ECONOMICS 110/111

Suppose Lorne has 20 hours per day that can be spent either working or at "leisure". Assume (at least initially) that Lorne earns all income from working at the after-tax wage rate of $10/hour. (Part A has already been answered. Only need part b and c)

(a) Using an indifference curve, illustrate Lorne's decision if he decides to work 10 hours per day. Calculate, and in your diagram, identify, Lorne's quantity of leisure, supply of labour, and consumption. What is the price of leisure?

(b) Suppose the government institutes a program that will pay Lorne $100/day. However, if he works, he will have to pay back the government benefit with any labour income he earns until the full $100 is paid back. Only after that will he be able keep any further labour income. Illustrate the new budget line in your diagram. How much labour will he supply? How much consumption will he have? Is he better off or worse off than he was in part (a)?

(c) Now suppose the government changes the program. It will still pay $100/day, but now if he works, Lorne will have to pay only half of his labour income to the government until the full $100 is paid back. Illustrate the new budget line in your diagram. If he chooses to work 4 hours under the new scheme, how much consumption will he have? Is he better off or worse off than he was in part (b)? Which version of the program costs the government more?