easterlin-paradox

What Is The Easterlin Paradox? The Easterlin Paradox In A Nutshell

The Easterlin paradox was first described by then professor of economics at the University of Pennsylvania Richard Easterlin. In the 1970s, Easterlin found that despite the American economy experiencing growth over the previous few decades, the average level of happiness seen in American citizens remained the same. He called this the Easterlin paradox, where income and happiness correlate with each other until a certain point is reached after at least ten years or so. After this point, income and happiness levels are not significantly related. The Easterlin paradox states that happiness is positively correlated with income, but only to a certain extent.

AspectExplanation
Easterlin Paradox– The Easterlin Paradox, named after economist Richard Easterlin, is a concept in the field of economics and well-being. It suggests that, within a given country, increases in income do not necessarily lead to increased happiness or life satisfaction. In other words, as people become wealthier, their happiness does not consistently increase.
Origin– Richard Easterlin first introduced this concept in a 1974 paper titled “Does Economic Growth Improve the Human Lot? Some Empirical Evidence.” His research questioned the idea that economic growth directly correlated with greater happiness.
Key Points1. Relative Income: The paradox highlights the importance of relative income rather than absolute income. People tend to compare their income and living standards with those of others. If everyone’s income rises equally, there is no relative gain. – 2. Adaptation: Humans tend to adapt quickly to changes in income and material possessions, which can lead to a temporary increase in happiness but not sustained long-term satisfaction. – 3. Hedonic Treadmill: The concept of the “hedonic treadmill” suggests that people’s expectations and desires for a higher standard of living also increase as their income rises, making it difficult to achieve lasting happiness from income alone.
Research Findings– Empirical studies have supported the Easterlin Paradox to varying degrees. While there is evidence that higher income can lead to increased happiness in low-income countries, the relationship is less clear in high-income countries where people have already met their basic needs. – Factors like social relationships, health, and sense of purpose play a significant role in overall well-being.
Policy Implications– The Easterlin Paradox has implications for policymakers. It suggests that focusing solely on economic growth and income may not be the most effective way to improve the well-being of citizens. Policies that address social and psychological factors, such as healthcare, education, and social support, can have a more substantial impact on overall happiness.
Critiques and Debates– The Easterlin Paradox has been a subject of debate and research. Some economists argue that the paradox is not consistently supported by empirical data and that the relationship between income and happiness is more complex. – Critics also point out that individual preferences and cultural factors can significantly influence the impact of income on happiness.
Conclusion– The Easterlin Paradox challenges the conventional wisdom that higher income directly leads to greater happiness. While income can contribute to well-being, it is not the sole determinant. Factors like social connections, health, and a sense of purpose play crucial roles in overall life satisfaction. Understanding this paradox is important for a more comprehensive approach to improving the quality of life for individuals and societies.

Understanding the Easterlin paradox

It is worth noting that it is the long-term trends in happiness and income that are unrelated. In the short term, the two factors normally go up and down together. For example, consider the sentiment that accompanies stock market crashes. Consumers tend to be sad in the immediate aftermath of a crash but become happier as the market starts to recover.

The Easterlin paradox has been hotly debated because of the inherent problems with defining happiness and the far-reaching implications for public policy. Indeed, if economic growth does little to enhance happiness beyond a certain point, should governments instead focus on measures of national happiness?

Easterlin paradox findings

In a comparative study using data from the United States and 11 other countries, Easterlin reported the following findings:

  1. Within countries, wealthier individuals reported a higher level of subjective wellbeing (SWB) than did poorer individuals.
  2. Across countries, there was no comparable difference in the SWB of countries deemed to be rich and countries deemed to be poor.
  3. Third, the results of a longitudinal study found that the economic development of a country did not increase the individual SWB of that countries’ citizens.

From these findings, Easterlin made two conclusions:

  • On the micro-level, the income of an individual increases subjective well-being significantly.
  • On the macro level, the national economic growth of a country expressed as per capita GDP does not necessarily increase subjective well-being.

Interestingly, these conclusions were consistent across countries with different traditions, cultures, natural environments, economic environments, and political systems.

