5. Consider the example of the representative consumer choice we saw in class. Assume consumption (C) and leisure (I) are perfect complements u(LC) = min(Cal. The consumer's budget constraint is given by C=w(h-1) +- T
5. Consider the example of the representative consumer choice we saw in class. Assume consumption (C) and leisure (I) are perfect complements u(LC) = min(Cal. The consumer's budget constraint is given by C=w(h-1) +- T
Economics Today and Tomorrow, Student Edition
1st Edition
ISBN:9780078747663
Author:McGraw-Hill
Publisher:McGraw-Hill
Chapter7: Demand And Supply
Section7.1: Demand
Problem 4R
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Transcribed Image Text:5. Consider the example of the representative consumer choice we saw in class.
Assume consumption (C) and leisure (I) are perfect complements
u(LC) = min(Cal).
The consumer's budget constraint is given by
С=w(h-1) +π-T,
where w represents real wages, represents profits distributed as
dividends, T represents a lump sum tax, and h represents total hours
available. Assume <h. In that case, the consumer's optimal choice
subjected to the budget constraint can be represented by the diagram
(Figure 4.11 in the textbook):
Consumption, C
1* =
h
C* =
C = al
wh+T-T
a + w
a(wh+T-T)
a + w
B
D
12
According to the diagram the optimal choice of consumption and leisure is
such that C* = al*. That is, the consumer always chooses consumption and
leisure at the same proportions.
4
(a) Derive the analytic expressions for the optimal choice of leisure and
consumption:
Leisure, I
Transcribed Image Text:L
(b) Suppose that a = 8, h = 24, w = 10 and π - T = 48. Determine the
consumer's optimal choice of consumption and leisure, and show this
in a diagram.
(c) Now suppose that wages change resulting in /* = 14 with everything
else constant. Did wages decrease or increase? Plot the new
equilibrium in a diagram and interpret the results with reference to
substitution and income effects.
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