ECON3991 Mt. A. -Winter 2010 Economics of Motivation Zeno of Citium (334 BC 262 BC) Epicurus: (341BC 270 BC) 1 Prepared by Dr. Maryam Dilmaghani
Economics & Motivation-1 As a Decision Science, Economic Theory studies both Motivation and Choice. The main current framework devised for Motivation is the Cardinal Interpretation of Utility Theory (the Ordinal interpretation is more suitable for choice once one has decided/motivated to take action. Starting from Easterlin 1974 paper and the Easterlin Paradox, a increasingly another frame work is considered by the economists in their study of Motivation and Decision making, interchangeably called Happiness, Life Satisfaction or Subjective Well-being (SWB). 2
Economics & Motivation-2 Therefore, this topic is divided in two parts: Part I: Cardinal Utility & Motivation Part II: Subjective Well-being and Motivation 3
Part 1: Cardinal Utility and Motivation L to R: Bernoulli (1700-1782); Bentham (1748 1832); Mill (1806-1873) Expected utility hypothesis (first proposed by Bernoulli ): http://en.wikipedia.org/wiki/expected_utility_hypothesis 4
Utilitarianism-1 Utilitarianism is the idea that the moral worth of an action is determined solely by its contribution to overall utility: that is, its contribution to happiness or pleasure as summed among all people. It is thus a form of consequentialism, meaning that the moral worth of an action is determined by its outcome. The origins of utilitarianism are often traced as far back as the Greek philosopher Epicurus, but, as a specific school of thought, it is generally credited to Jeremy Bentham. 5
Utilitarianism-2 Jeremy Bentham: Nature has placed mankind under the governance of two sovereign masters, pain and pleasure. It is for them alone to point out what we ought to do, as well as to determine what we shall do. Bentham proposed a classification of 12 pains and 14 pleasures and 'felicific calculus' by which we might test the 'happiness factor' of any action. In words of Jeremy Bentham the sovereignty of pleasure and pain is not only positive but also normative; in this sense it is a version of hedonism. 6
Utilitarianism-3 John Stewart Mill said in Utilitarianism (book): It is better to be a human dissatisfied than a pig satisfied; better to be Socrates dissatisfied than a fool satisfied. For Mill therefore the utilitarianism is positive only but also subject to human control (preferring pain over pleasure if there is a good reason). 7
Cardinal Utility-1 In economics, cardinal utility is a theory of utility in which the degree of satisfaction gained from a particular good or service can be measured and that the magnitude of the measurement is meaningful. Under cardinal utility theory, the util is a unit of measurement much like the meter or second. A util has a fixed size, making comparisons based on ratios of utils possible. This theory began with Daniel Bernoulli's approach to modeling human behavior, in the 18th century. 8
Cardinal Utility-2 An act that reduces one person's utility by 75 utils while increasing two others' by 50 utils each has increased overall utility by 25 utils and is thus it is a positive contribution. But unlike distance one cannot simply use a ruler to measure satisfaction. It is not simple to definitively say whether a good is worth 50 or 75 utils to a person, or if it is worth the same utils to two different people. In order to remedy this problem a few thinkers of the late XIX and early XX century decided to start the ordinalist revolution that relies on observed behavior for the sake of scientific objectivity. 9
Cardinal Utility: Example-1 Suppose C t is consumption at period t (a year) and U t (C t )=ln(c t ) is the utility of this consumption. Then the objective of an individual is to maximize the sum of U t (C t ) over his or her life time by choosing the right sequence of C t. It is widely assumed that the higher the consumption level the lower the contribution of extra consumption to utility. This is a behavioural assumption. 10
Cardinal Utility: Example-2 Utility How plausible the conception of Cardinal Utility is to capture motivation? Consumption 11
Marginal Utility MU(x) Declining marginal utility is a common behavioural assumption in cardinal utility conception. Quantity of x 12
Cardinal utility in Neoclassical Economics Cardinal Utility is still used in the following areas: (i) Intertemporal Choice (ii) Decision under uncertainty In other cases Ordinal Utility (Preferences; Indifference Curve) replaced cardinal Utility and the observable choice allows inferring utility (preferences). 13
Some challenges to Utilitarianism Main stream Economic assumption of utility stemming from one s own consumption (or wealth) is challenged also by: Concerns for others lot summarized by emotions and behaviours related to altruism, avarice and egalitarianism. Human motivation for activities that cannot be easily interpreted in terms of consumption and wealth such as religiosity and engaging in dangerous (sportive) activities. 14
Psychology and motivation-1 Psychoanalysis (Sigmund Freud) According to Freud, all behavior is motivated by the desire to feel pleasure. That motivation is organized and directed by two instincts: sexuality (Eros), and aggression (Thanatos). Freud conceptualized both these instincts as being powered by a form of internal psychic energy that he called the libido. Libido is the pleasure principle, or basic psychic energy. 15
Psychology and motivation-1 Analytical psychology (Carl Jung) Jung's disagreement with Freud started over the latter's emphasis on sexuality alone as the dominant factor in unconscious motivation. Jung considers man made of many conflicting motivations. The Self as Jung defines it is the core or central element that keeps these contradictory forces operating as an integrated whole. According to Jung the individual has within himself a psycho-biological potential, an individual pre-formed core that asks to evolve completely: the central motivation of human beings is the realization of their own individuality. 16
Psychology and motivation-3 Evolutionary Psychology Survival and reproduction necessities constitute the core of all animals motivation. Such assumption about motivation in combination with the natural necessities to realize the objective of survival and reproduction can explain the structure of human mind s instincts. More complex means of human mind should be explained as byproduct (exadaption) of these main structures outgrowing from them. 17
