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Happiness, Deprivation and the Alter Ego
Paolo Verme
Department of Economics ‘S. Cognetti de Martiis’, University of Torino
July 2010
Paolo Verme Happiness, Deprivation and the Alter Ego
Background
Happiness, utility and income
The Easterlin paradox
Relative income
A few stylized facts
1 Income matters but:2 Decreasing marginal returns for states and people3 Relative income and the reference group4 Aspirations and Expectations
Paolo Verme Happiness, Deprivation and the Alter Ego
This paper
How do people evaluate income? The income utility function
The role of relative deprivation and income inequality
The ‘Alter Ego’ model of income utility
An empirical application of the model with CHER data
Value added1 Comprehensive framework2 Income satisfaction Vs. Life satisfaction3 Personal income Vs. GDP per capita4 Richer data set5 Econometric issues
Paolo Verme Happiness, Deprivation and the Alter Ego
Theory
Smith, Marx and relativity
Stouffer et al. (1948) and the American Soldier. Theimportance of relative deprivation
Davis (1959) relative deprivation and the reference group.Within (fairness) and between (social distance: relativesubordination and relative superiority) comparisons
Leibeinstein (1962) theory of democracy. Pure Paretocomparisons (only income), Share of the pie comparisons(only rank) and Compromise Pareto comparison (both).
Runciman (1966) theory of social justice. Relative deprivationwhen someone: 1) Does not have X ; 2) Sees some otherperson or persons as having X ; 3) Wants X and 4) Sees it asfeasible to have X .
Paolo Verme Happiness, Deprivation and the Alter Ego
Theory (cont...)
Gurr (1968) theory of deprivation and civil strife. Distancebetween expectations and capabilities is relative deprivation
Karapetoff (1903) progress curve. Expectations and the roleof speed of change in shaping expectations
Davies (1962) theory of revolutions. Revolutions occur duringpost-growth recessions. Growth creates expectations andrecessions crash these expectations
Hirschman and Rothtschild (1973) tunnel effect. The role ofincome mobility and inequality in the short and long-term
Paolo Verme Happiness, Deprivation and the Alter Ego
Ingredients
Absolute income
Relative income
Absolute changes in income
Marginal changes in income
Income inequality
Rank
Aspirations and Expectations
Relative income deprivation
The reference group
Paolo Verme Happiness, Deprivation and the Alter Ego
Measuring Relative Deprivation
Yitzhaki (1979), Berrebi and Silber (1985), Chakravarty(1995): Measuring relative deprivation. Lack of feelings andlack of selection mechanism of the reference group
Festinger (1954), Nagel (1974) and Panning (1983): Thetendency of two individuals to compare their own wealth withthat of the other varies inversely with the difference in theirwealth. Selection mechanism.
Clark and Oswald (1996), Verme and Izem (2008), Silber andVerme (2009), Verme (forthcoming). Relative deprivationwith selection of the reference group based on income(absolute), predicted incomes (expected) and rank (relative)
Paolo Verme Happiness, Deprivation and the Alter Ego
Happiness and income models
Clark et al. (2008)
Ui ,t = U(u1(Yi ,t), u2(Yi ,t/Y ∗t )) (1)
where: i=individual; t= present time; Y = income; Y ∗=Relativeincome (where relative income can be interpreted as one own pastincome or a “moment” income of the reference group).
Paolo Verme Happiness, Deprivation and the Alter Ego
An alternative value model of income
Paolo Verme Happiness, Deprivation and the Alter Ego
The ‘Alter Ego’ model
Ui ,t = U(ue(Yi ,T ), ua(Y ∗t )) (2)
where:Ui ,t = Individual utility at the present time;Yi ,T = Individual income through time with T = (t − 1, t, t + 1)1;Y ∗t = Income of a reference group at the present time;ue(.) = Evaluation function of the ‘Ego’ system andua(.) = Evaluation function of the ‘Alter’ system.
Note: Utility=Happiness=Income satisfaction. We consider bothindividual income and GDP per capita.
