Labor Econ (Chapter 2)
How may one combat overemployment
(Absenteeism, being late every week or so, job turnover - leads to losing a job)
Class Notes (Page 3)
1. B.C. = Budget Constraint I.C. = Indifference Curve 2. When the slope of the B.C. is steeper than the slope of I.C., then the worker is unemployed x>y (over-employed)
Indifference Map
A whole family or field of indifference curves (An indifference map comprises a number of indifference curves. Each successive curve to the northeast reflects a higher level of total utility)
An analysts suggestion of a backward bending supply curve
For a specific person, hours of work may for a time increase as wage rates rise; but beyond some point, further wage increases may reduce the hours of labor supplied (higher wages at a specific point = reduced hours)
Why are indifference curves convex at the origin?
1. the slope of the curve reflects and individual's subjective willingness to substitute between leisure and income. 2. the individual's willingness to substitute leisure for income, or vice versa, varies with the amounts of leisure and income initially possessed.
3. The standard eight-hour workday may leave some workers wanting additional hours of work (__________) and other wanting to work fewer hours (_________), depending on their _____ ___ and ______ ___
1. underemployed 2. overemployed 3. indifference maps 4. earning abilities
Review An income-leisure indifference curve represents all combinations of income and leisure that provide equal total utility; its slope is called the _________
Marginal Rate of Substitution (MRS)
What does elasticity depend on again?
The strengths of income and substitution effects generated by a wage rate change
The income effect
the change in the desired hours of work resulting from a change in income, holding the wage rate constant.
Curves farther from the origin indicate higher levels of _______
utility (more satisfaction) L3 has the most utility (more income and leisure) than L2 and L1
When you're working, humans have to balance ___ with _____
work (labor market activity) leisure (non-labor market activity) work = time devoted to a paying job leisure = time spent outside of work that's unpaid. (consumption, education, commuting, relaxation) Notice how school and relaxation are in the same category.
If the substitution effect dominates the - the individual will choose to __________ when the wage rate rises
work more hours Shifts u₁ to u₂ to u₃ summarizes this case
Page 5
1. In the 1950's, 98% percent of former inmates are working/looking for work out of jail Now, this number dropped to 88% of former-inmates looking for work/working. Both of these stats are for male labor force participation (25-54) 2. What's responsible for this drop? A. Most people that are imprisoned now only have high-school degrees or less. Because the inmates aren't very well educated, they probably aren't interested in looking for work (since the requirements are so much higher). 3. Labor force participation is lower for black males but not black females
What does the convexity of the indifference curve represent?
1. Individuals become more (increasingly) reluctant to give up any good that becomes more-and-more scarce. What does this mean exactly When an individual only has 1 hour of leisure time, they'll be very hesitant to give up that 1 hour of leisure time for more income. Thus, they'll be more desperate to give up money for more leisure. (This explains why the top of the curve is steep for point a's range. Therefore for point b, the individual would be very glad to give up 4 units of income just for one unit of leisure, since they're desperate However, this isn't the case for the c-d range. Because this is near the origin of the line, this individual is only willing to trade a small amount of income for an extra hour of leisure. Leisure is more abundant in this area, thus the person will be more hesitant. Towards the bottom of the line, this individual would be (or close to) unemployed. They'd have plenty of leisure time, but hardly any income to enjoy that leisure time to the fullest. Thus, they'll be extremely willing to give up a lot of leisure time for income. This will result in a flat line.
4 properties of an indifference curve
1. Negative Slope 2. Convex to Origin (Convex shape) 3. Indifference map (a whole family or field of indifference curve) 4. Different work-leisure preferences (for each person)
Class notes (Page 1) {Day 3}
4 constraints 1. Wage = $10/hour 2. Must work 6 hours per day 3. All income comes from work 4. 16 hours available per day from work/leisure On the X axis, work time travels to the left (since the budget constraint is heading south-east) while the leisure time travels to the right If you prefer leisure, point y > x Equal utility, when both points (x and y) cross the same indifference curve. If you prefer work, point x > y (bottom graph) Leisure lover = steep line Mellow line = income lover
indifference curve
A graph that shows the various combinations of real income (y-axis) and leisure time (x-axis) that will yield some specific level of utility or satisfaction to the individual. Remember- indifference is the point where the subject draws no preference (equally satisfactory) for both income and leisure.
