Lecture4 en 2012

III: Labor Supply in Two Periods
Dynamic Macroeconomic Analysis
Universidad Auto
onoma de Madrid
Fall 2012
Dynamic Macroeconomic Analysis (UAM) III: Labor Supply in Two Periods Fall 2012 1 / 37
1 Outline
2 The representative agent in two periods

Budget constraint
Preferencias
The Individual Problem
3 The Complete Solution

Optimal Consumption Decisions (for given x)
Optimal Labor Supply
Elasticity of Intertemporal Substititution of Labor
Complete solution
Consumption levels
Optimal labor supply
4 Concluding remarks
Hechos Estilizados (EE.UU.)
Summary
In the first theme we analyzed labor-leisure decisions in a static

framework
Next, we analyzed consumption and savings decisions in a two-period
setting with inelastic labor supply
The logical next step is to endogenize the labor-leisure decisions in
this two-period setting with endogenous saving.
For the moment we will take the salaries, denoted by wt , as given.
Agents will sacrifice leisure in periods with relatively high wages and
they use the credit market to smooth consumption.
The endogenous determination of salaries is explained in Theme 4.
Budget constraints
Denoting the salaries in period 1 and 2 by w1 and w2 , respectively, we can

write the one-period budget constraints as:
c1 + b1 = w1 l1 ,
c2 = w2 l2 + (1 + R )b1 .
The only difference w.r.t. the previous lecture is that income is now
endogenous as yt = wt lt . The corresponding life-time budget constraint is
given by:
c2 w2 l2
c1 + = w1 l1 +
1+R 1+R
Preferences
To complete the description we need to specify the agents

preferences over consumption and leisure in the two periods.
Like before we assume time-separable preferences. In addition we
assume that preferences are additive in consumption and leisure.
Formally,
U (c1 , l1 , c2 , l1 ) = u (c1 ) + v (1 l1 ) + [u (c2 ) + v (1 l2 )],
where ct denotes consumption and 1 lt leisure.

Note that future consumption and leisure are discounted at the
common rate .
Finally, utility is strictly concave in consumption and leisure.
The optimization problem
The problem of a representative agent is given by
max u (c1 ) + v (1 l1 ) + [u (c2 ) + v (1 l2 )]

c1 ,c2 ,l1 ,l2
1 1
s.t. c1 + c2 = w1 l1 + w2 l2
1+R 1+R
The Lagrangian associated to the above maximization problem is:
L = max {u (c1 ) + v (1 l1 ) + [u (c2 ) + v (1 l2 )]

c1 ,c2 ,l1 ,l2
1 1
+ [w1 l1 + w2 l2 c1 c2 ]}, (1)
1+R 1+R
where is the multiplier.
FOCs
There are four FOCs:
c1 : u 0 (c1 ) = 0,
1
c2 : u 0 (c2 ) = 0,
1+R
l1 : v 0 (1 l1 ) + w1 = 0,
w2
l2 : v 0 (1 l2 ) + = 0.
1+R
Intertemporal consumption decisions
Combining the first ( = u 0 (c1 )) and second FOC yields the standard
Consumption Euler eqn.:
u 0 (c1 ) = u 0 (c2 ) (1 + R ),
| {z } | {z }
MC MB
Once again, therefore, the agent will choose a constant consumption

stream when (1 + R ) = 1.
Labor supply
With the use of the first FOC we can rewrite the FOC associated with
l1 in the following manner:
L
= v 0 (1 l1 ) + w1 = 0
l1
v 0 (1 l1 ) = u 0 (c1 ) w1
| {z } | {z }
MC MC
The above condition equalizes the marginal cost in utility terms from
the loss of leisure to the marginal gain from additional consumption.
Similarly, since = u 0 (c1 ) and u 0 (c1 ) = (1 + R )u 0 (c2 ):
L w2
= v 0 (1 l2 ) + =0
l2 1+R
( )v 0 (1 l2 ) = ( )u 0 (c2 )w2
| {z } | {z }
MC MB
Intertemporal Labor Supply
To obtain the equilibrium levels of labor supply we solve the FOCs for l1
and l2 in terms of :
L
= v 0 (1 l1 ) + w1 = 0 =
l1
v 0 (1 l1 )
=
w1
L w2
= v 0 (1 l2 ) + = 0 =
l2 1+R
v 0 (1 l2 ) (1 + R )
= .
w2
Intertemporal labor supply
Equalizing the right-hand sides of both conditions yields
v 0 (1 l1 ) v 0 (1 l2 ) (1 + R )
= ..
w1 w2
This condition can be rewritten as
v 0 (1 l1 ) w1
= (1 + R ) .
v 0 (1 l2 ) w2
The above condition implicitly defines the ratio of labor supply (l1 /l2 )
as an increasing function of the wage ratio (w1 /w2 ).
Logarithmic utility
max {ln c1 + ln(1 l1 ) + (ln c2 + ln(1 l2 ))

