Question

I need some concise answers to these four questions. Thank you.

1. Janet's utility depends on consumption c and leisure l. She earns a wage equal to w per hour, has an investment income equal to M(greater than or equal to) 0 and needs to sleep at least 8 hours a night. Normalize the price of consumption goods at $1.

(i) Draw her indifference curves between hours of leisure and consumption, her budget line and her equilibrium choice of c and l. What is the slope of the budget line and what are the intercepts.

(ii) Redo the above in terms of L, labor supply

(iii) Distinguish between income effects and substitution effects of an increase in wage. How does this differ in comparison to the traditional analysis for a good that Janet buys in the market

(iv) Is the labor supply upward-sloping or backward bending? Explain in terms of income and substitution effects

Answer 1

answer 3) when wage rate increases then, opportunity cost of leisure rises, thus Labor supply increases, this is called substitution effect of increase in wage

But since Labor income rise ; from the same amount of Labor supplied , thus Labor supply falls, thus leisure rises, this is called income effect of wage rise.

In the traditional consumption analysis,

As price of a good falls , then it's consumption rises relative to the other : substitution effect

Now since more income to spend as one good is relatively cheaper, so consumption of both good rises, thus in Labor leisure analysis, both Labor & leisure can't rise.

Answer 4)