Assume as in the federal income tax code for the United States, that the representative consumer faces a wage income tax with a standard deduction. That is, the representative consumer pays no tax on wage income for the first x units of real wage income, and then pays a proportional tax t on each unit of real wage income greater than x. Now the government reduces the tax deduction x.
1. Calculate the effects of this tax change on the individual's consumption/leisure choices. Discuss your results in terms of substitution and income effects. Make sure you consider two cases. In the first case the consumer does not pay any tax before x is reduced, and in the second case the consumer pays a positive tax before x is reduced.
2. Explain what effect will the increase in x have on aggregate employment, output and real wages?