c1 ,c2 ,l1 ,l2
1 1
+ [wl1 + wl2 c1 c2 ]}.
1+R 1+R
The associated FOCs are:
1
c1 : = 0, (2)
c1
1 1
c2 : = 0, (3)
c2 1+R
1
l1 : + w1 = 0, (4)
1 l1
1 w2
l2 : + = 0. (5)
1 l2 1+R
The Optimal Consumption Decisions (given x)
Combining the first two FOCs (corresponding to c1 and c2 ) we obtain

the Consumption Euler eqn. in levels that we have seen before:
c1 = c2 (1 + R ),
Similarly, like before agents save a fixed proportion 1/(1 + ) of their
lifetime resources x = w1 l1 + 1w+2 lR2
x
c1 =
1+

c2 = x (1 + R )
1+
Hence, if we were to take x as given, the consumption decisions

would be the same as before. But x is NOT exogenous.
Relative labor supply is again a function of the wage ratio w1 /w2 , but this
time we obtain a condition in levels.
In a first step we solve the FOCs for l1 and l2 in terms of :
L 1
= + w1 = 0
l1 1 l1
1
=
w1 (1 l1 )
L 1 w2
= + =0
l2 1 l2 1+R
(1 + R )
= .
w2 (1 l2 )
Equalizing the right hand sides of both conditions we obtain the

following expression
1 (1 + R )
= ,
w1 (1 l1 ) w2 (1 l2 )
which can be rewritten as:

1 l1 1 w2
= .
1 l2 (1 + R ) w1
This arbitrage condition is key for the determination of labor supply in
both periods.
First of all, note that

1l1
1l2
> 0.
w2
w1
w2 1l1
Hence, an increase in the relative wage w1 leads to a rise in 1l2 or
equivalently a fall in ll12 .
The agent decides to consume less leisure in the second period to
benefit from the rise in the relative wage. Below we will see that the
agent will use the credit market to consume part of the rise in w2 l2 in
the first period.
Formally, the real wage wt is a measure of the opportunity cost of
leisure in period t. Following an increase in w2 /w1 leisure in the
second (first) period is therefore relatively more expensive (cheaper).
It is also important to note that

11 l1
l2
< 0.
(1 + R )
After an increase in the real interest rate the agents demand relatively
more leisure in the second period of life.
First explanation: the higher interest rate reduces the cost of future
consumption and raises the return to saving. This is an incentive to
work more and save more in the first period of life.
Second explanation: The rise in R is equivalent to a fall in the present
value of future wages, 1w+2R . This reduces the opportunity cost of
leisure in the second period.
Elasticity of Intertemporal Substitution of Labor
This elasticity measures the percentage change in the ratio of leisure

1l1 w2
1l2 per percent change in the wage ratio w1 .
h i
1l1
1l2 h i

1l1
1l1 w2
1l2
1l2 w1
h i
w
= h i ,
w2 w2 1l1
1 w1 1l2
w2
w1
When this elasticity is high, agents are willing to substitute a

relatively large amount of current leisure for future leisure in response
to a rise in the wage ratio w2 /w1 .
Example: log utility
Previously, we have seen that
1 l1 1 w2
= .
1 l2 (1 + R ) w1
Hence, h i
1 l1
1 l2 1
h i = ,
w2 (1 + R )
w1
and so,
h i
1l1 w2 w2
1l2 w1 1 w1
h i = 1 w2 = 1.
w2 1l1 (1 + R ) ( 1 + R ) w1
w1 1l2
In
other words, the elasticity is equal to 1 and so a x percent increase
in w 2
w1 leads to a x % rise in 11 l1
l2 .
Optimal consumption levels
Combining the FOCs for l1 and c1

