Question

Suppose a typical income leisure constraint. The wage rate for a typical consumer is $20 per

hour, and she works 10 hours per day. Assume there are 52 weeks per year.

a. Construct a yearly income-leisure constraint for this consumer. Graphically show the optimal

work-leisure choice for this consumer.

b. Assume that the wage rate is increased to $25 per hour. Assuming income effect dominates,

graphically show a new possible work-leisure choice for this consumer.

c. Suppose that the government considers an income supplement program for this consumer

providing $5000 per year. Assuming holding all of the assumptions given in #b, is it a good

policy for the economy in general for this society? Explain it with the relevant economic

theoretical justifications.

Answer 1

(a) the optimal choice on the income leisure constraint is income of $72800 yearly (52*7*10*20) and leisure time of 5096 hours**(52*7*14) square region shows leisure and triangle shows hours worked

**NOTE: THE TOP FIGURE IS BEING REFERRED TO AND THE POINT MENTIONED ON X AXIS IS NOT 728 IT IS 5096 HOURS(PLEASE CORRECT WHILE YOU DRAW IT)

(b) when the wage rate rises to $25/hour and income effect being dominant, the worker reduces the supply of work done by him and this increases his leisure time from L1 to L2 mentioned in the lower income leisure constraint diagram. the supply of labour is comparatively inelastic to wage increase and thus this increase in income makes leisure more dearer as income rises and he has to do less work to earn the same level of income or more than that than before as the law of diminshing marginal utility applies here.

(c) providing economic supplements programs to general public fight seem beneficial in the short run but can have certain implications in the long run. such usage of tax payers money in such programs lead to rise in inflation and unemployment as people are getting money without doing work which decreases their output further because they are getting this $5000 without any effort. they would feel the urge to do less work as they are getting extra money in their pocket. this would increase the demand and consumption of such people and would lead to an inflation like scenario in the economy. and for society at large this would lead to people becoming lazy and getting money for not doing anything.this is an overall loss for the economy and society at large