Question

Question 4: People decide how to “budget” their time in much the same way that they decide how to budget for different goods. Each person decides how much they “value” their leisure time versus their work time. The more people work, the more they tend to value their remaining leisure time. This is the justification for paying overtime to people working over 40 hours per week.

1. How might we model this trade-off economically using the basic labor supply model by showing the budget line and utility curves or indifference curves? In your graph of the basic labor supply, be sure to identify the optimum point of the budget line and the indifference curve.
2. Suppose that the government imposes a tax on labor. If a tax is imposed on labor, the worker will perceive this tax as a reduction in his or her wage. For every hour worked, the individual worker receives a lower return on his or her labor. Demonstrate the effects of this tax on labor supply using the graph in part a showing a graph of the income effect and the substitution effect. That is, there are two graphs. Summarize the impacts of this tax on labor.

Answer 1

Economic theory is generally based on Scarcity of resources. We have to choose best alternative for our daily life. Scarcity can be of anything like leisure time, wealth, happiness, money, resources, etc. Work life balance plays very important role in the human life, as we are working for betterment of life not for reducing our health. Every one of us must choose whether to work and, when employed, how long to work. As Adam Smith rightly said, "the trade off between time, or convenience and money. He explained a person can live near a town and pay higher rent, or live away and pay less, "Paying the difference out of his convenience". Ronald Reagan also stated that, "It's true hard work never killed anybody, but I figure, why take the chance?"

Over the period of time the average work hour per week is 36-40 hours. Studying labor supply is very prime point nowadays. Economists always keep close watch over this shift. Individuals seek to maximize their standard of living by spending more on fancy cars, nice house, clothing, food, leisure time and status goods. We are not individually wealthy, we have to work harder to achieve our targets. The economic trade-off is clear. If we do not work, we have lots of leisure time. If we do work, we have to give up some leisure time for earning money for enjoying quality life.

Utility and Indifference Curves-

The relation of individual gets satisfaction from consuming goods and leisure time is called as Utility Function.

U = f (C, L)

C= Consumption

L= Leisure

This index is called utility.
The higher the level of index U, the happier the person. We make the sensible assumption that buying more goods or having more leisure hours both increase the person’s utility. In the terms of economics, C and L are “goods,” not “bads.”

(a) Graphical Representation of Indifference Curve-

Points Xand Y lie on the same indifference curve and yield the same level of utility (25,000 utils); point Z lies on a higher indifference curve and yields more utility. Consumption (S) 500 450 400 40,000 Utils -25,000 Utils Hours of Leisure 100 125 150

(b) Income Tax effect on Labor-

The following graph showing the effect of tax increase/decrease in a labor market.

Market for labor Sp s* r Sr tax amount 1 Qt Q Quantity of labor