Labor Economics

Question

Draw a budget constraint for someone who has a potential job that pays $12 per hour, but in order to work, they have to commute 2 hours each day.

Q. Assume that the individual has $500 in “non-labor income” each month because their spouse (with whom they share all resources) is working on a one-year contract. Draw a fully-labeled budget constraint for this situation.

Answer 1

To draw a budget constraint for this individual, we need to consider both the income from their potential job and the time constraints they face.

Let's identify the key assumptions:

1. Wage rate: $12/hour.
2. Commuting time: 2 hours per day (deducted from potential working hours).
3. Non-labor income: $500 per month (fixed).
4. Total hours per day: 24 hours (but only a fraction is available for work after considering commuting and leisure).
5. Leisure time: The individual can choose between working and spending time on leisure activities.

Step 1. Available Hours per Day:

- Total hours per day: 24 hours.

- Commute time: 2 hours per day.

- This leaves 22 hours available for a combination of work and leisure.

Step 2. Income from Working:

- The individual earns $12/hour.

- The maximum number of hours they can work in a day is 22 hours (if they spend no time on leisure and commute 2 hours).

- Monthly income from working: 12 x Hours worked per day x 30 (assuming 30 days per month).

Step 3. Non-labor Income:

- The individual has a fixed non-labor income of $500 per month, which adds to their total income regardless of how much they work.

Drawing the Budget Constraint

1. X-Axis (Leisure Hours):

- Represents the number of hours per day the individual spends on leisure (out of the 22 hours remaining after commuting).

- The maximum leisure is 22 hours (if the individual chooses not to work at all).

2. Y-Axis (Monthly Income):

- Represents the total monthly income, which includes the $500 non-labor income and the income from working.

- Maximum monthly income is achieved by working all 22 hours per day (without any leisure time).

Budget Line:

Y-intercept: When the individual spends 0 hours on leisure (works 22 hours per day), their monthly income is:

12 x 22 x 30 + 500 = 7,920 + 500 = $8,420/month

X-intercept: When the individual spends all 22 hours per day on leisure (works 0 hours), their income is just the non-labor income of $500/month.

Slope: Represents the trade-off between income and leisure. Each hour of leisure gives up $12 in earnings, so the slope is the hourly wage rate, which is 12.