Question 1 [40 marks] An employer (A) and an employee (B) are engaging in bargaining over hours (x) and money (y). The employers endowment is (x A, y A) = (0, 800), while the employees is (x B, y B) = (16, 0). Thus, the employer initially only has money to hire workers, while the employee only has time (16 hours) that can be allocated between daily uses (i.e., work and leisure). Any hours x B consumed by the employee are leisure time, while any hours x A hired by the employer are therefore work. The employer and the employee each have the same preferences over hours and money, represented by quasi-linear utility functions: u i (x i , yi ) = y i + 100 x i , i = {A, B}

a) [10 marks] Find an equation for the Pareto set, explaining your reasoning as you do so. [5 marks] Then, represent it in an Edgeworth box diagram, along with the endowment point and the indifference curves going through it. [5 marks Marks will be deducted for inaccurate graphical representations.]

b) [10 marks] Suppose that the employer has TIOLI power. Find the resulting allocation and implicit wage rate, w, carefully explaining your reasoning as you do so. Is it efficient, and if so why or why not? [5 marks] Then, represent the allocation, the endowment point, and all relevant curves in an Edgeworth box diagram. [5 marks Marks will be deducted for inaccurate graphical representations.]

c) [10 marks] Suppose now that the employee is represented by a union, which moves first by setting a wage rate, w. The employer responds by choosing the number of hours worked. Find the resulting allocation and wage rate, carefully explaining your reasoning as you do so. 1

d) [10 marks] Is your answer in c) efficient, and if so why or why not? Compare and contrast your answer in c) with that in b), commenting in particular on the distribution of rents. [5 marks] Then, represent the allocation, the endowment point, and all relevant curves in an Edgeworth box diagram. [5 marks Marks will be deducted for inaccurate graphical representations.]