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The government considers a change in the income tax scheme. With steve’s current working hours and before tax income, average tax rate will be maintained but marginal tax
rate will decrease. Answer the following questions and analyze how this change affects the working hours of steve.
(a) Draw steve’s constraint in his labor-leisure choice without any tax.
(b) Draw an imaginary contraint and indifference curve to represent the current tax scheme and steve’s choice.
(c) Draw another imaginary constraint which represents the same average tax rate at steve’s current income but with lower marginal tax rate. Show the possible change of steve’s choice of working hours and income. Would it lead to more or less tax revenue? Would steve be better or worse off?
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