Assume that an individual has 80 hours per week that can be distributed between

Question

Assume that an individual has 80 hours per week that can be distributed between two normal products work and leave ( leisure ) . Draw a bid curve for an individual who can earn a maximum of £ 10,000 per week if the individual does not have any leave ( leisure ) and earns zero kronor if the individual has 80 hours off per week . Draw a indifferenskura tangent to the budget line and show how individuals divide their time between work and time off . Suppose now that the salary has increased dramatically, and the individual can earn up to £ 15,000 per week for 80 Timmers work. Analyzing the situation, how the individual will allocate their time. If we now assume that the leave is a luxury for the individual how the individual would divide his time after the salary increase .

Explanation / Answer

In this problem, a person is consuming two normal products. He has certain free hours in the week. He wants to distribute this time in work and leisure. If there is no work, then he can enjoy maximum 80 leisure hours. If he work full time then his maximum earning is 10,000 pound. So you can draw a curve which will indicate all possible combinations of earnings and leisure. It is known as budget line. In the diagram below, horizontal axis measures leisure hour and income to be used in consumption of two commodities on the vertical axis. Leisure has been indicated by the symobol L and income used in consumption by variable C.

In this diagram, orange line is the concerned budget line. For maximizing utility, he will select a point on the budget line which will enable him to move to the highest indifference curve. An indifferece curve represents all possible combinations of C and L that will ensure a specific level of satisfaction. For different satisfaction level different IC can be drawn. Plot them on the budget line. One particular IC will be tangent. That IC will indicate maximum utility level. Individual will select combination of tagency point to get it. It has been shown above where lower IC hasecome tangent with orange budget line.

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Now salary has increased to 15,000 pound. It will increase C. But L will remain the same at maximum 80 hours. So budget line will shift upward on the vertical axis. It is shown by the blue line above. Due to this shift, his equilibrium point will change. He will move to upper indifference curve which is now tangent with new budget line. Note that due to this shift, quantity of both C and L has increased. Thus consumer is better off.

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For luxury item, increase in income raises its consumption more than change in income. In mathemetical term, Income elasticity will be more than 1. So leisure time will increase more than increase in money income.

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