budget (wage) constraint
A line which shows all the various combinations of income (goods) and leisure that a worker might realize or obtain, given the wage rate. The bottom line has a $1 wage rate. Therefore, your budget constraint for 1 hour would be 1$. 2 hours would be $2. And 3 hours = $3. 24 hours = $24 Line 2 is $2 per hour Line 3 is $3 per hour Line 4 is $4 per hour (When the wage increases, the lines fan out clockwise, the slope increases)
Marginal rate of substitution of leisure (L) for income (Y)
1. (MRS L, Y) = the amount of income one must give up to compensate for the gain of 1 more unit (hour) of leisure Slope is negative (but think of MRS as an absolute value, positive) In the north-west region, MRS is large for a-b 4-income/-1 leisure = MRS of 4 (indifference is steep, higher MRS = steeper line) 2. south-east MRS is much smaller (1 income/6 leisure hours) MRS = 0.17 A lot of leisure, very little income (flat slope)
What other factors might shift a labor supply curve?
1. A change in a person's indifference map work-leisure preferences that change = shift the labor supply curve (increase in labor supply) (improvement in working conditions, child care, or large medical bills) 2. Purchasing a product requiring leisure to enjoy or reaching retirement age may lower the supply for labor
Using the income effect, what can we determine when wage rates rise for leisure?
Assuming that leisure is a normal good, the income effect reduces the desired number of hours of work.
Page 4
Assumption #2 1. The more income you have (the less leisure you have), the more value the last remaining of leisure are. Steep indifference = (high income, low leisure) Flat indifference = (low income, high leisure) These two areas make the indifference line curved 2. Income lover = (flat line, but convex) Leisure lover = (vertical line, but convex) Work-life balance = (greater curve) No balance = straighter line
Why are indifference curves downward sloping?
Because when you move down the curve, you're sacrificing something to gain more of the thing you want. (some other good must be given up to gain the same level of utility) utility = beneficial If the slope was upward, then you'd be gaining more income when you choose more leisure. Thus, you aren't losing anything. (The x axis is 5, not 15)
Reservation wage example
Budget Constraint - N The reservation wage is the market wage rate implicit in the broken budget line that is equal to the slope of the indifference curve (I3) at zero hours of work The value of work and the value of nonmarket time (leisure) are equal point N, the value of nonmarket time exceeds the value of work
Underemployed worker
Ij2's indifference curve is less than the budget line Jone's MRS of leisure for income is less than the wage rate MRS Leisure < Wage Rate (she might take a second job or move on to another job)
Backward bending supply curve textbook graph
In (a) higher wage rates result in a series of increasingly steep budget lines whose tangencies with indifference curves locate a series of utility-maximizing positions. The movement from u₁ to u₂ and u₃ reveals that for a time higher wage rates are associated with longer hours of work, whereas the shifts from u₃ to u₄ and u₅ indicate that still higher wage rates entail fewer hours of work. The overall result is a backward-bending labor supply curve shown in (b)
Figure 2.9
In this graph, an elderly person is working in the labor force. U is her optimization point for work/life balance so far However, she recently got a public pension plan. Because of this, N is the optimum position since it's at the higher indifference curve (i2) (reduction in money, but more than compensating increase in leisure) Therefore, this individual is better off at N even with the reduced income. (since leisure skyrockets)
The optimal position for Figure 2.8
Point N (on the right-hand line) is the most optimum. Because these slopes are steeply curved, having more leisure is better. However, if this student was highly skilled and has immediate employment opportunities at a high wage, then the budget constraint line would be much steeper (since he's making more money) and he would be more willing to participate in the labor force
4. _____ ______ ______ for overtime work provide a greater incentive for additional hours of work than a straight-time wage rate yielding an equivalent daily income
Premium Wage Rates
The substitution effect
The change in the desired hours of work resulting from a change in the wage rate, keeping income constant. In general, when the wage rate increases, the desired number of hours of work increases
Reservation wage
The highest wage rate at which an individual chooses not to work or, if you prefer, the lowest wage rate at which one would decide to work highest wage rate you'd choose not to work - the lowest wage rate at which one would want to work (explains why some individuals participate in the labor force and others do not)
Utility Maximization
The optimal or utility-maximizing combination of leisure and income for the worker. (The point where the budget constraint meets with the utility constraint to achieve the highest indifference curve) Black line = budget constraint Blue line = indifference curve Point u₁ = Utility Optimization (on second indifference curve) Point u₁ is the farthest point from the origin to the right-hand side.
