Managerial Economics & Business Strategy 8th Edition by Michael Baye,Jeff Prince

Exercise 21

Consider an employee who does not receive employer-based health insurance and must divide her $1,000 per week in after-tax income between health insurance and "other goods." Draw this worker's opportunity set if the price of health insurance is $200 per week and the price of "other goods" is $100 per week. On the same graph, illustrate how the opportunity set would change if the employer agreed to give this employee $200 worth of health insurance per week (under current tax laws, this form of compensation is nontaxable). Would this employee be better or worse off if, instead of the health insurance, the employer gave her a $200 per week raise that was taxable at a rate of 25 percent? Explain.