ABSTRACT
This chapter begins with some basic facts concerning the labor force participation rates and the hours of work. It introduces indifference curves, budget constraints—visual aids that make the theory of labor supply easier to understand and applies to complex policy issues. Because the authors assume workers have no source of non-labor income, both constraints are anchored at point A, where income is zero if a person does not work. The labor supply response to a simple wage increase will involve both an income effect and a substitution effect. The income effect is the result of the worker's enhanced wealth after the increase. The theory of labor supply rests in part on the assumption that when workers' offered wages climb above their reservation wages, they will decide to participate in the labor market.
