chapter 6 book: Supply of Labor to the Economy: The Decision to Work Flashcards
in the labor force
When a person actively seeks work
labor force participation rate
the percentage of a given population that either has a job or is looking for one
what or working hours determined by?
labor demand from employers
employee preferences on the supply side of the mar- ket, especially in the long run
the labor supply preferences of employees is. more crucial to satisfy in the long run or in the short run?
in the long run
where short-run changes in hours of work come from?
from the demand side of the market
what are the three factors that affect the demand for a good?
- The opportunity cost of the good (which is often equal to market price)
- One’s level of wealth
- One’s set of preferences
work or leisure
the discretionary time we have (16 hours a day)
What is the opportunity cost of leisure?
the opportunity cost of an hour of leisure is equal to one’s wage rate
the extra earnings a worker can take home from an extra hour of work
ex: The cost of spending an hour watching television is basically what one could earn if one had spent that hour working
wealth
family’s holdings of bank accounts, financial investments, and physical property
Workers’ skills
what is easier to measure, wealth itself or the returns from that wealth?
the returns from that wealth because data on total income are readily available from government surveys
what do economists often use as an indicator of total wealth?
Economists often use total income
the income effect
the response of desired hours of leisure to changes in income, with wages held constant
if income increases, holding wages constant, desired hours of work will go down
as incomes rise, holding leisure’s opportunity cost constant, people will want to consume more leisure (which means working less)
if income is reduced while the wage rate is held constant, desired hours of work will go up
how can the income effect be expressed as?
in terms of the supply of working hours as well as the demand for leisure hours
what is the formula of the income effect?
(Delta H / Delta Y) | W_ < 0
the change in hours of work (H_) produced by a change in income (Y_), holding wages constant (W_)
why do we say that the income effect is negative?
because the sign of the fraction in the equation is negative
If income goes up (wages held constant), hours of work fall.
If income goes down, hours of work increase
The numerator (Delta H) and denominator (Delta Y) move in opposite directions
substitution effect with rising wages and income held constant
as the cost of leisure changes, income held constant, leisure and work hours are substituted for each other
if income is held con- stant, an increase in the wage rate will raise the price and reduce the demand for leisure, thereby increasing work incentives
a decrease in the wage rate will reduce leisure’s opportunity cost and the incentives to work, holding income constant
why is the substitution effect with rising wages and income held constant positive?
Because this effect is the change in hours of work (H_) induced by a change in the wage (W_), holding income constant (Y_)
formula of the substitution effect with rising wages and income held constant
(Delta H / Delta W) | Y_ > 0
the numerator (Delta H) and denominator (Delta W) always move in the same direction
can the income and substitution effects happen at the same time?
yeee boyyy
if somebody gets a wage increase, explain the income effect and substitution effect both happening
The income effect is the result of the worker’s enhanced wealth (or potential income) after the increase
For a given level of work effort, he or she now has a greater command over resources than before
The substitution effect results from the fact that the wage increase raises the oppor- tunity costs of leisure
what is the labor supply response?
the sum of the income and substitution effects
if somebody gets a wage increase, what happens if the income effect is stronger?
the person will respond to a wage increase by decreasing his or her labor supply because he got wealthier
it would not be to the same extreme than If his wealth increased to to something other than wage rate (like inheritance)
the substitution effect is present and acts as a moderating influence, but not large enough to prevent labor supply from declining
the person’s labor supply curve will be negatively sloped
if somebody gets a wage increase, what happens if the substitution effect is stronger?
the actual response to wage increases will be to increase labor supply
the person’s labor supply curve will be positively sloped
backward-bending curve resulting from increase in wages
he person’s desired hours of work increase (substitution effect dominates) when wages go up as long as wages are low (below W*)
slope is positive facing upwards
At higher wages, however, further increases result in reduced hours of work (the income effect dominates)
slope is negative facing downwards
how are money and leisure substitutes to each other?
Since both leisure and money can be used to generate satisfaction (or utility)
If forced to give up some money income (by cutting back on hours of work, for example) some increase in leisure time could be substituted for this lost income to keep a person as happy as before
indifference curve
weird ass curve that connects the various combinations of money income and leisure that yield equal utility
each point on the curve yields equal utility
do indifference curves intersect?
nah bruuuv
what is the slope of an indifference curve?
negatively sloped because if either income or leisure hours are increased, the other is reduced in order to preserve the same level of utility
what does it mean when there is a loss of income when the indifference curve is steep?
no need for a large increase in leisure hours to keep utility constant
what does it mean when there is a loss of income when the indifference curve is relatively flat?
a given decrease in income must be accompanied by a large increase in the consumption of leisure to hold utility constant
indifference are convex or concave?
