Income Effect

Substitution Effect

Activity: Disentangling Income and Substitution Effects of a Wage Rise

Dominance of Income or Substitution Effect Determines the Net Effect of a Wage Rise

Further Reading on the Mathematics of Consumer Choice

Key Sources for Historical Analysis of Work-Leisure Choices

Applying the Wage Effect Model to Explain Historical Labor Trends

Explaining Historical Labor Trends

An individual experiences a significant increase in their hourly wage. If the effect of the higher opportunity cost of free time on their choices is stronger than the effect of their increased overall purchasing power, what will be the most likely change in their behavior?

Analyzing Worker Responses to a Wage Increase

Policy Impact on Work-Leisure Choice

Following a wage increase, an individual's decision about how many hours to work is influenced by two opposing effects. Match each effect to its underlying cause and the behavioral incentive it creates.

Following an increase in an individual's hourly wage, the resulting 'income effect' and 'substitution effect' both create an incentive for the individual to work fewer hours.

A freelance software developer who was previously earning $50 per hour finds a new client who pays them $100 per hour for all the hours they are willing to work. After this change, the developer decides to reduce their working hours from 40 hours per week to 30 hours per week to spend more time on personal projects. Which of the following statements best explains the developer's decision?

Explaining Varied Worker Responses to a Wage Increase

Evaluating Employee Incentive Strategies

Analyzing Employee Overtime Decisions

Dominance of the Income Effect on Labor Choice

Dominance of the Substitution Effect on Labor Choice

Figure 3.16: Modeling US Work-Leisure Choices (1900 & 2020)