Summary: Labour Economics

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• 1 Labour Supply

• In the lecture of Labour Supply and the slides...What is the effect of a wage increase on a worker’s labour supply decision?With Substitution and Income effects?

  Sub = It becomes more expensive for leisure (relaxing) than consumption (working) - - Decreasing amount of leisure
  
  Inc = Makes the worker wealthier - - Increasing amount of leisure

• 1.1 Assignment 1

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• On the backward bending portion of a labour supply curve (where the number of hours supplied decreases with increases in the wage), the substitution effect dominates the income effect.True or False

  False.
  
  On the backward bending portion of the labour supply curve, the quantity of labour supplied decreases when the wage increases.
  
  This means that the income effect dominates the substitution effect.

• Assume that leisure is a normal good. A Demogrant of X dollars will increase the total income of a person by at least X dollars. Use a diagram to explain your answer.True or False

  False.
  
  A demogrant of X dollars will increase the total income of a person by less than X dollars, because of the income effect the demogrant has on the person’s labour supply decision.
  
  Recall that a demogrant creates a pure income effect, which causes the person to increase consumption of both income and leisure.
  
  The person receives an additional X dollars in income, but he responds by reducing the number of hours he works. Thus, the overall effect will be an increase in income of less than X dollars.
  
  

• A child care subsidy will decrease the number of hours worked by parents who are already in the labour force.True or False.

  True.
  
  For parents who are already in the labour force, the child care subsidy will have a pure income effect on their labour supply decision.
  
  This will cause them to decrease the number of hours they work.     

• Economic theory tells us that a welfare program with a negative income tax will always reduce hours worked, relative to the case in which there is no welfare program.True or False.

  True.
  
  A negative income tax decreases the net wage relative to the no-welfare case; the substitution effect of this wage decrease will cause workers to want to work fewer hours.
  
  This policy also increases workers’ income: as long as leisure is a normal good, the income effect will also cause workers to prefer to work fewer hours.
  
  Because the substitution and income effects go in the same direction, we can be certain that this welfare scheme will decrease hours worked relative to the case in which there is no welfare.

• Consider two states, A and B. In 1995, state A adopts an EITC-like program offering a wage subsidy for single mothers. You are interested in measuring the effect of this subsidy on the labor force participation (LFP) of single mothers.Based on economic theory, how would you expect such a wage subsidy to affect LFP among single mothers? Explain your answer.

  If a single mother is not working without the EITC, it means that the wage she faces in the labour market is below her reservation wage.
  
  Because the EITC includes a wage subsidy at low earning levels, it may increase the effective wage above the reservation wage for some women. As such, it should increase labour force participation.

• Using the table above, what is the difference in differences estimate of the effect of the wage subsidy on LFP of single mothers?Is the sign of the estimate consistent with your response from part (a)?

  The difference in differences estimate is -0.2, which is not consistent with the predictions from part (a).
  
  (0.55 - 0.50) - (0.65 - 0.58)

• 1.1.1 Quiz 1

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• In the neo-classical model of labour supply, which of the following is always true?a. If leisure is a normal good, a wage increase causes an increase in hours worked.b. If leisure is a normal good, a wage increase causes a decrease in hours worked.c. The income effect and the substitution effect work in the same direction.d. The substitution effect causes the worker to work more hours if wages increase.e. None of these options

  d. The substitution effect causes the worker to work more hours if wages increase.

• Which of the following statements regarding indifference curves is true?a. If an individual has a lower valuation of leisure, then the slope of his indifference curve is steeper.b. If an individual has a lower valuation of leisure, then the marginal rate of substitution is higher.c. If an individual has a higher valuation of consumption, then the slope of his indifference curve is flatter.d. If an individual has a higher valuation of consumption, then the marginal rate of substitution is higher.e. None of these above

  B or C

• Consider a worker who is supplying a positive number of hours. What could cause him to drop out of the labour force?a. A flattening of her indifference curveb. A change in preferences such that he values income morec. A decrease in non-labour incomed. An increase in the offered wagee. A decrease in the offered wage

  e. A decrease in the offered wage