You are the governor’s economic policy adviser. The governor wants to put in place policies that encourage employed people to work more hours at their jobs and that encourage unemployed people to find and take jobs. Assess each of the following policies in terms of reaching that goal. Explain your reasoning in terms of income and substitution effects, and indicate when the impact of the policy may be ambiguous.

a. The state income tax rate is lowered, which has the effect of increasing workers’ after-tax wage rate.

b. The state income tax rate is increased, which has the effect of decreasing workers’ after-tax wage rate.

c. The state property tax rate is increased, which reduces workers’ after-tax income.

1, Leandro has 16 hours per day that he can allocate to work or leisure. His job pays a wage rate of $20. Leandro decides to consume 8 hours of leisure. His indifference curves have the usual shape: they slope downward, they do not cross, and they have the characteristic convex shape.

a. Draw Leandro’s time allocation budget line for a typical day. Then illustrate the indifference curve at his optimal choice.
Now Leandro’s wage rate falls to $10.

b. Draw Leandro’s new budget line.

c. Suppose that Leandro now works only 4 hours as a result of his reduced wage rate. Illustrate the indifference curve at his new optimal choice.

d. Leandro’s decision to work less as the wage rate falls is the result of a substitution effect and an income effect. In your diagram, show the income effect and the substitution effect from this reduced wage rate. Which effect is stronger?