Criticisms of the Easterlin paradox

In addition to subjective definitions of happiness and broader policy implications, there is much debate around the validity of the Easterlin paradox itself. Though beyond the scope of this article, Easterlin’s data collection and analysis techniques have been called into question.

Subsequent empirical studies found that SWB was much higher in rich countries than it was in poor countries. What’s more, there was also a significant correlation between per capita GNP and national wealth with the subjective well-being of a nation’s citizens. 

Another study in 2006 by Veenhoven and Hagerty found that the SWB in developing nations such as India, South Korea, Philippines, South Africa, Brazil, and Nigeria had increased substantially over the previous 50 years. In releasing their data, the pair refuted Easterlin’s claim that economic growth did not add to the quality of life measures that increased happiness. 

Further economic data from China also cast doubt on the Easterlin paradox. The data showed that Easterlin’s conclusion at the micro-level was supported. However, at the macro level, the data showed that stagnation in SWB among Chinese citizens was evident but not because of economic development per se.

In the case of China, the period of rapid growth caused many citizens to lift themselves out of poverty and become happier as a result. However, the fact that the period of growth occurred for so long meant the increase in happiness was offset by widening income inequality. These two effects canceled each other out and caused SWB to trail behind economic growth in the country – but not for the reasons Easterlin’s theory stipulates. 

In response, Easterlin revised the theory and posited that a U-shaped pattern best illustrated the relationship between economic development and SWB. In the short term, SWB is positively correlated with a nation’s economic growth. In the long term, however, this growth has a limited effect on individual income. This revision, at least to some extent, made the Easterlin paradox more convincing to skeptics and arguably more relevant to countries undergoing similar economic growth.

Case Studies

  • Income and Individual Happiness:
    • Example 1: Studies show that in many countries, individuals with higher incomes tend to report greater life satisfaction and well-being compared to those with lower incomes.
    • Example 2: A survey conducted in a developed nation reveals that people with higher salaries often express higher levels of happiness and contentment in their lives.
  • Cross-Country Comparisons:
    • Example 1: Comparing two countries, Country A and Country B, shows that despite Country A having a significantly higher per capita income than Country B, the citizens of both countries report similar levels of life satisfaction.
    • Example 2: Research spanning multiple nations indicates that while wealthier countries generally exhibit higher average incomes, this does not necessarily translate into higher average happiness levels among their populations.
  • Long-Term Economic Growth:
    • Example 1: Over the past several decades, Country X has experienced consistent economic growth, resulting in increased per capita GDP. However, surveys tracking happiness levels among its citizens show that overall happiness remains relatively stable during this period.
    • Example 2: Country Y, after a prolonged period of economic stagnation, undergoes a phase of rapid economic development. Despite substantial income growth, citizens’ self-reported happiness levels do not exhibit significant increases.
  • Subjective Well-Being and Income:
    • Example 1: Research within a country reveals a strong positive correlation between individual income levels and subjective well-being (SWB). People with higher incomes tend to report higher levels of SWB.
    • Example 2: A study conducted in a developing nation shows that as people’s incomes rise, their self-reported life satisfaction and overall happiness also increase.
  • Economic Development and Happiness:
    • Example 1: Country Z embarks on a program of economic development, leading to a substantial increase in per capita GDP over a decade. However, surveys find that the citizens’ average reported happiness levels do not experience a corresponding increase during this period.
    • Example 2: A nation’s economic policies focus on improving citizens’ income levels, but despite economic growth, there is little change in the nation’s overall happiness scores.

Key takeaways:

  • The Easterlin paradox states that happiness is positively correlated with income, but only to a certain extent. It was first described by then professor of economics at the University of Pennsylvania Richard Easterlin in 1974.
  • The Easterlin paradox found that on the micro-level, the income of an individual increases subjective well-being significantly. On the macro level, the national economic growth of a country does not necessarily increase subjective well-being.
  • The Easterlin paradox has attracted criticism for the data on which it is based. Subsequent studies found a strong correlation between economic growth and subjective well-being in developing countries. Data from a period of growth in China also found that the relationship between income and happiness was more nuanced than the Easterlin paradox accounts for.

