Dear everyone,
I’d like to add a labor supply shock to my model. This shock variable is placed in the utility function, as shown in the figure. Does an increase in the shock variable l_t represent a positive or negative labor supply shock?
Some say an increase in l_t indicates an increase in labor supply, while others say an increase in l_t indicates a decrease.
I look forward to your answers!
If l_r goes up, the disutility from labor increases (the whole term enters with a minus). That means a positive shock to l_t is a negative labor supply shock, i.e., people will work less.
The answer is correct if the shock enters in the (dis)utility directly as asked for. But to clarify, another possibility is to introduce a factor-specific productivity shock in the labor term in the production function. In that case, the interpretation is the reverse. That’s likely why you are being confused.
Thank you, Professor Jpfeifer, I understand.
Thank you, Professor Granados, I understand.
