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Unformatted text preview: r prefers
diversity, and is therefore not a likely possibility. 1 C a
<w
b A I4
I3
I2
I1
B l
C
a
>w
b A I1 I2 I3 I4 B l
Figure 4.2
b.) The utility function in this problemigure 1: obey the property that the consumer
F does not
prefers diversity, and is therefore not a likely possibility.
(c) Given perfect substitutes, is more preferred to less? Do preferences satisfy the diminishingc.) This utility function does have the property that more is preferred to less.
rateof substitution property? However, the marginal rate of substitution is constant, and therefore this utility
function does not satisfy the property of diminishing marginal rate of substitution. This utility function does have the property that more is preferred to less. However,
the marginal rate of substitution is constant, and therefore this utility function does not
When the government imposes a proportional taxof substitution. the
on wage income,
satisfy the property of diminishing marginal rate 4.
consumer’s budget constraint is now given by: 2. Williamson, Third Canadian Edition, Chapter 4, Problem 4. Suppose that the
,
government imposes a)(h − l ) + π − T income tax on the representative consumer’s wage income.
C = w(1 − t proportional
That is, the consumer’s wage income is w(1 − t)(h − l), where t is the tax rate. What eﬀect
does is the tax rate on wage consumption and labor supply? constraint for t = 0, in
where t the income tax have onincome. In Figure 4.3, the budgetExplain your results is terms
of When t > substitution constraint is EGH. The slope of the original budget line is
FGH.income and 0, the budget eﬀects. –w, while the slope of the new budget line is –(1–t)w. Initially the consumer picks the
When the government imposes a proportional tax on wage income, consumer picks
point A on the original budget line. After the tax has been imposed, thethe consumer’s budget
constraint substitution by:
point B. The is now given effect of the imposition of the tax is to move the consumer
from point A to point D on the original indifference cur...
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 Spring '14
 Economics

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