income was relatively cheaper to earn and leisure was relatively more expensive, but if she had remained at

the same level of utility. The slope of the budget constraint in a labor-leisure diagram is determined by the
wage rate. Thus, the dashed line is carefully inserted with the slope of the new opportunity set, reflecting the

labor-leisure tradeoff of the new wage rate, but tangent to the original indifference curve, showing the same

level of utility or “buying power.” The shift from original choice A to point C, which is the point of tangency

between the original indifference curve and the dashed line, shows that because of the higher wage, Petunia

will want to consume less leisure and more income. The “s” arrows on the horizontal and vertical axes of

Figure B5 show the substitution effect on leisure and on income.

The income effect is that the higher wage, by shifting the labor-leisure budget constraint to the right, makes it
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