Final answer:
The opportunity cost of leisure increases as wages rise because higher wages make the cost of not working (and enjoying leisure instead) greater. Individuals will balance the substitution and income effects based on personal preferences to decide on the optimal mix of work and leisure.
Step-by-step explanation:
The opportunity cost of leisure increases as wages get higher. This is because when wages rise, the potential income that could be earned instead of enjoying leisure time grows, thus increasing the cost of foregoing work in favor of leisure. In a labor-leisure choice model, higher wages mean that the substitution effect typically encourages individuals to work more since earning income becomes relatively more attractive compared to leisure. At the same time, the income effect might lead to the opposite, as individuals now have more income and can afford more leisure if they value it highly.
When wages increase, individuals may react differently depending on their preferences. Some might work more hours to gain more income (point A), others might continue working the same hours but with higher income (point B), and some might opt to work fewer hours (point D), as they can afford the same lifestyle with less work.