Towards a Multi-Disciplinary Approach
Edited by Amitava Krishna Dutt and Benjamin Radcliff
Chapter 8: Does Inequality Matter to Individual Welfare? An Initial Exploration Based on Happiness Surveys from Latin America
8. Does inequality matter to individual welfare?1 An initial exploration based on happiness surveys from Latin America Carol Graham and Andrew Felton The effect of inequality on individual welfare remains a debated question in economics. It is a topic where strong normative judgments outweigh the existing empirical evidence, and debate is often acrimonious and polarized. For those who interpret inequality as a sign of opportunity and/or of rewards to productivity, it is difficult to accept that there are negative effects. For those that see inequality as a reflection of persistent disadvantage for particular segments of society, it is hard to see positive elements. And for those who are primarily concerned with the fostering of income growth (and perhaps with the reduction of absolute poverty), inequality is beside the point – a ‘luxury’ problem of sorts. Yet evidence from several empirical studies suggests that relative income differences matter to individual welfare, and in ways which are relevant to economic and political decisions. Relative differences seem to matter in two ways. The first is a levels effect. Two individuals of the same level of income perceive themselves differently if the average wealth of their relevant peer groups is different. There is also a related adaptation effect: as people’s incomes rise, so do their expectations. Thus it takes more income to increase their utility the same amount than when their income was at a lower level. This can be explained conventionally by declining marginal utility of wealth. We attempt to show in this...
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