Indifference curves are convex (steeper at the left than at the right)
which is more valued when leisure is scare and income is abundant?
why?
leisure is more highly valued
a great loss of income can be compensated for by just a little increase in leisure
a little loss of leisure time would require a relatively large increase in income to maintain equal utility
What is relatively scarce is more highly valued
which is more valued when income is scare and leisure is abundant?
why?
income is more highly valued
Losing income would require a huge increase in leisure for utility to remain constant
what is relatively scarce is assumed to be more highly valued
the budget constraint
reflects the combinations of leisure and income that are possible for the individual
what does it mean when a combination is to the right of the budget constraint?
Any combination to the right of the budget constraint is not achievable
the person’s command over resources is simply not sufficient to attain these combinations of leisure and money income
what does the slope of the budget constraint represent?
what is the formula?
a graphical representation of the wage rate
One’s wage rate is properly defined as the increment in income (Delta Y) derived from an increment in hours of work (Delta H)
Wage rate = (Delta Y) / (Delta H)
if a mans gets an increase in income, but wage rate remains the same, what does this result in graphically?
creates a parallel budget constraint higher than the pervious one
since its parallel, the got the same slope because wage remained unchanged
this then would create a higher indifference curve because he now has more control over resources
it later results, in the income effect
how does an income increase result in an income effect now that we take into consideration indifference curve and budget constraints?
Income (wealth) has been increased, but the wage rate has remained unchanged
wealth increased and the opportunity cost of leisure remained constant, so the person consumes more leisure and works less
the new budget constraint is tangent to the new indifference curve at a spot where there are more hours of leisure, and less hours of work
if the wage increase, it can create an either a substitution effect or a scale effect
what defines which effect it will be?
the shape of the indifference curves that might describe a person’s preferences
Is it possible to graphically isolate the substitution effect?
yeeee
The reservation wage
the wage below which a person will not work
it represents the value placed on an hour of lost leisure time
who is more responsive to wages changes? men or women?
women
are women becoming more or less responsive to wage changes?
less responsive to wage changes
income replacement programs
they pay benefits only to those who are not working
income replacement programs with a spike
it makes the person receiving the benefit not want to work
they get around the same wage for no time working and max amount of leisure time
their utility or indifference curve has more potential (moves to the right)
Programs with Net Wage Rates of Zero
factor income needs into their eligibility criteria
pay benefits based on the difference between one’s actual earnings and one’s needs
paying people the difference between their earnings and their needs creates a net wage rate of zero
they increase the income of program recipients while also drastically reducing the price of leisure
How does a subsidy work
the welfare agency determines the income needed by an eligible person
Actual earnings are then subtracted from this needed level, and a check is issued to the person each month for the difference
why does a subsidy lead to the income effect?
increases the income of the poor by moving the lower end of the budget constraint
why does a subsidy cause the wage to effectively drop to zero?
every dollar earned is matched by a dollar reduction in welfare benefits
why does the dollar-for-dollar reduction in subsidy benefits result in a income effect?
Those accepting welfare to reduce their hours of work to zero
in this case, their max utility is not working and getting money
can it be possible that someone eligible to subsidies choose not to take them and work instead because it benefits them?
what do they give up?
yes it can happen
they will not get any subsidy or welfare
what can lifetime limited do?
how?
have the effect of ending eligibility for transfer payments
forcing recipients off welfare
by inducing them to leave so they can “save” their eligibility in case they need welfare later in life
work requirements for benefits
people need to work a certain minimum of hours of work per day to be eligible
if he chooses to work more than that amount per day, they won’t get the benefit
the Earned Income Tax Credit (EITC) program
makes income tax credits available to low-income fami- lies with at least one worker
EITC functions as an earnings subsidy
seen by many as an income maintenance program that preserves work incentives
with the Earned Income Tax Credit (EITC) program, what do workers with earnings below $12,570 experience? why?
a substitution effect that pushes them in the direction of more work
the net wage is greater than the market wage (by 40 percent)
workers experience an increase in the price of leisure
some of those who would have been out of the labor force in the absence of the EITC program will now decide to seek work
Workers who earned between $12,570 and $16,420 with the Earned Income Tax Credit (EITC) program experience what?
they just earn the going market wages
np increase in the value of leisure
Workers who earned between $16,420 and $40,295 with the Earned Income Tax Credit (EITC) program experience what?
the experience both the income and the substitution effects that push in the direction of reduced labor supply
exogenous independent variable
determined by some outside force and not itself influenced by the dependent variable
