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Relative Income, Happiness and Utility: An Explanation for the Easterlin Paradox and Other Puzzles

TL;DR: In this article, the authors review the evidence on relative income from the subjective well-being literature and discuss the relation (or not) between happiness and utility, and discuss some nonhappiness research (behavioral, experimental, neurological) related to income comparisons.
Abstract: The well-known Easterlin paradox points out that average happiness has remained constant over time despite sharp rises in GNP per head. At the same time, a micro literature has typically found positive correlations between individual income and individual measures of subjective well-being. This paper suggests that these two findings are consistent with the presence of relative income terms in the utility function. Income may be evaluated relative to others (social comparison) or to oneself in the past (habituation). We review the evidence on relative income from the subjective well-being literature. We also discuss the relation (or not) between happiness and utility, and discuss some nonhappiness research (behavioral, experimental, neurological) related to income comparisons. We last consider how relative income in the utility function can affect economic models of behavior in the domains of consumption, investment, economic growth, savings, taxation, labor supply, wages, and migration.
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17 Oct 2011
TL;DR: As a measure of market capacity and not economic well-being, the authors pointed out that the two can lead to misleading indications about how well-off people are and entail the wrong policy decisions.
Abstract: As GDP is a measure of market capacity and not economic well-being, this report has been commissioned to more accurately understand the social progress indicators of any given state. Gross domestic product (GDP) is the most widely used measure of economic activity. There are international standards for its calculation, and much thought has gone into its statistical and conceptual bases. But GDP mainly measures market production, though it has often been treated as if it were a measure of economic well-being. Conflating the two can lead to misleading indications about how well-off people are and entail the wrong policy decisions. One reason why money measures of economic performance and living standards have come to play such an important role in our societies is that the monetary valuation of goods and services makes it easy to add up quantities of a very different nature. When we know the prices of apple juice and DVD players, we can add up their values and make statements about production and consumption in a single figure. But market prices are more than an accounting device. Economic theory tells us that when markets are functioning properly, the ratio of one market price to another is reflective of the relative appreciation of the two products by those who purchase them. Moreover, GDP captures all final goods in the economy, whether they are consumed by households, firms or government. Valuing them with their prices would thus seem to be a good way of capturing, in a single number, how well-off society is at a particular moment. Furthermore, keeping prices unchanged while observing how quantities of goods and services that enter GDP move over time would seem like a reasonable way of making a statement about how society’s living standards are evolving in real terms. As it turns out, things are more complicated. First, prices may not exist for some goods and services (if for instance government provides free health insurance or if households are engaged in child care), raising the question of how these services should be valued. Second, even where there are market prices, they may deviate from society’s underlying valuation. In particular, when the consumption or production of particular products affects society as a whole, the price that individuals pay for those products will differ from their value to society at large. Environmental damage caused by production or consumption activities that is not reflected in market prices is a well-known example.

4,432 citations

Journal ArticleDOI
TL;DR: The authors found that people often make choices that bear a mixed relationship to their own happiness, and that their choices do not necessarily reflect their "true" preferences, and an exclusive reliance on choices to infer what people desire loses some of its appeal.
Abstract: For good reasons, economists have had a long-standing preference for studying peoples' revealed preferences; that is, looking at individuals' actual choices and decisions rather than their stated intentions or subjective reports of likes and dislikes. Yet people often make choices that bear a mixed relationship to their own happiness. A large literature from behavioral economics and psychology finds that people often make inconsistent choices, fail to learn from experience, exhibit reluctance to trade, base their own satisfaction on how their situation compares with the satisfaction of others and depart from the standard model of the rational economic agent in other ways. If people display bounded rationality when it comes to maximizing utility, then their choices do not necessarily reflect their "true" preferences, and an exclusive reliance on choices to infer what people desire loses some of its appeal. Direct reports of subjective well-being may have a useful role in the measure

2,783 citations

Journal ArticleDOI
TL;DR: A detailed review of the literature on subjective well-being and its determinants can be found in this paper, where the authors highlight a range of problems in drawing firm conclusions about the causes of SWB; these include some contradictory evidence, concerns over the impact on the findings of potentially unobserved variables and the lack of certainty on the direction of causality.

