Name ECO361: LABOR ECONOMICS SECOND MIDTERM EXAMINATION. November 5, Prof. Bill Even DIRECTIONS

Transcription

1 Name ECO361: LABOR ECONOMICS SECOND MIDTERM EXAMINATION November 5, 2015 Prof. Bill Even DIRECTIONS The exam contains a mix of short answer and essay questions. Your answers to the 20 short answer portion of the exam (3 points each) should be listed on the answer sheet attached to the end of the exam. No credit will be given for answers placed elsewhere. Your answers to the essays (40 points total) should be provided in your bluebook. You have until 3:50 to complete the exam. If you wish to purchase additional time, the price is 5 percentage points per minute.

2 Consider the two indifference curves drawn below representing the preferences of Pat and Chris and the budget constraint that they both share. total income 975 Chris Pat hours of leisure per week Given the information provided, Pat and Chris both have non-labor income of $ and an hourly wage rate of $. 2. Given the information provided, Pat has a reservation wage that is (greater, less) than Chris s reservation wage. a. greater b. less 3. Given the information provided, Pat (will, will not) work and Chris (will, will not work). a. will; will b. will; will not c. will not; will not. d. will not; will 4. According to labor supply theory, if a worker's wage rate falls, she will a. a.definitely work more hours b. definitely work less hours c. work less hours only if the income effect dominates the substitution effect. d. work less hours only if the substitution effect dominates the income effect.

3 5. The Social Security system used to apply an earnings test to people beyond age 65 who collected Social Security benefits and earned more than $17,000. Anyone who earned more than $17,000 and was collecting Social Security had benefits reduced by $1 for every $3 earned over the $17,000 limit. In 2000, the earnings test was eliminated for workers over age 65. Suppose that prior to 2000 when the earnings test was still in place, John was earning exactly $20,000 from his job and collecting Social Security. Elimination of the earnings test would lead to a. an ambiguous effect on John s work hours since the wealth effect would cause him to work more but the substitution effect would cause him to work less. b. an ambiguous effect on John s work hours since the wealth effect would cause him to work less but the substitution effect would cause him to work more c. a decrease in John s work hours since the wealth effect would cause him to work less and there is no substitution effect. d. an increase in John s work hours since the substitution effect would cause him to work more and there is no wealth effect. To answer the next 3 questions, suppose that a defined benefit plan provides an annuity at retirement equal to 2 percent * years of service * final salary. Jerry started with the firm at age 25 and would have 30 years of service if he retires at 55, he would receive an annual benefit equal to 60% of his final salary. Assume that Jerry will live until age 80 and would therefore expect to collect 25 years of benefits if he retired at age 55; that there is a zero interest rate; and that his final salary will be $100,000 regardless of when he retires. 6. For the pension to be actuarially fair, it would have to increase the annual benefit by $ for postponing retirement from age 55 to age 56. (Round your answer to the nearest dollar.) 7. The size of the actuarially fair increase falls as interest rates (rise, fall) or life expectancy (rises, falls). a. rise; rises. b. rise; falls. c. fall; rises. d. fall; falls. 8. Suppose that the generosity rate in the above pension was reduced from 2.0 to 1.8 percent per year of service.. If Jerry had originally planned to retire at age 55, this change in the benefit formula would lead to a. later retirement since both the wealth and substitution effect would encourage a later retirement. b. later retirement only if the substitution effect dominated the wealth effect. c. later retirement only if the wealth effect dominated the substitution effect. d. earlier retirement since both the wealth and substitution effect encourage earlier retirement.

4 To answer the next 4 questions, refer to the diagram drawn below. The indifference curves for worker types C and D are given by C0, C1 and D0, D1. The iso-profit curves for firm types G and H are given by G1 and H1. Wage C0 R D1 H1 C1 O G1 D0 P Risk of Job Injury 9. Based on the diagram above, one can conclude that, a. for any given level of risk, it is more costly for type G firms to reduce risk than type H firms. b. for any given level of risk, it is more costly for type H firms to reduce risk than type G firms. c. for type H firms, profits are higher at point R than at point O. d. a and c. e. b and c. 10. Based on the diagram above, one can conclude that: a. type C workers are less averse to risk than type D workers b. type C workers are more averse to risk than type D workers. c. type C workers would prefer point P over point R, but type D workers would prefer point R over point O. d. both a and c. e. both b and c. 11. Based on the above diagram, suppose that there are both type G and type H firms in the market and type C and D workers. Also, assume that the market is competitive and that G1 and H1 represent isoprofit curves with zero profits. We can conclude that the equilibrium will result in type C workers employed by type (G, H) firms. Compared to type D workers, type C workers will earn (higher, lower) wages and be exposed to (higher, lower) risk. a. G; higher; lower. b. G; lower; higher c. H; higher; lower d. H; lower; higher e. none of the above.

