Question

Consider the function u = cl^2 (c l squared). When the individual works they earn $15 an hour and have 10 hours per day available for work. They receive non-labour income of $15 regardless of how much they work. What is their reservation wage? please show all work

Answer 1

Reservation wage:

This is the minimum wage for labor participation.

MRS, which is (MUl / MUc), should be calculated first

MUl = (d/dl) [cl^2]

         = 2cl

MUc = (d/dc) [cl^2]

         = l^2

Hence,

MRS = MUl / MUc

         = 2cl / l^2

         = 2c / l

Therefore,

If not work, the 10-hour period would be the leisure time (l). The non-labor income, $15, would be the c.

Reservation wage = MRS = 2c / l

                                          = 2 × 15 / 10

                                          = 30 / 10

                                          = $3 (Answer)