Page 3 (Notes)
Unemployed = 6.3 million (not looking for work) U3 unemployment rate = (unemployed/labor force) underemployed = 6.3 mil Labor Force = 162.2 6.3/162.2 = 3.9%
Page 5 (Notes)
Unemployment Rate from 1982 to 2018 (Gradually went down over time) The Black population does have a higher unemployment rate overall
The ________ is the percentage change in the quantity of labor supplied divided by the percentage change in the wage rate.
Wage elasticity of supply
If the income effect is larger than the substitution effect, then a wage increase will prompt the individual to work ______
fewer hours u₃ - u₄ and u₅ of the backward bending supply curve applies in this case
Another comparison with leisure lover and workaholic
flat curve (workaholic) = someone who has a creative and challenging occupation. Such as a painter, ceramist, or musician. leisure lover = unpleasant job, such as a coal miner or an assembly line worker. A leisure lover could also be a student, since studying for school is an unpaid occupation done outside of work.
Each successive curve in an indifference map indicates a _______ level of total utility.
greater
An income-leisure budget line reveals all combinations of income and leisure that a worker can achieve at a specific _______-_____ rate
hourly-wage
Video for Net, Income, and Substitution effects
https://www.youtube.com/watch?v=pLhh_D5b_Lg
In general, the individual strives to maximize utility by achieving a position on the highest attainable ________ ______
indifference curve Remember, the farther right the graph is, the more leisure and income the person gets.
What does a wage rate increase mean? (when it comes to income)
larger money income is obtainable from a given number of hours of work. Thus, we'll expect this individual to use a part of this enhanced income to buy more goods and services (TV, movie tickets, etc.)
Class Notes (Page 4)
1. Non-Labor income = money you receive even if you don't work 2. Basic Econ theories a) More income = buy more normal goods b) More income = buy fewer inferior goods 3. Same theory for Non-Labor Income (NLI) More NLI = buy more normal goods (more leisure) More NLI = buy fewer inferior goods (less labor income) 4. Higher income = buy more leisure (graph on the bottom-right) 5. Leisure could also be an inferior good The bottom-left graph, with higher income, more work time is preferred (income lover)
Labor supply curve shape for each of the following 1. Elasticity of 0 = 2. Elasticity that's infinite = 3. Elasticity greater than 1 = 4. Negative Elasticity =
1. Perfectly Inelastic 2. Perfectly Elastic 3. Relatively Inelastic 4. Backward Bending
1. _____, ________, and _________ all contribute to non-participation in the labor force
1. Steep indifference curves 2. The availability of non-labor income 3. low earning ability
Page 3
1. The farther outwards (to the right-hand corner) the graph is, the better the outcome will be. Thus, indifference curve 2 is better than indifference curve 1 (higher income and leisure) 2. If the individual prefers leisure more than income, then the line will be more vertical. (This individual is willing to give up $50 just to obtain 1 extra hour of leisure) 2.B. On the other hand, if the individual prefers income over labor, then the line will be more horizontal. (Because of the drop from $100 to $50, this individual demands 14 extra hours of leisure time)
Two reasons (theories) why a backward-bending labor supply curve can occur.
