EC 45 A03 Theory of Labor Economics

Theory of Labor Economics1. If the substitution effect is larger than the income effect, what will be the labour-supply response to an increase in the income-tax rate? (Recall that income taxes are a percent of income, not a fixed sum.)(a) Labor supply will remain unchanged.(b) Labor supply will change ambiguously.(c) Labor supply will increase.(d) Labor supply will decrease.2. Demonstrate that a monopsonistic employer will not pay each worker her marginal revenue product.3. Suppose your firm produces according to a function in which capital and labour are perfect compli- ments. The wage rate is currently $120 per day and the daily capital cost is $100. If the wage rate falls to $100, does the substitution effect dominate the scale effect and ensure that more capital is used? Explain and justify your answer.4. There are 16 hours daily to be divided between working for pay and leisure. Working yields hourly wages of $10. Any hours worked in excess of eight hours are considered overtime, and are compensated at $15 hourly.(a) In the space below, produce the budget constraint implied by this scenario, inclusive of clear and complete labels on all axes, lines, and intersections.(b) In the same space, introduce a utility-maximizing agent who is optimally choosing to work 8 hours.(c) In the same space, capture the effect of a program that pays workers a flat $30 for staying after their eight-hour shift to finish up any remaining tasks. If they finish their task, they can leave and keep the full $30 payment. If the task ends up taking longer than two hours, they can continue to earn overtime at the regular rate of $15 hourly.(d) Demonstrate, with another indifference curve, what are the expected labor-supply implications of such a policy would be.