Consider the trade-off between consumption and leisure. Suppose that the government imposes a tax τ on wages, which deducts from the consumer an amount τ ×w so 3 that the wage that the consumer receives falls from w to w −w ×τ = w(1 −τ). What happens to her labor supply? Note: There are different possibilities with respect to the magnitudes of income and substitution effects. Discuss each and also show what this would imply about the labor supply curve! Assume the Hicks decomposition.
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