2,586 citations

Journal ArticleDOI
TL;DR: It is concluded that high income buys life satisfaction but not happiness, and that low income is associated both with low life evaluation and low emotional well-being.
Abstract: aspects of well-being. We report an analysis ofmore than 450,000 responsesto the Gallup-HealthwaysWell-BeingIndex, adailysurveyof 1,000 US residents conducted by the Gallup Organization. We find that emotional well-being (measured by questions about emotional experiencesyesterday)andlifeevaluation(measuredbyCantril’sSelfAnchoringScale) have different correlates. Income andeducation are more closely related to life evaluation, but health, care giving, loneliness,andsmokingarerelativelystrongerpredictorsofdailyemotions. When plotted against log income, life evaluation rises steadily. Emotional well-being also rises with log income, but there is no further progress beyond an annual income of ∼$75,000. Low income exacerbates the emotional pain associated with such misfortunes as divorce, ill health, and being alone. We conclude that high income buys life satisfaction but not happiness, and that low income is associated both with low life evaluation and low emotional well-being.

2,198 citations

Posted Content
TL;DR: The lack of correlations between life and health satisfaction and health measures shows that happiness (or self-reported health) measures cannot be regarded as useful summary indicators of human welfare in international comparisons.
Abstract: During 2006, the Gallup Organization conducted a World Poll that used an identical questionnaire for national samples of adults from 132 countries. I analyze the data on life satisfaction (happiness) and on health satisfaction and look at their relationships with national income, age, and life-expectancy. Average happiness is strongly related to per capita national income; each doubling of income is associated with a near one point increase in life satisfaction on a scale from 0 to 10. Unlike most previous findings, the effect holds across the range of international incomes; if anything, it is slightly stronger among rich countries. Conditional on national income, recent economic growth makes people unhappier, improvements in life-expectancy make them happier, but life-expectancy itself has little effect. Age has an internationally inconsistent relationship with happiness. National income moderates the effects of aging on self-reported health, and the decline in health satisfaction and rise in disability with age are much stronger in poor countries than in rich countries. In line with earlier findings, people in much of Eastern Europe and in the countries of the former Soviet Union are particularly unhappy and particularly dissatisfied with their health, and older people in those countries are much less satisfied with their lives and with their health than are younger people. HIV prevalence in Africa has little effect on Africans' life or health satisfaction; the fraction of Kenyans who are satisfied with their personal health is the same as the fraction of Britons and higher than the fraction of Americans. The US ranks 81st out of 115 countries in the fraction of people who have confidence in their healthcare system, and has a lower score than countries such as India, Iran, Malawi, or Sierra Leone. While the strong relationship between life-satisfaction and income gives some credence to the measures, as do the low levels of life and health satisfaction in Eastern Europe and the countries of the former Soviet Union, the lack of correlations between life and health satisfaction and health measures shows that happiness (or self-reported health) measures cannot be regarded as useful summary indicators of human welfare in international comparisons.

1,198 citations

References
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Journal ArticleDOI
TL;DR: Self-Determination Theory (SDT) as mentioned in this paper maintains that an understanding of human motivation requires a consideration of innate psychological needs for competence, autonomy, and relatedness, emphasizing that needs specify the necessary conditions for psychological growth, integrity, and well-being.
Abstract: Self-determination theory (SDT) maintains that an understanding of human motivation requires a consideration of innate psychological needs for competence, autonomy, and relatedness. We discuss the SDT concept of needs as it relates to previous need theories, emphasizing that needs specify the necessary conditions for psychological growth, integrity, and well-being. This concept of needs leads to the hypotheses that different regulatory processes underlying goal pursuits are differentially associated with effective functioning and well-being and also that different goal contents have different relations to the quality of behavior and mental health, specifically because different regulatory processes and different goal contents are associated with differing degrees of need satisfaction. Social contexts and individual differences that support satisfaction of the basic needs facilitate natural growth processes including intrinsically motivated behavior and integration of extrinsic motivations, whereas those that forestall autonomy, competence, or relatedness are associated with poorer motivation, performance, and well-being. We also discuss the relation of the psychological needs to cultural values, evolutionary processes, and other contemporary motivation theories.