1
+ w1 = 0.
1 l1
1
= ,
c1
we obtain the following equality
1 1
= w1 .
1 l1 c1
Hence,
c1 = w1 w1 l1 = w1 l1 = w1 c1 .
Optimal Consumption Levels
Similarly, combining the FOC for l2
1 w2
+ = 0.
1 l2 1+R
1
and the condition that = c1 , we obtain:
1 1 w2
= .
1 l2 c1 1 + R
Hence,
c1 (1 + R ) = w2 w2 l2 ,
and so:
w2 l2 w2
w2 l2 = w2 c1 (1 + R ) = = c1 .
1+R 1+R
Optimal consumption levels
Since
w1 l1 = w1 c1
w2 l2 w2
= c1 .
1+R 1+R
we get
w2 l2
x = w1 l1 +
1+R
w2
= w1 c1 + c1 .
1+R
x
Using the fact that c1 = 1+ , we can therefore write:
w2
(1 + )c1 = w1 c1 + c1 ,
1+R
Solutions for c1 and c2
The final solutions:

1 w2
= c1 w1 + .
2(1 + ) (1 + R )

1 w2
c2 = c1 (1 + R ) = (1 + R ) w1 +
2(1 + ) (1 + R )
Solution for l1
To obtain the value for l1 , we substitute the expression for c1 into the
condition w1 l1 = w1 c1 ,
w1 l1 = w1 c1

1 w2
= w1 w1 +
2(1 + ) (1 + R )

1 1 w2
w1 l1 = w1 1
2(1 + ) 2(1 + ) (1 + R )
Hence,
1 + 2 1 1 w2
l1 = .
2 ( 1 + ) 2 ( 1 + ) 1 + R w1
Comparative statics: l1 /w1 > 0 ; l1 /w2 < 0 ; l1 /R > 0
Solution for l2
Similarly, since wl2 = w c1 (1 + R ),
w2 l2 = w2 c1 (1 + R )

(1 + R ) w2
= w2 w1 +
2(1 + ) (1 + R )
(1 + R ) 1 (1 + R )
= w2 [ 1 ] w1 .
2(1 + ) 1 + R 2(1 + )
So,
2+ (1 + R ) w1
l2 = .
2(1 + ) 2(1 + ) w2
Comparative statics: l2 /w1 < 0 ; l2 /w2 > 0 ; l2 /R < 0
A special case
Suppose for the moment that = 1 and R = 0.
The constant consumption level satisfies:

1 w2 1
c1 = w1 + = [w1 + w2 ] = c2 ,
2(1 + ) (1 + R ) 4
while the solutions for l1 and l2 reduce to:
1 + 2 1 1 w2
l1 =
2(1 + ) 2(1 + ) 1 + R w1
3 1 w2
=
4 4 w1
2+ ( 1 + R ) w1
l2 =
2(1 + ) 2 ( 1 + ) w2
3 1 w1
= .
4 4 w2
A special case
Given the optimal choices for lt , total labor income satisfies
x = w1 l1 + w2 l2

3 1 w2 3 1 w1
= w1 + w2
4 4 w1 4 4 w2
3 1 3 1
= w1 w2 + w2 w1
4 4 4 4
1
= (w1 + w2 )
2
and the agent consumes half of x in each period.
Finally, if w2 = w1 , then
1
l1 = l2 = .
2
Hence, the agent works half time in both periods and consumes his or
her entire labor income, so b1 = 0.
Concluding remarks
In this section we have analyzed labor supply and consumption

