As the wage rate increases, the substitution effect causes workers to supply more time to market work and the income effect causes them to supply less time to market work.

Question

Quizplus · Accepted Answer

The substitution effect occurs because as the wage rate increases, the opportunity cost of not working goes up, making it more attractive for workers to supply more time to market work. On the other hand, the income effect occurs because as wages increase, workers may also choose to work fewer hours and enjoy more leisure time, since their income has increased. Therefore, both effects are at play as wage rates change, with the substitution effect causing an increase in labor supply and the income effect causing a decrease in labor supply.

As the Wage Rate Increases, the Substitution Effect Causes Workers