Key Highlights on the Easterlin Paradox:

  • Origin of the Easterlin Paradox: The Easterlin paradox was introduced by economist Richard Easterlin in the 1970s. He observed that despite economic growth in the United States over several decades, average happiness levels among Americans remained relatively constant.
  • Income and Happiness Relationship: According to the Easterlin paradox, income and happiness are positively correlated up to a certain point. Beyond this threshold, increased income does not significantly contribute to greater happiness.
  • Temporal Aspect: The Easterlin paradox pertains to long-term trends in happiness and income. In the short term, these factors tend to fluctuate together. For instance, stock market crashes lead to temporary unhappiness, which recovers as the market rebounds.
  • Debate and Implications: The paradox has sparked debates about how happiness is defined and its implications for public policy. It raises questions about whether governments should prioritize measures of national happiness over economic growth.
  • Easterlin’s Findings:
    • Wealthier individuals within a country tend to report higher subjective well-being (SWB) compared to poorer individuals.
    • Across different countries, there is no significant difference in SWB between rich and poor nations.
    • Economic development at the national level, expressed as per capita GDP, does not necessarily increase the subjective well-being of a country’s citizens.
  • Consistency Across Diverse Contexts: Easterlin’s conclusions held true across various countries with differing cultures, environments, and economic systems.
  • Criticisms and Revisions: The Easterlin paradox faced criticism regarding data collection and analysis. Some subsequent studies found that subjective well-being was higher in wealthier countries and correlated with per capita GNP. Data from China challenged the paradox, with income inequality offsetting gains in happiness. Easterlin later revised his theory to incorporate a U-shaped relationship between economic development and SWB.
  • U-Shaped Relationship: Easterlin’s revised theory posits that in the short term, economic growth positively correlates with SWB. However, in the long term, the impact on individual happiness diminishes, resulting in a U-shaped pattern of relationship.

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Connected Economic Concepts

Market Economy

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The idea of a market economy first came from classical economists, including David Ricardo, Jean-Baptiste Say, and Adam Smith. All three of these economists were advocates for a free market. They argued that the “invisible hand” of market incentives and profit motives were more efficient in guiding economic decisions to prosperity than strict government planning.

Positive and Normative Economics

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Positive economics is concerned with describing and explaining economic phenomena; it is based on facts and empirical evidence. Normative economics, on the other hand, is concerned with making judgments about what “should be” done. It contains value judgments and recommendations about how the economy should be.

Inflation

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When there is an increased price of goods and services over a long period, it is called inflation. In these times, currency shows less potential to buy products and services. Thus, general prices of goods and services increase. Consequently, decreases in the purchasing power of currency is called inflation. 

Asymmetric Information

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Asymmetric information as a concept has probably existed for thousands of years, but it became mainstream in 2001 after Michael Spence, George Akerlof, and Joseph Stiglitz won the Nobel Prize in Economics for their work on information asymmetry in capital markets. Asymmetric information, otherwise known as information asymmetry, occurs when one party in a business transaction has access to more information than the other party.

Autarky

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Autarky comes from the Greek words autos (self)and arkein (to suffice) and in essence, describes a general state of self-sufficiency. However, the term is most commonly used to describe the economic system of a nation that can operate without support from the economic systems of other nations. Autarky, therefore, is an economic system characterized by self-sufficiency and limited trade with international partners.

Demand-Side Economics

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Demand side economics refers to a belief that economic growth and full employment are driven by the demand for products and services.

Supply-Side Economics

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Supply side economics is a macroeconomic theory that posits that production or supply is the main driver of economic growth.

Creative Destruction

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Creative destruction was first described by Austrian economist Joseph Schumpeter in 1942, who suggested that capital was never stationary and constantly evolving. To describe this process, Schumpeter defined creative destruction as the “process of industrial mutation that incessantly revolutionizes the economic structure from within, incessantly destroying the old one, incessantly creating a new one.” Therefore, creative destruction is the replacing of long-standing practices or procedures with more innovative, disruptive practices in capitalist markets.