decisions in a two-period setting with exogenous prices.
For given labor supply choices, the consumption decisions are the
same as before, but labor supply is endogenous and we need to solve
the jointly optimal consumption and labor supply decisions
The optimizing agents will concentrate their labor supply in periods
with a relatively high wage rate and they will use the credit market to
smooth consumption over time.
The elasticity of intertemporal substitution of labor measures the
responsiveness of labor-leisure choices to changes in the relative
wages w2 /w1 .
Suppose, realistically, that wages are high in booms and low in
recessions. This would lead to pro-cyclical fluctuations in labor supply.
Horas Trabajadas (USA 2000)
50 40
W eek ly hours w ork ed
20 3010
20 30 40 50 60
Age
Men Women
Salario Medio por Hora (USA 2000)
25 20
H ourly W age
15 10
5
20 30 40 50 60
Age
Men Women
Horas Trabajadas y Salario Medio por Hora (USA 2000)
Male Female
50
25
40
20
H ourly W age
30
15
20
10
10
5
20 30 40 50 60 20 30 40 50 60
Age
Hourly wage Weeklyhours worked
Graphs by Sex
Horas Trabajadas y Salario Medio por Hora (Mujeres-USA
2000)
Never married Ever married

25
40
35
20
H ourly W age
30
15
25
10
20
15
5
20 30 40 50 60 20 30 40 50 60
Age
Hourly wage Weeklyhours worked
Graphs by evermar
Salario horario por Nivel de Educacion (USA 2000)
35 30
(m e a n ) h o u rw a g e
15 20 10 25
20 30 40 50 60
Age
Less HS HS
Some college College +
Horas Trabajadas por Nivel de Educacion (USA 2000)
45
40
(m e a n ) u h rs w o rk
25 30 20 35
20 30 40 50 60
Age
Less HS HS
Some college College +
Salario y Horas Trabajadas por Nivel de Educacion (USA
2000)
Less HS HS
40
20 25 30 35 40 45
30
20
M e a n h o u ly wa g e
10
Some College College +

40
20 25 30 35 40 45
30
20
10
20 30 40 50 60 20 30 40 50 60
Age
Hourly Wage Weekly Hours of work
Graphs by educ
Horas Trabajadas y Salario Medio (Historico Anual)
Tendencias en Horas Trabajadas
Cambio Porcentual 1970-2002
Participacion Femenina y Trabajo Domestico

Lecture4 en 2012

Transféré par

Informations du document

Copyright

Formats disponibles

Partager ce document

Partager ou intégrer le document

Options de partage

Avez-vous trouvé ce document utile ?

Ce contenu est-il inapproprié ?

Droits d'auteur :

Formats disponibles

Lecture4 en 2012

Transféré par

Droits d'auteur :

Formats disponibles

III: Labor Supply in Two Periods

Dynamic Macroeconomic Analysis

2 The representative agent in two periods

3 The Complete Solution

In the first theme we analyzed labor-leisure decisions in a static

Denoting the salaries in period 1 and 2 by w1 and w2 , respectively, we can

To complete the description we need to specify the agents

U (c1 , l1 , c2 , l1 ) = u (c1 ) + v (1 l1 ) + [u (c2 ) + v (1 l2 )],

where ct denotes consumption and 1 lt leisure.

The problem of a representative agent is given by

max u (c1 ) + v (1 l1 ) + [u (c2 ) + v (1 l2 )]

L = max {u (c1 ) + v (1 l1 ) + [u (c2 ) + v (1 l2 )]

There are four FOCs:

Once again, therefore, the agent will choose a constant consumption

Equalizing the right-hand sides of both conditions yields

max {ln c1 + ln(1 l1 ) + (ln c2 + ln(1 l2 ))

Combining the first two FOCs (corresponding to c1 and c2 ) we obtain

Hence, if we were to take x as given, the consumption decisions

Equalizing the right hand sides of both conditions we obtain the

which can be rewritten as:

First of all, note that  

It is also important to note that

This elasticity measures the percentage change in the ratio of leisure

When this elasticity is high, agents are willing to substitute a

Combining the FOCs for l1 and c1

The final solutions:

Comparative statics: l1 /w1 > 0 ; l1 /w2 < 0 ; l1 /R > 0

Similarly, since wl2 = w c1 (1 + R ),

Comparative statics: l2 /w1 < 0 ; l2 /w2 > 0 ; l2 /R < 0

while the solutions for l1 and l2 reduce to:

In this section we have analyzed labor supply and consumption

Never married Ever married

Some College College +

Vous aimerez peut-être aussi

First of all, note that