1. The income effect 2. The substitution effect
Answer
1. The indifference curves are steep, indicating that leisure (non-market time) is valued very high relative to income (leisure > work). 2. The MRS of leisure for income are high (steep slope), prefers leisure (or it's a 20 year old that values school time a lot) remember, steep slope = nonlabor 3. Since the budget constraint line is flat (W), he has a low-income paying job (so he probably has little experience)
Two assumptions we need to make for the budget constraint term (for employees)
1. The individual's only source of income is from that job. (no non-labor income, no savings, and no borrowing funds) 2. The individual can't alter the hourly wage paid for his/her services (the number of hours worked is fixed)
Class Notes (Page 5)
1. When the price of goods rises = we buy less goods (in this case, Cars) 2. When the price of leisure rises = we buy less leisure When the wage-rate rises, we buy less leisure 3. Substitution effect (substitute work for leisure) Substitution effect : price of leisure goes up, thus we buy less leisure and work more
The utility-maximizing combination of income and leisure occurs at the point of tangency between the ____ line and the highest attainable ______ curve;
1. budget 2. indifference curve MRS L, Y(the slope of the indifference curve) equals the wage rate (the slope of the budget line)
As the wage rate rises, the labor supply curve for a typical person first is ________ _______ as the substitution effect swamps the income effect; eventually the curve becomes ________ sloped as the income effect of further wage rate hikes exceeds the substitution effect.
1. positively sloped 2. negatively
Two sets of info that are necessary to determine the optimal distribution of work and leisure time for an individual.
1. subjective (psychological) information about the individual's work/leisure preferences (does the person prefer work more, or leisure more?) This is used with indifference curves (perceptions, emotions, and character of other people) 2. Objective market information budget constraint
Empirical data for labor supply curves
10% increase in male wage rates would increase the amount of labor supplied by 1 percent. Substitution effect dominates the income effect for men (increase in hours for an increase in wage) Women are more prone to the income effect (more money = more leisure)
Day 1 Notes (Page 1) unemployment %
16 weeks or less (U1) = 1.7% U3 (official unemployment) = 3.9% Total Unemployed = 8.9%
Page 2
2 assumptions for indifference curves 1. Prefers more leisure time to less leisure time 2. Prefers more income to less income Leisure = non-work time Assumption 1 theory example ^ $100 day & 5 hours of leisure is better than $100 day & 4 hours of leisure Assumption 2 theory example ^ If my professor dropped a $20 bill on the ground, we would be enticed to grab it, since we prefer more income. Plus, we aren't losing anything. 3. In the diagram, D vs B isn't clear cut. D has more leisure, but B has more income. Therefore, we aren't sure if our participant prefers income or leisure more. Because of this, d=b (they are indifferent) Both point d and b will be on the indifference curve. The indifference curve can't slope up, since it'll yield a more preferable result when you go up along the line. Point E on the graph is better since it's above D (better income with the same amount of leisure)
Page 4 (Notes)
Civilian = non-institutionalized population and 16 years or older U.S. = 257.8 Million (Civilians) Civilian Labor Force = 162.2 mil in the U.S. Civilian Labor Force = working or looking for work (employed is the only requirement)
Textbook cards 1. In supplying labor, human beings are ____ when it comes to the demand
Diverse 1. Anderson takes numerous unpaid absences 2. Brown works full-time 3. Brinkman doesn't work at all
True or False? Based on Empirical research, full-time college attendance is a benefit for labor population
False It's actually a deterrent, since education is a non-labor activity ("leisure")
Class Notes (Page 2)
In this scenario, the job offer is 1. $10/hour 2. The individual is free to choose the number of hours of work In order to find the utility maximizing point, we need to find the intersect of the indifference/budget constraint curve that's the closest towards the north-east. Therefore, the desired work/leisure time is 8 hours each, because the slope of the indifference curve is equal to the slope of the budget constraint. If we chose point a or point b (second graph below), every point in between those points are better (since they maximize utility better in one or both areas). Point c is the best spot (The point that touches the budget constraint at the center is the best option)
Explain how the desired number of hours to work would increase as the wage rate increases for the substitution effect.
In this theory, when the wage rate increases, the cost of leisure also goes up as well. Since we're assuming that leisure is a normal good, and that the substitution effect suggests that consumers will go steer away from a normal good when it gets too expensive, a higher wage rate will make the person want to work more.
