Suppose all workers value their leisure at at 90 goods per day. The production function relating output per day to the number of people working per day (L) is:
Y = 250L − 0.5L2
(a) Assume there are no taxes. What are the equilibrium values of the real wage, employment and output? (Hint: real wage now equals MPL and the value of a day’s leisure.)
(b) A 25% tax is levied on wages. What are the equilibrium values of the real wage, employment and output? In terms of lost output, what is the distortion cost of this tax?