Question

) Jane comes from a wealthy family, which has set up a trust fund for her. Each year, Jane is given an allowance from the trust fund under the following conditions: i) If Jane earns less than $36,000 in that year, she gets no money from the trust fund. ii) If Jane earns at least $36,000 in a given year, but less than $56,000, she collects $1 from her trust fund for every $1 that she earns above $36,000. (For example, if she earns $37,000 in the labour market, her trust fund pays her $1000. If she earns $56,000 in the labour market, her trust fund pays her $20,000.) iii) For every dollar that she earns above $56,000, the $20,000 award from her trust fund is reduced by 15 cents ($0.15), until she is back to getting no money from her trust fund. a) Draw Jane’s budget constraint if she had no trust fund. b) Draw Jane’s budget constraint with the trust fund as described above. Label the relevant points along the budget constraint and indicate the slopes along the budget line. c) Assume leisure is a normal good for Jane. Analyze, in terms of the income and substitution effects, how the existence of Jane’s trust fund changes her labour supply. Consider the effect if she originally earned less than $36,000, if she originally earned between $36,000 but less than $56,000, and if she earned above $56,000.

Answer 1