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Consider a one-period closed economy, i.e. agents (consumers, firms and government) live for one period, consumers supply labor and demand consumption good, whereas firms supply
Consider a one-period closed economy, i.e. agents (consumers, firms and government) live for one period, consumers supply labor and demand consumption good, whereas firms supply consumption good and demand labor, and government finances an exoge- nous spending via lump-sum taxes. Suppose that representative consumer's preferences change, in that his or her marginal rate of substitution of leisure for consumption in- creases for any quantities of consumption and leisure. (a) Explain what this change in preferences means in more intuitive language. (b) Analyze the effects of this change in preferences on the consumption/leisure choice of the individuals given a constant wage and tax. Support your answer with appropriate graphs. (c) What will be the effect of a change in preferences in this way on equilibrium quantities and prices (specifically consumption, hours worked, output and real wage). Explain your answer with supporting graphs. (d) Based on your answer to part (b) and (c), do you think that changes in preferences might explain business cycles? Explain why or why not, with reference to the key business cycle facts
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