Happiness Economics

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Happiness economics seeks to relate economic decisions to wider measures of individual welfare than traditional measures which focus on income and wealth. Happiness economics, therefore, is the formal study of the relationship between individual satisfaction, employment, and wealth.

Oligopsony

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An oligopsony is a market form characterized by the presence of only a small number of buyers. These buyers have market power and can lower the price of a good or service because of a lack of competition. In other words, the seller loses its bargaining power because it is unable to find a buyer outside of the oligopsony that is willing to pay a better price.

Animal Spirits

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The term “animal spirits” is derived from the Latin spiritus animalis, loosely translated as “the breath that awakens the human mind”. As far back as 300 B.C., animal spirits were used to explain psychological phenomena such as hysterias and manias. Animal spirits also appeared in literature where they exemplified qualities such as exuberance, gaiety, and courage.  Thus, the term “animal spirits” is used to describe how people arrive at financial decisions during periods of economic stress or uncertainty.

State Capitalism

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State capitalism is an economic system where business and commercial activity is controlled by the state through state-owned enterprises. In a state capitalist environment, the government is the principal actor. It takes an active role in the formation, regulation, and subsidization of businesses to divert capital to state-appointed bureaucrats. In effect, the government uses capital to further its political ambitions or strengthen its leverage on the international stage.

Boom And Bust Cycle

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The boom and bust cycle describes the alternating periods of economic growth and decline common in many capitalist economies. The boom and bust cycle is a phrase used to describe the fluctuations in an economy in which there is persistent expansion and contraction. Expansion is associated with prosperity, while the contraction is associated with either a recession or a depression.

Paradox of Thrift

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The paradox of thrift was popularised by British economist John Maynard Keynes and is a central component of Keynesian economics. Proponents of Keynesian economics believe the proper response to a recession is more spending, more risk-taking, and less saving. They also believe that spending, otherwise known as consumption, drives economic growth. The paradox of thrift, therefore, is an economic theory arguing that personal savings are a net drag on the economy during a recession.

Circular Flow Model

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In simplistic terms, the circular flow model describes the mutually beneficial exchange of money between the two most vital parts of an economy: households, firms and how money moves between them. The circular flow model describes money as it moves through various aspects of society in a cyclical process.

Trade Deficit

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Trade deficits occur when a country’s imports outweigh its exports over a specific period. Experts also refer to this as a negative balance of trade. Most of the time, trade balances are calculated based on a variety of different categories.

Market Types

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A market type is a way a given group of consumers and producers interact, based on the context determined by the readiness of consumers to understand the product, the complexity of the product; how big is the existing market and how much it can potentially expand in the future.

Rational Choice Theory

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Rational choice theory states that an individual uses rational calculations to make rational choices that are most in line with their personal preferences. Rational choice theory refers to a set of guidelines that explain economic and social behavior. The theory has two underlying assumptions, which are completeness (individuals have access to a set of alternatives among they can equally choose) and transitivity.

Conflict Theory

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Conflict theory argues that due to competition for limited resources, society is in a perpetual state of conflict.

Peer-to-Peer Economy

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The peer-to-peer (P2P) economy is one where buyers and sellers interact directly without the need for an intermediary third party or other business. The peer-to-peer economy is a business model where two individuals buy and sell products and services directly. In a peer-to-peer company, the seller has the ability to create the product or offer the service themselves.

Knowledge-Economy

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The term “knowledge economy” was first coined in the 1960s by Peter Drucker. The management consultant used the term to describe a shift from traditional economies, where there was a reliance on unskilled labor and primary production, to economies reliant on service industries and jobs requiring more thinking and data analysis. The knowledge economy is a system of consumption and production based on knowledge-intensive activities that contribute to scientific and technical innovation.

Command Economy

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In a command economy, the government controls the economy through various commands, laws, and national goals which are used to coordinate complex social and economic systems. In other words, a social or political hierarchy determines what is produced, how it is produced, and how it is distributed. Therefore, the command economy is one in which the government controls all major aspects of the economy and economic production.

