Saturday, March 15, 2003

One of the most interesting questions of economics is whether wealth really makes people happier. There seems to be somewhat of a consensus that once a person or society has risen above some minimal standard of living, more wealth doesn't really add to happiness in any measurable sense. People just get used to any extra wealth, and then desire even more. This was the theme of a recent series of lectures by Lord Richard Layard of the London School of Economics (transcripts of all three lectures can be found here; all are worth a perusal.).

What puzzles me, though, is that for Layard, as for others whom I have read, one of the key pieces of evidence here is the "fact" that people care more about their wealth relative to the rest of society than they do about their absolute level of wealth. Layard cites a 1998 study that asked Harvard graduate students: "Which world would you prefer (prices are the same)? A) You get $50K per year and others get half that; or B) You get $100K per year and others get more than double that." A majority preferred option A, and this is taken as evidence that people aren't really that interested in their absolute wealth; what they really want is to beat everyone else (and conversely, to avoid being poorer than everyone else).

But is that what this study really shows? The key problem with the question is that it assumes something that can't possibly be true -- that "prices are the same" in both worlds. Perhaps people can't help relying instinctively on the fact that in the real world, prices are relative, not absolute. Which means that Option A above really is the rational choice (the person who has twice the average income will have more resources than the person with half the average income, no matter how many dollars are involved). It's difficult to know how to judge people's answers to a hypothetical question when you've asked them to assume a falsehood.

Consider the further questions in the study: Which would you prefer: C) 2 weeks vacation when everyone else gets half; or D) 4 weeks vacation when everyone else gets double that. When that question is asked, only 20% said C. Layard infers from this that people are less rivalrous as to their leisure than as to their income. But isn't it this divergence of results possibly due to the fact that weeks are less relative than dollars?


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