2. In December, 2017, the Philippines enacted a sweeping change to its tax system. Among other things, proportional tax rates on the earnings of individuals were reformed, changing the nature of the progressive tax system on earnings (which are denoted in Philippine Pesos, also known as PHP or P). Since then, for individuals earning up to P800,000 in a given year, the tax rates have looked like this: For earnings between P0 and P250,000, the proportional tax rate is 0%. For earnings between P250,000 and P400,000, the proportional tax rate is 20%. For earnings between P400,000 and P800,000 the proportional tax rate is 25%.

a. Explain why a person who earns P300,000 in the labor market (before taxes) in a year has P290,000 to spend on consumption (after taxes). [Hint: Note that the individual owes no taxes on the first P250,000 in labor income.]

b. Draw a budget constraint under this tax system for an individual. Assume that if an individual never leisures during a year, they earn P800,000 in pre-tax earnings from their employer. You can denote the individuals (pre-tax) wage as w. How much money is available for consumption at each of the four kink points on your graph? [Note: In drawing your budget constraint, it might help to first draw a linear budget constraint that assumes that there are no taxes on earningsin that case, note that max C is P800,000, and then draw to your budget constraint under the tax system described above.]

c. A policymaker has suggested instituting a negative income tax (NIT) into the system to help support lower income individuals. It would work as follows: Individuals who earn less than P250,000 will be taxed with a proportional tax that is equal to -0.10, a negative income tax, on the difference between their labor market earnings and P250,000. As an example, a person earning P100,000 in the labor market would get to keep that money and would also get a NIT check from the government for P15,000 (calculated in this way: [0.10*(250,000-100,000)]). A person earning nothing in the labor market would get a check from the government of P25,000, that is, [0.10*(250,000)]. Using as your base the graph you draw in part b, draw a new budget constraint under the new tax system with the negative income tax. Dont worry about drawing it exactly to scale.

d. Consider an individual for whom leisure is a normal good who worked enough to earn P200,00 in the labor market prior to the institution of the negative income tax. Will the negative income tax induce this person to work more or work less (or is it ambiguous)? Make sure to consider both substitution and income effects.