5 12. If a new technology is discovered that makes it less costly to reduce risk at type H firms, we would expect that the isoprofit curve would become (flatter, steeper) and type H firms would move to a compensation package that included a. flatter; higher wages and less risk. b. flatter; lower wages and less risk. c. steeper; lower wages and less risk. d. steeper; higher wages and less risk. 13. Suppose that workers of equal skill are in two jobs that differ only in terms of the risk of death. On job A, workers are paid $50,000 per year. On job B, workers are paid $55,000 per year. The annual risk of death on job A is.0004 and the risk on job B is Based on this information, what is the corresponding statistical value of a life? 14. Statistical value of life (SVL) estimates like the one in the previous question tend to be a. an overstatement of the true SVL for the type of workers who are employed in type A jobs b. an understatement of the true SVL for the type of workers who are employed in type A jobs c. an overstatement of the true SVL for the type of workers who are employed in type B jobs d. a and c e. b and c

6 To answer the next 3 questions, consider the diagram below which provides a firm s zero- isoprofit curve (xx) and a worker s indifference curve (yy) between the hourly wage rate and the time of day that workers begin work each day. wage yy xx starting time (a.m.) 15. Based on the diagram provided, holding wages constant, which of the following starting times would yield the firm the greatest profits? a. 7 a.m. b. 8 a.m. c. 9 a.m. d. 10 a.m. 16. Based on the diagram provided, holding wages constant, which of the following starting times would workers most prefer? a. 7 a.m. b. 8 a.m. c. 9 a.m. d. 10 a.m. 17. Suppose all workers and all firms are identical to those represented by the above indifference curve and isoprofit line. In equilibrium, we should expect to see that workers start their day a. at 8 a.m.. b. after 8 a.m. but before 9 a.m. c. at 9 a.m.. d. after 10 a.m. 18. According to labor supply theory discussed in class, if there is an increase in the time required to commute to work, we would expect labor force participation rates to (rise, fall) and hours worked (not counting commuting time as work) to (rise, fall) a. rise; rise b. rise; fall c. fall; rise d. fall; fall

7 19. As discussed in class, the Affordable Care Act provides workers with incomes less than 400% of the poverty line subsidized health care. The size of the subsidy is reduced as income rises from 0 to 400% of poverty. Assuming that people would have to purchase insurance regardless of the ACA, for workers who are eligible for a subsidy, the ACA will a. decrease work hours since both the substitution and income effect encourage less work. b. increase work hours only if the substitution effect is greater than the income effect c. increase work hours since both the substitution and income effect encourage more work. d. decrease work hours only if the income effect is greater than the substitution effect. 20. Over the past 20 years, many employers shifted from defined benefit (DB) to defined contribution (DC) pension plans. This shift from DB to DC plans will: a. make retirements less likely after a significant decline in the stock market b. make retirements more likely after a significant decline in the stock market c. create a substitution effect that encourages later retirement, but the wealth effect is uncertain. d. a and c e. b and c

8 1. (20 points) Consider a hypothetical unemployment insurance (UI) system that provides a weekly benefit equal to one half of average weekly earnings (AWE) during a specified base period prior to filing for unemployment, but no more than $500 per week. If a person works while collecting UI, they can earn up to 20% of AWE (i.e. the earnings exemption is 20% of AWE) without any reduction in benefits (i.e. the earnings exemption is 20% of AWE). The weekly UI benefit is reduced by $1 for each $1 earned above the earnings exemption. a. In your bluebook, draw the budget line for a hypothetical worker names Chris making the following assumptions: Chris had AWE of $800 prior to the unemployment spell Chris can currently accept a job paying a wage of $20 per hour Chris has $100 of weekly non-labor income (not counting her UI benefit). Be sure to provide the numerical values corresponding to any points (both total income and hours) where there is a change in the slope of the line. Also, label the points where the line intersects the vertical axes for both 0 and 80 hours per week. Label your axes as in the diagram below. Total income 80 Hours of labor per week 0 b. Suppose that the system was changed so that the earnings exemption is eliminated. Illustrate how this would affect the budget line by drawing a new dashed segment on top of the budget line you drew for part a. Label the points where there is any change in the slope of the new budget line. c. Suppose that a person was earning exactly 20% of AWE under the original program. Would the switch to the new program (given in b) cause this person to work more or less hours? Justify your answer with reference to the direction of income and/or substitution effects.

9 Answer any 2 of the next 3 questions (10 points each) 2a. What is the difference between a defined contribution (DC) and defined benefit (DB) plan? b. Describe how the shift from DC to DB plans would alter the effect of a stock market crash on retirement behavior. Discuss how the wealth and/or substitution effects of a stock market decline would differ under the DB and DC. 3. The Department of Labor recently prosecuted some construction companies in Utah and Arizona because they required the construction workers to become "member/owners" of limited liability companies. These construction workers were building houses in Utah and Arizona as employees one day and then the next day were performing the same work on the same job sites for the same companies as independent contractors. a. Describe how IRS laws on the provision of fringe benefits could have created an incentive for firms to switch the workers from employees to independent contractors. Be sure to define the basics behind the law in your answer. b. What would you expect would happen to the wages and fringe benefits of the workers who are switched to independent contractors? Justify your answer by discussing how the optimal mix of fringe benefits and salary 4. Over the years, the Social Security Administration has increased the delayed retirement credit (DRC). For someone born prior to 1917, the normal benefit is increased by 1% for every year that retirement is postponed beyond the normal retirement age (65 for this question). For someone born after 1943, the DRC is 8% for every year retirement is postponed beyond age 65. a. Draw a hypothetical budget line reflecting the PV of lifetime income on the vertical axis and retirement age on the horizontal axis. Let retirement age range from 62 to 70. Show how the budget line changes when the delayed retirement credit is increased from 1% per year to 8% per year. b. Consider a person who would have retired at age 65 when the DRC was 1%. Will this person retire earlier or later with a DRC of 8%? Explain with a discussion of the relevant wealth and substitution effects. c. Consider a person who would have retired at age 70 when the DRC was 1%. Will this person retire earlier or later with a DRC of 8%? Explain with a discussion of the relevant wealth and substitution effects.

10 Name ANSWER SHEET 1 $75; $9 2. A 3 D 4 D 5 B 6 $ C 8 C 9 B 10 E 11 E 12 B 13 $12.5 MILLION 14 E 15 C 16 B 17 B 18 D 19 A 20 D