. 9

10 Example 2. A very important utility function in economics receives the name of Leontief or "perfect complements" and in its simplest form is given by U : R 2 +! R with U (x 1 ; x 2 ) = min fx 1 ; x 2 g : We want to show that this function is concave. Let (x 1 ; x 2 ) 2 R 2 + and (x 0 1 ; x0 2 ) 2 R2 + denote two arbitrary bundles. Let us de ne (x 00 1 ; x00 2 ) = (x 1; x 2 ) + (1 ) (x 0 1 ; x0 2 ) 2 R2 +: There are four cases to consider: x 1 x 2 and x 0 1 x0 2 ; x 1 x 2 and x 0 1 x0 2 ; x 1 x 2 and x 0 1 x0 2 ; and x 1 x 2 and x 0 1 x0 2 : We next check that the required condition for concavity holds in the rst case. Select an arbitrary in [0; 1] : Assume x 1 x 2 and x 0 1 x0 2 : Then U (x 1; x 2 ) = x 2 and U (x 0 1 ; x0 2 ) = x0 2 : In addition, Therefore U (x 00 1 ; x00 2 ) = x00 2 : As a consequence, x 00 1 = x 1 + (1 ) x 0 1 x 2 + (1 ) x 0 2 = x 00 2: U x 00 1; x 00 2 = x 00 2 = x 2 + (1 ) x 0 2 = U (x 1 ; x 2 ) + (1 ) U x 0 1; x 0 2 : Since was arbitrarily selected, the claim follows. (Check the other three cases.) N It is still true that concavity implies continuity, but it does not imply di erentiability. However, if the function is continuously di erentiable then there are other alternative characterizations of this property. We next relate concavity with rst-order derivatives. Theorem 15. Suppose f : R n! R is C 1 : Then f is concave if and only if f x 0 + Df x 0 x x 0 f (x) 8x; x 0 2 R n : For strict concavity replace by > whenever x 6= x 0. Proof. See Madden (1986, pp ) Although the last theorem looks similar to the one-variable analysis, notice that here Df x 0 x x 0 = P n x 0 i xi x 0 i : For n = 2 the theorem says that a C 1 function of two variables is concave if and only if the tangent plane to its graph ( R 3 ) at any point lies entirely on or above the graph. 10

11 Now, we relate the concavity of a function f with its second-order derivatives. If the function is C 2 then the next characterization holds. Theorem 16. Suppose f : R n! R is C 2 : Then f is concave if and only if D 2 f (x) is negative semi-de nite for all x 2 R n : Moreover, if D 2 f (x) is negative de nite for all x 2 R n, then f is strict concave. Proof. See Madden (1986, pp ) Example 3. Another very important utility function in economics receives the name of Cobb- Douglas and in its simplest form is given by U : R 2 +! R with U (x 1 ; x 2 ) = x a 1x b 2 where a; b > 0 and a + b = 1: This utility function is C 2. (Check concavity directly by using De nition 14, and then by using Theorems 15 and 16.) N Finally we mention the hypograph (epigraph) characterization of concave (convex) functions. The hypograph and epigraph of f : R n! R are HG f = (y; x) 2 R n+1 : y f (x) for some x 2 R n and EG f = (y; x) 2 R n+1 : y f (x) for some x 2 R n respectively. Like G f ; these are subsets of R n+1. The next theorem states alternative de nitions of concave and convex functions. Theorem 17. A function f : R n! R is concave (convex) if and only if HG f (EG f ) is a convex set. The next statement is a direct corollary of the previous one. Corollary 18. If the function f : R n! R is concave (convex) then UC f (y) (LC f (y)) is a convex set for all y in the range of f: (Check that Corollary 18 holds using the utility function in Example 3 above.) 11

12 Convex Domains The previous sections developed all the results for functions de ned on R and on R n, i.e. f : R! R and f : R n! R: The analysis extends immediately (after some changes in notation) to open and convex domains on R and R n respectively. Part of the analysis also extends to close and convex domains on R and R n respectively. (Open domains are needed for all those results that involve taking derivatives.) Properties of the Concave Functions Beside the previous characterizations, concave functions have some additional nice properties. In some cases, these properties help to check whether a given function is, in fact, concave. Theorem 19. Suppose D R n is a convex set, and suppose f : D! R and g : D! R are two functions such that f (x) = kg (x) where k 2 R: If g is concave then f is concave if k > 0 and convex if k < 0: Proof. (Show this result.) Moreover, the sum of concave functions is always concave. Theorem 20. Suppose D R n is convex and suppose f : D! R and g : D! R are two concave functions. Then h (x) = f (x) + g (x) is also concave. Proof. (Show this result.) Let us nally consider functions of functions, i.e. f (x) = h [g (x)] : To be precise suppose g : D! R where D R n has range E R, and suppose that h : E! R: Then f is de ned by f : D! R with values f (x) = h [g (x)] : The last result involves the notion of monotone increasing transformations (often called monotonic transformations). (Note 10 elaborates more on this concept.) De nition 21. Let I be an interval of the real line. Then h : I! R is a monotone increasing transformation of I if h is a strictly increasing function on I: Furthermore, if h is a monotone 12

13 increasing transformation and g is a real-valued function of n variables, then we say that h (g) : x! h [g (x)] is a monotone increasing transformation of g. The next theorem states that any monotone increasing transformation of a concave function is concave if the monotone transformation is itself a concave function. Theorem 22. Suppose D R n is convex, suppose g : D! R has range E; and h : E! R. De ne f : D! R by f (x) = h [g (x)] : If h is monotone increasing and concave, and g is concave, then f is concave. [Use Theorem 22 and the main result of Example 2 to show that V : R 2 +! R with V (x 1 ; x 2 ) = ln (min fx 1 ; x 2 g) is a concave function.] 13

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