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2 weeks ago

Question 1.

Serafina was earning $75 per hour and working 50 hours per week. Serafina's wage rose to $90 per hour, and as a result, she now works 60 hours per week. What can you conclude from this information about the income effect and the substitution effect of a wage change for Serafina?

Question 2.

Suppose that Hawaii legalizes casino gambling. By imposing a tax on casino revenues, the state government is able to eliminate the state income tax on wages. What is likely to be the effect on the labor supply curve in Hawaii?
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Microeconomics
Edition: 7th
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Answer 1

We can conclude that Serafina's substitution effect (higher wages lead to higher opportunity cost of leisure, leads to lower leisure, leads to more labor) is greater than her income effect (higher wages lead to higher income, leads to more leisure, leads to less labor). As a result, Serafina works more hours as her wage increases.

Answer 2

Eliminating the income tax on wages increases the opportunity cost of leisure because the after-tax wage is now higher than it was. Workers will also earn more income for any given number of hours worked. Whether workers will end up supplying more hours at each wage rate depends on whether the substitution effect of this increase in the after-tax wage is greater than the income effect.
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