20,832 citations

Journal ArticleDOI
TL;DR: In this paper, the authors investigated the relationship between self-acceptance, positive relations with others, autonomy, environmental mastery, purpose in life, and personal growth, and found that these aspects are not strongly tied to prior assessment indexes.
Abstract: Reigning measures of psychological well-being have little theoretical grounding, despite an extensive literature on the contours of positive functioning. Aspects of well-being derived from this literature (i.e., self-acceptance, positive relations with others, autonomy, environmental mastery, purpose in life, and personal growth) were operationalized. Three hundred and twenty-one men and women, divided among young, middle-aged, and older adults, rated themselves on these measures along with six instruments prominent in earlier studies (i.e., affect balance, life satisfaction, self-esteem, morale, locus of control, depression). Results revealed that positive relations with others, autonomy, purpose in life, and personal growth were not strongly tied to prior assessment indexes, thereby supporting the claim that key aspects of positive functioning have not been represented in the empirical arena. Furthermore, age profiles revealed a more differentiated pattern of well-being than is evident in prior research.

10,548 citations

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TL;DR: In this article, the authors present a reference-dependent theory of consumer choice, which explains such effects by a deformation of indifference curves about the reference point, in which losses and disadvantages have greater impact on preferences than gains and advantages.
Abstract: Much experimental evidence indicates that choice depends on the status quo or reference level: changes of reference point often lead to reversals of preference. We present a reference-dependent theory of consumer choice, which explains such effects by a deformation of indifference curves about the reference point. The central assumption of the theory is that losses and disadvantages have greater impact on preferences than gains and advantages. Implications of loss aversion for economic behavior are considered. The standard models of decision making assume that preferences do not depend on current assets. This assumption greatly simplifies the analysis of individual choice and the prediction of trades: indifference curves are drawn without reference to current holdings, and the Coase theorem asserts that, except for transaction costs, initial entitlements do not affect final allocations. The facts of the matter are more complex. There is substantial evidence that initial entitlements do matter and that the rate of exchange between goods can be quite different depending on which is acquired and which is given up, even in the absence of transaction costs or income effects. In accord with a psychological analysis of value, reference levels play a large role in determining preferences. In the present paper we review the evidence for this proposition and offer a theory that generalizes the standard model by introducing a reference state. The present analysis of riskless choice extends our treatment of choice under uncertainty [Kahneman and Tversky, 1979, 1984; Tversky and Kahneman, 1991], in which the outcomes of risky prospects are evaluated by a value function that has three essential characteristics. Reference dependence: the carriers of value are gains and losses defined relative to a reference point. Loss aversion: the function is steeper in the negative than in the positive domain; losses loom larger than corresponding gains. Diminishing sensitivity: the marginal value of both gains and losses decreases with their

5,864 citations

Journal ArticleDOI
TL;DR: The results reveal that happiness is associated with and precedes numerous successful outcomes, as well as behaviors paralleling success, and the evidence suggests that positive affect may be the cause of many of the desirable characteristics, resources, and successes correlated with happiness.
Abstract: Numerous studies show that happy individuals are successful across multiple life domains, including marriage, friendship, income, work performance, and health. The authors suggest a conceptual model to account for these findings, arguing that the happiness-success link exists not only because success makes people happy, but also because positive affect engenders success. Three classes of evidence--crosssectional, longitudinal, and experimental--are documented to test their model. Relevant studies are described and their effect sizes combined meta-analytically. The results reveal that happiness is associated with and precedes numerous successful outcomes, as well as behaviors paralleling success. Furthermore, the evidence suggests that positive affect--the hallmark of well-being--may be the cause of many of the desirable characteristics, resources, and successes correlated with happiness. Limitations, empirical issues, and important future research questions are discussed.

5,713 citations