Gross National Happiness and the Economy

October 24, 2008

The financial market crisis is front and center in the national news — and for good reason. The future of capitalism as we know it is at stake, financial markets are in turmoil — and even the safety of individual bank accounts is in question.

The crisis will, no doubt, have profound welfare effects on GNP, savings, investment and the average consumer — all of which economists will dutifully measure.

Measuring welfare

But how can we measure the impact of the current crisis on U.S. national welfare? Just how sad are Americans feeling about this situation?

Never short of ideas and metrics, the dismal science has a new tool: the economics of happiness.

Based on the use of interviews with hundreds of thousands of individuals across countries and over time, and relying on innovative econometric tools to account for bias and error in reporting, happiness surveys are increasingly being used to assess the welfare effects of phenomena ranging from cigarette smoking and obesity (bad for happiness) to participating in democracy and getting a promotion (good for happiness).

Compensation for unhappiness

The welfare effects can be quantified (roughly) in income terms. A typical individual in the United States or Britain, for example, would need roughly $60,000 (in 2004 dollars) to make up for the stated changes in happiness that come from losing his or her job — in addition to the forgone employment income.

Unstable income flows, meanwhile, have stronger negative effects on the happiness of the typical individual than the positive effects that come from income gains.

Whose definition?

Defining happiness is, of course, as difficult as it is controversial. What makes happiness questions useful as a survey instrument that can be compared across countries and cultures is their open-ended nature — the definition is left to the respondent. Yet defining the concept makes a difference to how relevant it is as a policy measure.

Happiness as merely contentment, for example, does not carry much weight as a policy objective. Happiness defined as a broader measure of well being than income alone — as contentment, welfare and dignity, for example — surely does. We believe — along with endless philosophers — that the concept encompasses these broader elements.

It is too soon to precisely estimate the happiness effects of the current financial crisis. However, based on other countries’ experiences, we can get a sense of how financial crises affect national happiness in the United States.

Past experiences

During the recent economic crises in Russia and Argentina, for example, happiness levels fell significantly — 8.7% in Russia and 10.7% in Argentina.

It is important to put these movements in perspective: Average national happiness levels do not move much, if at all, over time.

Happiness levels in the United States from the 1970s until the present have not changed much, even though it has been a period of unprecedented prosperity. To the extent they have changed, they have dipped downward very slightly (the explanation usually given for that drop is the unevenly shared nature of the economic gains).

Uncertainty reviled

It is impossible to predict how much the crisis will affect U.S. GDP growth, although it likely will have some negative effect.

Argentina’s GDP fell by ten percentage points in 2002 alone. Such a large drop is unlikely in the United States. Yet the shock effect of major banks and other financial institutions failing in a traditionally stable economy — indeed for years the model for capitalism — is much higher.

Research on other countries suggests that the unhappiness effects of crises are due as much to the uncertainty they generate as they are to the actual drops in income levels that they cause.

In order to estimate the possible orders of magnitude, we simulated a happiness drop in the United States that is equivalent to that in Argentina in 2001.

Personal welfare and democracy

Accepting that as an upper limit on what is likely to occur in the United States, we then calculated the income equivalent required to compensate for such a loss in reported happiness for the average individual. It would be comparable to a 75% decline in income — or $45,000 for a person earning $60,000.

Should we care if national happiness decreases? Perhaps at a philosophical level, given that the stated objectives of the U.S. constitution are life, liberty and the pursuit of happiness.

But we also care from a policy perspective. Our research — and that of many others — shows that happier people are more likely to support markets and democracy, to perform better in the labor market and to be healthier, and to have positive attitudes about future mobility for themselves and their children.

And strong belief in opportunity and upward mobility is the explanation that is often given for Americans’ high tolerance for inequality. The majority of Americans surveyed believe that they will be above mean income in the future (even though that is a mathematical impossibility).

Making a recovery

Will the current crisis erode the United States’ longstanding belief that America is the land of opportunity? It is difficult to say. Happiness levels typically recover along with economies.

Argentines and Russians have by now reached their pre-crisis happiness levels. In Argentina, levels of satisfaction with markets and democracy, and prospects for upward mobility, have also recovered somewhat — although they still remain well below the average for Latin America.

To the extent that happiness levels drop in the United States, they will also likely recover over time, although the estimates above suggest that significant welfare losses could be incurred in the process.

An open question, however, is whether those losses will erode faith in the fairness of our economic system, not least because the costs of the crisis will be paid for by the average citizen, while its roots lie in weak regulation and excessively compensated executive mismanagement.