Income And Substitution Effect Labor Supply

When a target income has been reached and people prefer spending more time on leisure rather than earning more income.

Income and substitution effect labor supply. Aggregated income and substitution effects. When higher wages cause people to want to work more hours in order to reach a target desired income. The substitution and income effects influence meredith wilson s supply of labor when she gets a pay raise. A change in the wage rate has both an income effect and a substitution effect.

This is essential to a fundamental knowledge of labor market economics as we understand it today. If leisure is an inferior good both substitution effect and income effect work in the same direction. A works fewer hours as the wage rate rises. The substitution effect explains the upwards sloping section of the labour supply curve as the wage rate rises workers are willing to work more hours and substitute away from their leisure time because the opportunity cost of leisure time rises with a higher wage rate.

At 15 per hour the substitution effect pulls in the direction of an increased quantity of labor supplied and the income effect pulls in the opposite direction. A s income effect outweighs the substitution effect the total effect of wage rise on leisure is positive n 2 n 1 and h 2 h 1. At a wage of 10 per hour she supplies 42 hours of work per week point a. The income effect of a rise in the hourly wage rate.