1For simplicity, we model the past as t − 1 and the future as t + 1.Paolo Verme Happiness, Deprivation and the Alter Ego
The ‘Ego’ value system
UEi ,t = U(Yi ,t−1,Yi ,t ,E (Yi ,t+1)) (3)
E (Yi ,t+1) = f (∆Yi ,t ,∆Y ∗t ,∆GDP/capt) (4)
E (Yi ,t+1) = Yi ,t(1 + (((∆Yi ,t + ∆Y ∗t + ∆GDP/capt)/3)) (5)
UEi ,t = U(Yi ,t ,E (Yi ,t+1)) (6)
Paolo Verme Happiness, Deprivation and the Alter Ego
The ‘Alter’ value system
UAi ,t = U(Yi ,t ,Y
∗t , ri ,t) (7)
RD = [...1/n...]′G [...si ...]− [...1/n...]′G [...wi ...] (8)
where: [...1/n...]′ is the row vector of population weights; G = isthe ‘G’ matrix as defined in Silber1994 - A square matrix with all‘0’ along the diagonal, all ‘1’ above the diagonal and all ‘-1’ belowthe diagonal; [...si ...] is the column vector of shares of incomesorted in descending order of incomes and [...wi ...] is the columnvector of shares of predicted incomes sorted in descending order ofincomes. Thus, the observed utility of the ‘Alter’ system is reducedto:
UAi ,t = U(RDIi ,t) (9)
Thus, we capture income, the reference group, rank and incomeexpectations into one measure and avoid collinearity problems inempirical applications.
Paolo Verme Happiness, Deprivation and the Alter Ego
Observed utility in an ‘Alter Ego’ framework
Aggregating the ‘Ego’ and ‘Alter’ systems we obtain the observedincome utility function:
Ui ,t = U(Yi ,t ,E (Yi ,t+1),RDIi ,t ,Zi ,t) (10)
where Ui ,t is the observed satisfaction with income and Zi ,t is avector of variables controlling for other non-income factorsaffecting satisfaction with income.Our purpose is now to measure the elasticity of income satisfactionto changes in the factors of the utility function.
Paolo Verme Happiness, Deprivation and the Alter Ego
Data and Sample
Consortium of Household Panels for European Socio-economicResearch (CHER).
Collection of panel survey data sets whose variables have beenharmonized into a consistent data set
19 panel studies carried out between 1990 and 2001 andtotaling over 1.2 millions individual observations
Individuals in age 30-50 with a declared working time of atleast 15 hours per week and with positive incomes.
Only panel observations in 2nd+ years
193,000 observations, 94 country/year points
Thanks to CEPS/INSTEAD Luxembourg for finance and data
Paolo Verme Happiness, Deprivation and the Alter Ego
Empirical specification
Si ,t = α + β1(ln(Yi ,t)) + β2(ln(E (Yi ,t+1))) + β3(ln(RDIi ,t))+γ1(Xi ,t) + γ2(Cc) + γ3(Tt) + ηi ,t
(11)
Pooled world sample
Dep.Var.: Satisfaction with income (5 steps)
Income: Annual real income in USD PPP equivalent
Key Vars: Income, expected income and relative deprivation
Controls: Age, Gender, Education, Marital status, Householdsize, Professional status (self-employment and stateemployment)
Estimator: Ordered logit model, robust standard errors,country and year fixed effects
Paolo Verme Happiness, Deprivation and the Alter Ego
Results 1 - Linearity
Paolo Verme Happiness, Deprivation and the Alter Ego
Results 2 - Collinearity
Paolo Verme Happiness, Deprivation and the Alter Ego
Results 3 - Income Expectations by Quantile
Paolo Verme Happiness, Deprivation and the Alter Ego
Conclusion
The ‘Alter Ego’ system as an alternative model of incomeutility
Expected income and relative deprivation as core concepts forthe ‘Ego’ and ‘Alter’ systems
Absolute income sits at the cross-section between the ‘Ego’and ‘Alter’ systems, both theoretically and empirically. Mostimportant predictor of income satisfaction
Once we control for absolute income, the relation betweenincome satisfaction and expected income becomes complex toassess, non linear and overall rather weak
Relative deprivation critical in reducing significantlysatisfaction with income in line with relative income theories
The ‘Alter’ value system (the comparison with others)dominates the ‘Ego’ value system (the comparison withoneself) in explaining satisfaction with income
Paolo Verme Happiness, Deprivation and the Alter Ego