EXAM 3 Flashcards
Theory of Labor Supply/Labor-Leisure Choice
Indiv makes a choice on how much time will he devote to labor and leisure respectively.
Components of special utility function U(c,h)
c = consumption of goods
h = hours of leisure
Formula for Time constraint and budget constraint
Time constraint = l +h = 24
Budget constraint = c = wl (consumption = wages x hours of labor)
Normal budget constraint of c + wh = 24w components
price of consumption is 1 = (1)c
Price of leisure is the wage = (w)h
Total income possible = 24w
Values of slope, H-Int, and V-Int [LABOR]
Slope (-p1/p2) = -w
X-int (m/p1) = 24
Y-int (m/p2) = 24w
Graph structure of Labor-Leisure w/ IC
X axis: h
Y axis: c
X-int: 24
Y-int : 24w
IC Curve: point tangent to the budget line
h: Equilibrium point
c: Equilibrium point
Equilibrium condition of Labor-Leisure choice
|slope of budget line| = |slope of the indifference curve|
Substitution and Income effect
Substitution Effect w/ increased wages:
Leisure DECREASES, Supply for labor INCREASES
Equilibrium point shifts to the LEFT
With labor increasing, labor supply curve is UPWARD SLOPING
Income Effect w/ increased wages:
Leisure INCREASES, supply for labor DECREASES
Equilibrium point shifts to the RIGHT
With labor decreasing, labor supply curve is DOWNWARD SLOPING
Nature of labor-supply curve given uncertainty
backward-bending labor supply curve
Rate of return
r = (change in c1 / change in c0) - 1
p1 == (change in c1 / change in c0) = 1 / 1+r
The price of future goods is the amount of present goods that must be sacrificed (change in c0) to get some one more unit of future good (change in c1)
Intertemporal budget line equation
W = c0 + (1 / 1+r)c1
c1 = W(1 + r) - (1 + r)c0
Graph of Capital
X: c0
Y: c1
x-int: W
y-int: W(1+r)
Eq.x: c0*
Eq.y: c1*
IC: U(c0,c1)
If r increases in capital graph
see notes
Allocation
pair of consumption bundles i.e., one consumption bundle per person
