What would happen to her hours worked and total income?

Answer the following Questions:

1. In California, a welfare recipient can earn $225 per month without having benefits reduced. Beyond $225, benefits are reduced by 50 cents for every dollar of earnings. Consider a single mother in this state who is capable of earning $10 per hour. If she does not work at all, she is eligible for monthly welfare benefits of $645

a. Sketch her budget constraint with and without the program in effect.

b. Suppose our single mother enrolls in this plan. What would happen to her hours worked and total income?

c. If she works 10 hours, how much are her earnings, how much is her welfare benefit, and how much is her income?

d. How many hours does she have to work until she receives no benefit at all?

e. Suppose California now decides to lower the implicit marginal tax rate on earnings to 40 percent. How will the introduction of the lower rate affect this person�s hours of work and total income? Explain.

2. You are the head of the revenue department in a state that needs to raise revenue. Since you work in a politically correct state, you are limited to levying per unit taxes of any amount on cigarettes, alcohol, and Hummers. You decide to levy a $1 tax per gallon of alcohol sold. The demand for alcohol is

Q = 500,000 � 20,000P.

The supply of alcohol is

Q = 30,000P,

where Q is in gallons and P is in dollars.

a. What is the price of alcohol before the tax?

b. What is the price of alcohol after the tax?

c. Calculate the tax revenue.

d. Calculate the excess burden (deadweight loss) of the tax.

3. Suppose that the government proposes eliminating any tax on earnings from work which are less than $20,000 for Americans at least 62 years old. Seniors earning more than this threshold would still be subject to the normal income tax rates on higher earnings

a. Sketch a budget constraint in the leisure-income diagram consistent with this proposal.

b. If the proposal were adopted, what would happen to the labor supply for seniors? Explain.

4. In an economy, the supply curve of labor S is given by

S = -100 + 200wt

where wt is the after-tax wage rate. Assume that the before-tax wage rate is fixed at 10. Thus wt = (1 � t)*10.

a. Write a formula for tax revenues as a function of the tax rate, and sketch the function in a diagram with the tax rate on the horizontal axis and tax revenues on the vertical axis (i.e., a Laffer curve).Suppose that the government currently imposes a tax rate of 70 percent. What advice would you give it?

b. At what tax rate are tax revenues maximized in this economy?

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