The assumption that current-period labour supply is positively related to the current-period real wage is justified as long as the
A) income effect dominates the substitution effect in the short run.
B) income effect dominates the substitution effect in the long run.
C) substitution effect dominates the income effect in the short run.
D) substitution effect dominates the income effect in the long run.
E) substitution effect equals the income effect in the long run.

Question

Quizplus · Accepted Answer

The substitution effect suggests that as real wages increase, the opportunity cost of leisure rises, leading individuals to work more, thus increasing labor supply. This effect must dominate the income effect, which would lead individuals to work less as they feel wealthier, for labor supply to be positively related to real wages in the short run.

The Assumption That Current-Period Labour Supply Is Positively Related to the Current-Period