Figure: Labor Supply Refer to the figure. The figure above represents the budget constraint and indifference curves for the labor-leisure decision of a consumer when the wage rate falls from $20 to $10. Based on the figure,:

Question

Figure: Labor Supply  Refer to the figure. The figure above represents the budget constraint and indifference curves for the labor-leisure decision of a consumer when the wage rate falls from $20 to $10. Based on the figure,:

Quizplus · Accepted Answer

The figure shows that at the original wage rate of $20, the consumer is located at point A and works 8 hours. When the wage rate falls to $10, the budget constraint pivots outward to line BC, and the consumer can now achieve a higher level of utility at point D, where she now works 6 hours. The substitution effect dominates here because the consumer substitutes leisure for work due to the lower wage rate. However, the income effect is such that the consumer is now less constrained by her budget and has the option to reduce work hours further to consume more leisure while still maintaining the same level of utility. Therefore, the income effect reinforces the substitution effect, causing the consumer to work even fewer hours, and the consumer moves to point E instead of C, and works only 4 hours.

Figure: Labor Supply Refer to the Figure