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MIT-OCW-Transcripts

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Not work, take leisure.
I'm sorry.
We take leisure of N1 hours
to leisure of N3 hours.
The wage going up
has reduced your
leisure which makes sense.
If the wage goes up,
you work harder.
Right?
So your wage going up, we always
first take if there's a
leisure and then convert
to labor.
Wage goes up, leisure falls
from N1 to N3, which means
labor goes up.
But actually two things are
happening here, the
substitution and
income effect.
The substitution effect, which
we see by drawing the
imaginary budget constraint BC*
which is parallel to BC2
but tangent to the original
difference curve, the
substitution effect is a very
large reduction in leisure.
It moves all the way
from N1 to N2.
The substitution effect
is a very large
reduction in leisure.
The income effect is that
leisure is a normal good.
I'm now richer, because
my wage has gone up.
So I want to buy more of it.
So I buy more leisure.
And that moves me
from N2 to N3.
So, basically, now the income
effect offsets the
substitution effect even with
a normal good, or with a
normal good.
With a normal good, the income
effect offsets that
substitution effect.
And that's because the money
you're getting, you're using
to buy leisure.
So, in fact, if you flip to 7-5,
you can see a case where
the income effect dominates.
And you actually get that a
wage increase leads you to
work less hard.
Now, think about that.
If I'd said to you--