Check Your Understanding

1. Question

   Formerly, Clive was free to work as many or as few hours per week as he wanted. But a new law limits the maximum number of hours he can work per week to 35. Explain under what circumstances, if any, he is made

   1. worse off.

      Clive is made worse off if, before the new law, he had preferred to work more than 35 hours per week. As a result of the law, he can no longer choose his preferred time allocation; he now consumes fewer goods and more leisure than he would like.

   2. equally well off.

      Clive’s utility is unaffected by the law if, before the law, he had preferred to work 35 or fewer hours per week. The law has not changed his preferred time allocation.

   3. better off.

      Clive can never be made better off by a law that restricts the number of hours he can work. He can only be made worse off (case a) or equally as well off (case b).

2. Question

   Explain in terms of the income and substitution effects how a fall in Clive’s wage rate can induce him to work more hours than before.

   The substitution effect would induce Clive to work fewer hours and consume more leisure after his wage rate falls—the fall in the wage rate means the price of an hour of leisure falls, leading Clive to consume more leisure. But a fall in his wage rate also generates a fall in Clive’s income. The income effect of this is to induce Clive to consume less leisure and therefore work more hours, since he is now poorer and leisure is a normal good. If the income effect dominates the substitution effect, in the end Clive will work more hours than before.