Review Net Effect Income Effect Substitution Effect
Income effect = moves right (rightward horizontal movement of u1 to u2) Substitution effect = moves left (horizontal leftward movement from u'2 to u2) Net effect = The difference of the Substitution and the Income effect
Premium Wage
It'll call forth more hours of work than a straight-time wage rate that yields the same income at the same number of hours (small income effect for premium wage, only applies to hours in excess)
Page 2 (Notes) laborforce participation rate
Laborforce Participation Rate = (Labor force) / (non-institutionalized population) = 162.2/257.8 = 62.9% 62.9% = how many people want to work 1950 = 60% (LPR) 2000 = 67.3% (LPR Peak)
4. Curve of a workaholic vs a curve of a leisure lover
Leisure lover = high value on leisure, low value on work (income) (More vertical) Notice how the leisure lover needs a lot of income (higher paycheck) in order to have 1 less hour of leisure. Workaholic = low value on leisure and high value on work (income) (More horizontal) Notice how the workaholic doesn't need as much income to reduce leisure time.
optimal work-leisure position
MRS L, Y(The slope of the indifference curve) is equal to the wage rate (the slope of the budget line) 1. In point b, the indifference curve I(1) is steeper than the budget line. Therefore, an additional hour of leisure is worth $4 to this individual but she will have to sacrifice only $2 of income to obtain that extra hour for leisure Worth ($4) is greater than cost ($2) - [beneficial for the worker] 2. For point a, the indifference curve is less than the budget line. the wage rate is $2 and the MRS(Y) - (slope of the indifference curve) is only $1. Thus, an hour of leisure is worth only $1 at the margin, but the individual can get $2 worth of income for sacrificing an hour of leisure. It's beneficial, but this point feels more underemployed for the worker.
The slope of the indifference curve is measured by the ______________
Marginal rate of substitution (MRS) (basically the slope of a line) (rise/run)
If we make the assumption that leisure is a normal good, then what must happen?
More income = More leisure (purchasing leisure) Movie tickets only yield satisfaction if you have the leisure time to enjoy them Working fewer hours = purchase leisure (nonmarket) time
Budget constraint
Obviously, a company won't have an infinite amount of income to give to their employees. Thus, the individual looking for work is constrained by the amount of income that's available in the workforce.
Wage elasticity of labor supply
Percentage change in quantity of labor supplied / percentage change in the wage rate
5 In-class notes Page 1
Think of Labor as Goods AKA (1 unit of good = 1 unit of labor) Labor supply = DESIRED number of hours an individual wants to work at any given time Price = total hourly compensation (hourly wage) Labor Demand = desired number of hours an employer wants to hire at any given wage rate Macro-econ theory = (The point where marginal revenue and marginal cost cross, that's the optimal amount [equilibrium])
True or False? The higher the non-labor income available to a person from parents, a spouse, or benefits (Social Security, welfare, and private pensions), are less likely to participate in the workforce
True
Types of Unemployment U-1 U-2 U-3 U-4 U-5 U-6
U-1 = 16 weeks of unemployment or longer U-2 = Labor force who lost jobs or completed temporary work U-3 = Official unemployment rate. When people are without jobs and have actively looked for work within the past 4 weeks. U-4 = Unemployment caused by workers being intimidated by the Economy U-5 = Those who "would like" to work, but they haven't looked for work U-6 = Part-time workers that want to work full-time but cannot due to the economy (Underemployed)
Overemployment
When the MRS of leisure for income exceeds the wage rate At point P (center), the worker values leisure more highly at the margin that does the market
When would a non-labor lover become a labor participant (reservation wage)?
When the wage rate is above the reservation wage (Indifference Curve i4)
Page 6 (Notes)
Yearly Change in employment Gradually rose over time, and then dropped back down slightly after 2014
A change in the wage rate produces two simultaneous effects a. b.
a. An income effect that, taken alone, changes a worker's desired hours of work in the opposite direction as the wage rate changes b. a substitution effect that, taken alone, changes a worker's desired hours of work in the same direction as the wage rate change.
Changes in _______ income may shift an individual's labor supply curve
non-labor (Winning a lottery, receiving a large inheritance, qualifying for a pension, or becoming eligible for welfare shift one's labor supply curve leftward) - Decrease in labor supply - supply curve shifts leftward The layoff of one's spouse or a significant decline in dividend income may produce an increase (rightward shift) in labor supply
The greater the opportunity cost of _____________ --- that is, the higher the wage obtainable in the labor market --- the more likely it is that a person will be a labor force participant
not working
2. The _____ is the lowest acceptable wage rate; below this wage a person would decide not to participate in the labor force
reservation wage