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

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  • Andrew E. Clark
  • Paul Frijters
  • Michael A. Shields

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.

Suggested Citation

  • Andrew E. Clark & Paul Frijters & Michael A. Shields, 2008. "Relative Income, Happiness, and Utility: An Explanation for the Easterlin Paradox and Other Puzzles," Journal of Economic Literature, American Economic Association, vol. 46(1), pages 95-144, March.
    • Handle: RePEc:aea:jeclit:v:46:y:2008:i:1:p:95-144
    Note: DOI: 10.1257/jel.46.1.95
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    References listed on IDEAS

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    1. Bernard M.S. van Praag & Paul Frijters, 1999. "The measurement of welfare and well-being; the Leyden approach," School of Economics and Finance Discussion Papers and Working Papers Series 071a, School of Economics and Finance, Queensland University of Technology.
    2. Oded Stark, 2006. "Status Aspirations, Wealth Inequality, and Economic Growth," Review of Development Economics, Wiley Blackwell, vol. 10(1), pages 171-176, February.
    3. Ravallion, Martin & Lokshin, Michael, 2002. "Self-rated economic welfare in Russia," European Economic Review, Elsevier, vol. 46(8), pages 1453-1473, September.
    4. Amos Tversky & Daniel Kahneman, 1991. "Loss Aversion in Riskless Choice: A Reference-Dependent Model," The Quarterly Journal of Economics, Oxford University Press, vol. 106(4), pages 1039-1061.
    5. P. J. Sloane & H. Williams, 2000. "Job Satisfaction, Comparison Earnings, and Gender," LABOUR, CEIS, vol. 14(3), pages 473-502, September.
    6. Stark, Oded, 2006. "Inequality and migration: A behavioral link," Economics Letters, Elsevier, vol. 91(1), pages 146-152, April.
    7. Vendrik, Maarten C. M., 1998. "Unstable bandwagon and habit effects on labor supply," Journal of Economic Behavior & Organization, Elsevier, vol. 36(2), pages 235-255, August.
    8. Vernon L. Smith, 1994. "Economics in the Laboratory," Journal of Economic Perspectives, American Economic Association, vol. 8(1), pages 113-131, Winter.
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    More about this item

    JEL classification:

    • I31 - Health, Education, and Welfare - - Welfare, Well-Being, and Poverty - - - General Welfare, Well-Being

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