The pursuit of happiness starts with the economy
Fri 22 Aug 2008 by Infometrics Ltd.

The policy structure most supportive of an expanding economy deserves to be a central topic of debate in the forth coming election.   Although there is little academic agreement about how to achieve a fast-growing economy (after the basics are in place, as they are in New Zealand), it seems uncontroversial to state that the size of the economy will remain a limiting factor of our ability to pursue other social goals.

Nevertheless, the goal of increasing gross domestic product (GDP) is still subject to a number of criticisms.   Some deal with the methodology of GDP – the exclusion of any measure of non-renewable resource consumption, non-market work, environmental damage and other externalities.   These are fair points, but not normally relevant to the usage of GDP as a measure of progress over time or comparison to other economies.

Another common criticisms include the fact that there is no allowance in GDP for things like income inequality or health or education standards.   Although these objections are valid, no modern society would ever make GDP growth the sole policy goal.

And the supposed trade-off between GDP growth and other social goals can often be baseless.   Higher levels of GDP per capita tend to be well-correlated with rising standards on measures of social well-being.   It should not be any surprise that richer nations can (and want to) spend more on health, education, and social welfare.   In any case, investment in health and education is usually considered to be a necessary prerequisite for faster GDP growth.

There should be no confusion that higher GDP is a means to an ends.   We’re not increasing production for its own sake, but on the basis that increased production leads to higher utility – econospeak for higher life satisfaction or happiness.

We can’t put a numerical value on total utility, so we make the reasonable assumption that if people are free to produce and consume what they want (as they are in a market economy), then an increase in the aggregate amount of goods and services being produced is a solid indication that societal living standards are also rising.     

But this critical assumption has also come under fire as a consequence of a growing field of research that seeks to directly measure "happiness".   Happiness data is generally obtained via surveys that require respondents to rate their level of day-to-day happiness (commonly on a scale from 0 to 10).

The initial research into this topic produced surprising results.   Although it is evident that within a country, richer people are happier (on average), it wasn’t clear that richer countries (in GDP per capita terms) were happier than poorer countries.

Nor did it seem that over time, economic growth produced higher levels of happiness.   The USA, infamously, recorded no increase in average happiness between 1972-2006, despite substantial GDP growth over that period.

The result that income affected happiness at a point in time within countries, but not over time or between countries, is commonly know as the "Easterlin paradox" (after the researcher who first documented it).

The simplest hypothesis for this result is that happiness is more dependant on relative status within a society that absolute status.   People become habituated to gains in income, and thus economic progress comes to resemble a "rat race".

This theory has prompted the suggestion that societies would be better to follow policies more directly targeted towards improving happiness directly, rather than pursuing the GDP growth which was previously assumed to be a good proxy.

But happiness studies are not without their own critics.   Obviously, self-reported happiness is a highly subjective measure with no guarantee of comparability between different cultures (or different generations).   These surveys are also a bounded measure of well-being, whereas potential gains GDP are effectively unlimited, calling into question the logic of mapping one on to the other.       

It is also hard to reject the notion that as a society we want future generations to have the wider range of lifestyles and economic possibilities available to them that comes with higher GDP, even if we have reason to suspect that their self-reported happiness will remain anchored to a baseline.

Thankfully, however, the latest and most comprehensive survey of the happiness data has gone a long way to overturn the idea that economic growth is futile.   Using a wider range of data sources, Betsey Stevenson and Justin Wolfers have demonstrated that there is a strong association between GDP per capita and happiness across countries.

This relationship holds up (in fact, it is slightly stronger) even when only rich countries (GDP per capita of at least US$15,000) are considered.   It is not true that economic growth becomes unimportant for happiness once the basics of economic development are catered for.

Furthermore, a more robust consideration of the available data suggests that the US experience of unchanging happiness is an aberration, compared to steady happiness gains in Europe and Japan over recent decades.  (The US example is possibly explained by the unequal distribution of income gains in recent decades).         

New Zealand already performs well in cross-country comparisons of happiness, holding its own against richer countries with comparable cultural backgrounds.   Based on the best available evidence, the pursuit of a larger economy remains one of the surest ways to ensure ongoing improvement in measured happiness for New Zealanders.   A simple estimate suggests that a doubling of GDP per capita, all else equal, would make us the happiest nation on earth – a goal that few should find serious fault with.

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