Labor Unions

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How do you protect your rights as a worker? Who is there to help defend you against unfair and unjust work conditions? Both of these questions have an answer, and it’s a solution that many are familiar with. The answer is a labor union. From construction to teaching, there are labor unions out there for just about any field of work.

Bottom of The Pyramid

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The bottom of the pyramid is a term describing the largest and poorest global socio-economic group. Franklin D. Roosevelt first used the bottom of the pyramid (BOP) in a 1932 public address during the Great Depression. Roosevelt noted that – when talking about the ‘forgotten man:’ “these unhappy times call for the building of plans that rest upon the forgotten, the unorganized but the indispensable units of economic power.. that build from the bottom up and not from the top down, that put their faith once more in the forgotten man at the bottom of the economic pyramid.”

Glocalization

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Glocalization is a portmanteau of the words “globalization” and “localization.” It is a concept that describes a globally developed and distributed product or service that is also adjusted to be suitable for sale in the local market. With the rise of the digital economy, brands now can go global by building a local footprint.

Market Fragmentation

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Market fragmentation is most commonly seen in growing markets, which fragment and break away from the parent market to become self-sustaining markets with different products and services. Market fragmentation is a concept suggesting that all markets are diverse and fragment into distinct customer groups over time.

L-Shaped Recovery

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The L-shaped recovery refers to an economy that declines steeply and then flatlines with weak or no growth. On a graph plotting GDP against time, this precipitous fall combined with a long period of stagnation looks like the letter “L”. The L-shaped recovery is sometimes called an L-shaped recession because the economy does not return to trend line growth.  The L-shaped recovery, therefore, is a recession shape used by economists to describe different types of recessions and their subsequent recoveries. In an L-shaped recovery, the economy is characterized by a severe recession with high unemployment and near-zero economic growth.

Comparative Advantage

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Comparative advantage was first described by political economist David Ricardo in his book Principles of Political Economy and Taxation. Ricardo used his theory to argue against Great Britain’s protectionist laws which restricted the import of wheat from 1815 to 1846.  Comparative advantage occurs when a country can produce a good or service for a lower opportunity cost than another country.

Easterlin Paradox

easterlin-paradox
The Easterlin paradox was first described by then professor of economics at the University of Pennsylvania Richard Easterlin. In the 1970s, Easterlin found that despite the American economy experiencing growth over the previous few decades, the average level of happiness seen in American citizens remained the same. He called this the Easterlin paradox, where income and happiness correlate with each other until a certain point is reached after at least ten years or so. After this point, income and happiness levels are not significantly related. The Easterlin paradox states that happiness is positively correlated with income, but only to a certain extent.

Economies of Scale

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In Economics, Economies of Scale is a theory for which, as companies grow, they gain cost advantages. More precisely, companies manage to benefit from these cost advantages as they grow, due to increased efficiency in production. Thus, as companies scale and increase production, a subsequent decrease in the costs associated with it will help the organization scale further.

Diseconomies of Scale

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In Economics, a Diseconomy of Scale happens when a company has grown so large that its costs per unit will start to increase. Thus, losing the benefits of scale. That can happen due to several factors arising as a company scales. From coordination issues to management inefficiencies and lack of proper communication flows.

Economies of Scope

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An economy of scope means that the production of one good reduces the cost of producing some other related good. This means the unit cost to produce a product will decline as the variety of manufactured products increases. Importantly, the manufactured products must be related in some way.

Price Sensitivity

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Price sensitivity can be explained using the price elasticity of demand, a concept in economics that measures the variation in product demand as the price of the product itself varies. In consumer behavior, price sensitivity describes and measures fluctuations in product demand as the price of that product changes.

Network Effects

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In a negative network effect as the network grows in usage or scale, the value of the platform might shrink. In platform business models network effects help the platform become more valuable for the next user joining. In negative network effects (congestion or pollution) reduce the value of the platform for the next user joining. 

Negative Network Effects

negative-network-effects
In a negative network effect as the network grows in usage or scale, the value of the platform might shrink. In platform business models network effects help the platform become more valuable for the next user joining. In negative network effects (congestion or pollution) reduce the value of the platform for the next user joining. 

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