Labor Economics 2015 Tutorial 1

Tutorial 1 - Labor Supply

Mary gains utility from watching TV (L) and buying shoes (C). The most time she can spend watching
TV in a given week is T = 112 hours. Mary works in a department store and earns w = 10 Euro per hour.
Since Mary also owns a flat, she receives a weekly rental income of V = 150 Euro. Suppose that prices
for shoes are normalized to 1. Marys preferences for shoes and TV can be expressed as:

(, ) =
1. Graph Marys budget line.
2. Write down Marys maximization problem. Derive the optimality conditions for
consumption and leisure. Given that she behaves optimally, how many hours will Mary allocate
to watching TV?
3. Derive Marys reservation wage.
4. More and more wealthy tenants move to the area in which Marys flat is located, so she
decides to increase the rent to 300 Euro. How will her labor supply change?
5. Due to her extraordinary effort, Mary gets a pay raise. Will she increase or decrease her
supply of labor? Illustrate your reasoning by means of a diagram.
6. Unions enforce that employers have to pay an overtime premium of 50%. The negotiated
standard workweek contains 39 hours. How does Marys budget line change given the
overtime premium?
Until now Mary has always driven her car to work, which costs her 60 Euro per week for gas and
parking. As of late, there is a bus that drives to the department store, which costs 8 Euro per week.
Mary would spend half an hour more on a one way trip on the bus than in the car. Assume Mary works
five days a week.
7. Will Mary switch to taking the bus in the future? Will she change her preferred mode of
transportation if her wage rate rises to 15 Euro per hour?

Article by Eissa und Liebman (1996, QJE)

1. Describe the 1987 expansion of the EITC program using a graph. What does theory predict
about the impact of this EITC expansion on the labor supply of single women with children?
2. Define the sample with which Eissa and Liebman (1996) conduct their analysis. Explain the
meaning of "control" and "treatment" group and identify them in the paper at hand. What is
meant by "treatment" in this context?
3. Have a look at the summary statistics in Table I. Discuss the differences in the sample
between single women with and without children.
4. Interpret the coefficient 0.024 (table II, column 4) and explain how the authors obtained the
number. Explain the difference-in-differences strategy using this as an example.

Labor Economics 2015 Tutorial 1

5. What are the empirical findings reported in the paper...:
(a) ... concerning effect of the program on the labor supply of single mothers not in the
labor force?
(b) ... concerning the people who are already in the labor force?
(c) ... with respect to the impact of the program on the labor supply of married
women?