Question

2. Consider a Universal Basic Income (UBI) program: every person over age 18 is given $10,000 per year, regardless of their labor income or assets. Suppose there is no other welfare system or benefits for the poor.

a. Draw a person’s budget constraint with the program, and without the program (that is, with no government help). Be sure to label which is which.

b. Using income and substitution effects, explain the theoretical effect of the UBI program on people’s labor supply (how much they want to work).

c. Suppose instead the $10,000 is slowly taken away as a person earns money in the labor market. That is, you get $10,000 if you earn $0 in labor income, but as you earn some labor income, the $10,000 is taken away until it is all gone. Using income and substitution effects, explain the theoretical effect of this program on people’s labor supply (how much they want to work).

Answer 1

Ans (1) with the government initiative the income of people will increase as a result now the people can consume more than before, the budget line will shift to parallel outside.

As it can be seen that AB is the budget line in which people can consume their X,Y good. After introducing the policy by government the income will be greater than before and budget line will be like this:

The budget line will shift to A'B' and more will be consumed then before.

Ans (b) the increase in income will shift consumer from low satisfaction to higher level of satisfaction. The income effect is here the increase in real income, now their income has increased so they will have more income left then before. So they can substitute this extra income with leisure. As they need less income instead they are getting higher $10000 which will lead them to substitute this part if income with their leisure. So after some point of time the supply of labour will decrease as more labours have substitute their income with their leisure now they need to work less for the same level of income which is earned by them without UIB. The substitution effect will be larger then income effect. The labour supply curve will start backward bending as a result of substitution effect.

Ans (c) in this situation more people want to get not to do work , government is already paying them $10000 if they will not do work, the supply of labour will decrease further as in case of part b in the same question. People do not want to do work, leisure value will increase after this policy implementation. The people will agree only if they are getting more then $10000 from their wage , to counter this firm's owner have to rise their salary to get them on work , but after this also the demand will be less, as they are getting enough income from UIB so that they can substitute this amount of income for their leisure. In this case also the supply curve will be backward bending and more then earlier case as now if they earn they will loss the policy amount provided by government, so they prefer not to do work.