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Unformatted text preview: Homework #5 Solutions Date Due: December 3, 2009 Chapter 12: 6. Note: Change to text question. Assuming that income includes both private and public goods and that leisure is a normal good, explain how a major reduction in governmentally provided goods might increase a person’s optimal number of hours of work. Illustrate this in a graph. An individual’s real income can be defined as the total quantity of public and private goods and services that can be obtained from any given level of work. A reduction in governmentally provided goods essentially shifts the budget constraint of the individual inward, and lowers the subsequent utility from the optimal consumption bundle. The optimal consumption bundle has lower leisure consumption since leisure is a normal good and when income decreases consumption of normal goods decrease. This is illustrated in the diagram below, but budget constraint B, and indifference curves U. Real Income old 24 U_old U_new B_old B_new Leisure new 8. Note: Change to text question. Use the following labor market data to determine the answers to (b) though (d): Wage Rate $10 $8 $6 $4 $2 Quantity Demanded 14 18 22 26 30 Quantity Supplied 22 22 22 22 22 Tax Per Hour $3.33 $2.67 $2.00 $1.33 $0.67 (a.) Is this tax progressive. Answer: No, it’s proportional. (b.) What is the before‐tax equilibrium wage rate? The before‐tax equilibrium wage rate is determined by the intersection of Supply and Demand for labor. This occurs at Q Demand=Q Supplied=22. At this quantity, wage rate is $6. (c.) What effect does the tax have on the number of hours of work supplied and the market wage rate? To gauge the effect of the tax on the number of hours of work and market wage rate, it is necessary to do the following thought experiment. Suppose firms are required to physically send in the tax money to the government at the end of the day. In order to make firms just as good off post tax as pre tax, we’d ideally allow them to pay less to labor by the amount of the tax at every quantity of labor. This essentially shifts the Q Demand curve downward by the amount of the tax at every quantity of labor. The new intersection occurs at the same quantity of labor as before, but the wage rate is now $4. At this intersection, firms pay workers $4, and then send another $2 to the government in tax payment. As a whole, firms now spend $6 as compared to $6 before the tax, while workers now receive $4 as compared to $6 before. Workers bear the entire burden of the tax by taking a wage cut. (d.) If the labor supply curve were highly elastic, rather than perfectly inelastic, how would your answers to (c.) change? If the labor supply curve were elastic, then the equilibrium quantity of labor would fall and the post‐tax wage would still be lower than $6, but higher than $4. That implies that both the firm and workers share the burden of the tax. Graph for C: Wage rate $6 $4 Demand pre‐tax Demand post‐tax Q of labor Supply Graph for D: $6 $4 Labor_old= Labor_new Supply Demand pre‐tax Demand post‐tax Q of labor Labor_old Labor_new Chapter 18: 1. Use the following data to calculate (a) the size of the labor force, (b) the official unemployment rate, and (c) the labor force participation rate (defined in Ch. 3) for a hypothetical economy with: Population=500 Population 16 years or older and noninstitutionalized=400 People employed full or part time=200 People unemployed and actively seeking work=20 People who have quit seeking work due to lack of success=10 Part time workers seeking full time jobs=30 Note: Omit the existence of the 30 part time works seeking full time jobs. (a.) Size of the labor force: employed+unemployed: 200+20 =220 (b.) Unemployment rate: (unemployment/labor force)*100% =(20/220) *100% =9.09% (c.) Labor force participation rate: actual labor force/potential labor force Note: Actual labor force is employed+unemployed and actively seeking, and potential labor force is the entire age‐eligible population less people under 16 years of age and less people who are institutionalized. Actual labor force: 200+20=220 Potential labor force: 400+10=410 Labor force participation rate: 220/410=53.6% 4. Define the term structural unemployment and distinguish it from frictional and demand‐ deficient unemployment. Why might structural unemployment fall when demand‐deficient unemployment declines? Structural unemployment is unemployment caused by changes in the composition of labor supply and demand. Frictional unemployment is unemployment where not all active job searchers have found or accepted employment, and not all employers have filed their job vacancies. Demand‐deficient unemployment is unemployment that is due to changes in the aggregate business cycle. Demand‐deficient unemployment generally declines during periods of economic growth (i.e. non‐recessions.) During this time, there are many new firms and industries in the market, and this increases the demand for certain types of labor. This leads to less structural unemployment, as workers are demanded to work in these high growth industries. 7. Assume that the official national unemployment rate rises from 4% to 8% because of a major recession. What impact do you predict this would have on (a) the African‐American to white unemployment ratio, (b) the labor force participation rate, and (c) the teenage‐adult unemployment rate ratio? Explain. (a.) This will increase the African American to white unemployment ratio, since African‐ American’s are unemployed at a higher rate than whites. (b.) This will decrease the labor force participation rate through the numerator of the labor force participation rate: employed+unemployed. Many workers who are unemployed get discouraged or become part time workers who would rather have full time positions. This decreases the numerator and lowers the labor force participation rate. (c.) This will increase the teenage‐adult unemployment rate ratio, since teenagers are unemployed at a higher rate than adults. ...
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