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1. Suppose we live in a world with no income taxes, your total endowment of time...

1. Suppose we live in a world with no income taxes, your total endowment of time is T = 50 hours and your hourly wage rate is w = $10.

a. Sketch a graph of your budget line that represents you labor-leisure trade off. The Y axis should represent your income from labor and the X axis should represent you leisure time. Label the combination of income and leisure that maximizes your utility as well.

b. Now assume a proportional income tax of t = 10% is introduced. Sketch your new budget line and your new equilibrium combination of income and leisure.

c. In your answer to part b, are you assuming that the income or substitution effect associated with the tax increase dominates? Explain.

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