This individual decreases his labor hours due to a fall in wage rates. Decompose this into...
This individual decreases his labor hours due to a fall in wage rates. Decompose this into substitution and income effect.
Homework Answers
When wage rate falls, an individual needs to work more hours to reach a particular income level. Therefore, the individual needs to work more and increases the hours worked. This is the income effect.
When wage falls, the opportunity cost of leisure falls and the individual takes more leisure hours. This effect is called substitution effect.
In this case, substitution effect dominates and this is the reason falling wage leads to less hours worked.
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This individual decreases his labor hours due to a fall in wage
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