Eduardo F. Magalhães Pimenta
5209846
Econ 481

Assignment #1 (Miderm)


1. Labor Force Participation Rate = Labor Force / Population = (12+3) / 20 
=15 / 20 = ¾ or 75%

Unemployement Rate = Unemployement / Labor Force = 3 / 15 = 1/5  or 20%

2. Since curves that are farther from the origin are associated with higher level of utilities, the worker will always choose to allocate all her time to leisure, or to consumption. The final decision will depend on a mix of he prefernces and budges line. To illustrate a change in woker preferences (Figures 2.1 and 2.2), and a change in the worker budget constrain (Figure 2.3).
Obviously, this implication is not consistent with the real world. What we normally see is people allocating their time among different activities. It is unlikely that someone would be so extremist as to always prefer to either spend all her time at work, or spend all her time not working at all.

3. No, she does not maximize her utility. Because given the basic consumption-leisure model, a worker would maximize her utility at the point where her indifference curve is tangent to the budget line. This shold make sense considering the properties of the indifference curve, which are convex, and parellel. Also, note that the indifference curves farther from the origin represent higher level of utility. It follows that the highest indifference curve should be tangent to the budget line (Figure 3.1). At this point the slope of the indiffernce curve is the same as the slope of the budget line. In other words 
MUc / MUl = w
In order to make a better life, this worker would have to increase the amount of time sent on leisure activities, until the inequality becomes true (ie: MUc = w*MUl)

4. Under the assumption that leisure is a normal good, an increase in non labor income would make the reservation wage rise. Because, increase in non labor income leads to a parellel, upward shift in the budget line, we can see how indifference curves get steeper as we keep moving in the same direction.

5. a) Susan must know what about her preferences, but regardless, she is wrong when she says that there “No crazy income and substitution effects for” her. Because, given an increase on her wage rate, if she chooses to work just to maintain the same consumption level, then she will just be working less and spending more time with her 1967 Mustang. In other words, the income effect exists. But there is no substitution effect? By increasing her wage rate, leisure should become more expensive, and Susan would therefore lower the consumption at least a bit. Her claim does not seem to match our assumption that leisure is a normal good. 

b) Figure 5.1

c) If Susan's case were to be drawn on a graph, there would only be income effect. The income effect always dominates, increasing her working hours when her wage rate decreases. And it would decrease her working hours when her wage rate increases.