Question

When aggregated, labor supply indicates a ______________ relationship between wage and labor.

Select one:

a. Negative

b. Negative at low wages, positive at high wages

c. Positive

d. Positive at low wages, negative at high wages

Answer 1

Correct option - (d) positive at low wages, and negative at higher wages.

This effect is called backward bending effect.

The aggregate supply curve for labour, however, may not be positively sloped throughout its range. The reason is the wealth effect of increased wages. At low wage levels, higher wages induce people to work more because they make leisure more costly in terms of the income that must be given up at the margin to obtain it. Workers substitute income for leisure. At higher wage and income levels, however, the increase in income that can be obtained by working more in response to a higher wage typically becomes less valuable than the leisure that is foregone. A wage level will be reached beyond which workers will do less work for higher wages because they can maintain the same satisfaction as before, or even increase it, with less work effort.