Evolutionary Psychology and Motivation Human Great Apes Memetic: Symbolic Coalition through Culture Coalition formation Relationship maintenance & Parental care Size of Neocortex Mating Self-Protection Size of Social System 18
Philosophical difficulty of the issue It is difficult to propose an exhaustive set for human motivation without running into the question of the nature of human existence. This question is increasingly controversial with no prospect of immediate resolution of the conflict among competing opinions. Economics although is less touched by the issue as it deals with a subset of questions (economic ones) faced by mankind can not abstract from it entirely especially with the current scope of economic analysis. 19
Humanist View of Motivation 20
Economics and other motivations The most organized attempt to initiate economists to accounting for the motivations (sources of satisfaction) other than consumption and wealth has been done through the field of economics of happiness or subjective wellbeing (SWB). Economists have been long reluctant to use these survey questions in their studies because: (i) the objectivism of economics and rejection of subjective elements in satisfaction. (ii) Relying only on observed behavior rather than an individual s own rating of satisfaction. Economics of Happiness can also be seen the return of cardinal interpretation of utility into economics. 21
Subjective Wellbeing (SWB) and Economics-1 The path-breaking contribution by Easterlin (1974) was noted by many economics scholars, but at the time found few followers. General interest in the measurement and the determinants of subjective reported well-being has been raised by a symposium in 1997 (organized by Robert Frank and Oswald). Since the late 1990s, economists have started to contribute large scale empirical analyses of the determinants of happiness in different countries and periods. This research is potentially helpful in understanding foundation of human motivation. 22
SWB and Economics-2 Contribution of SWB to Economics In the most economic conceptions utility (ordinal or cardinal) stems from one s own consumption of material goods or wealth. These conceptions relies on the assumptions that other possible motives are negligible for the behaviours of interest to economics. This view has been seriously challenged especial by the finding that is now known as Eastelin Paradox. 23
Conclusion The theoretical conceptions behind cardinal utility as it is used in economics was reviewed. The basis of Economics of Happiness was reviewed. Some challenges to Utility such as concern for others lot and non-consumption based motivations were also enumerated. 24
Part II: Economics of Subjective Well-being (Happiness) 25
Lecture s Goal The relationship between Wealth and Happiness (Subjective Well Being in Theory and based on empirical research. Comparing empirical literature. Review the possible corrections that can help economic model corresponds to empirical observation. 26
Data on SWB-1 Public opinion surveys since 1950s contain a question in which respondents should rank their subjective well being (SWB). Accepting the view according to which happiness is a subjective notion best assessed by the individual then happiness can be captured and analyzed: people can be asked how satisfied they are with their life. There are Variants of this question depending on the survey. The wording and the spectrum is not the same. So far it has been between 1-3; 1-5 or 1-7 levels of SWB. 27
Data on SWB-2 General Social Survey (GSS): Taken all together how would you say things are these days - would you say that you are very happy, pretty happy, or not too happy? World Values Survey (WVS): All things considered, how satisfied are you with your life as a whole these days? Eurobarometer (EB): Surveys, covering all members of the European Union, asks a similar question: On the whole, are you very satisfied, fairly satisfied, not very satisfied, or not at all satisfied with the life you lead? 28
Data and Measurement As subjective survey data are based on individuals judgments, they are prone to a multitude of systematic and non-systematic biases. It therefore needed to be checked whether people are indeed capable and willing to give meaningful answers to questions about their well-being. Moreover, reported subjective well-being may depend on the order of questions, the wording of question, scales applied, actual mood and the selection of information processed. Reliability studies have found that reported subjective well-being is moderately stable and sensitive to changing life circumstances. 29
SWB and Measurement Error-1 Measurement errors, as well as unobserved characteristics, are captured in the error term ε. They are the source of potential biases as discussed in the following sections on unobserved personality traits and correlated measurement errors. However, many mistakes in people s answers are random and thus do not bias the estimation results. This holds true for the order of questions, the wording of questions, actual mood, etc. 30
SWB and Measurement Error-2 A measurement error perspective suggests that the inferences can be clouded by unobserved personality traits that influence individuals socio-demographic and socioeconomic characteristics, as well as how they respond to subjective well-being questions. For instance, people doing voluntary work report higher life satisfaction. But volunteering does not necessarily make people happier. If extraverted people volunteer more often, and it is taken into consideration that extraverts tend to report higher satisfaction scores. Non-sampling errors are, however, not always uncorrelated with the variables of interest. 31
Estimation of SWB Provided that reported subjective well-being is a valid and empirically adequate measure for human well-being, it can be modeled in a micro-econometric happiness function for Panel Data structure: SWB it = α + βx it +δlny it + ε it that is estimated by ordered Probit or Logit. X = x 1,..., x n are known variables like social, demographic and economic characteristics, as well as institutional constraints on individual i at time t. The model allows us to analyze each factor that is correlated with reported subjective well-being separately. 32
Cardinal Utility Suppose C t is consumption at period t (a year) and U t (C t )=ln(c t ) is the utility of this consumption. Then the objective of an individual is to maximize the sum of U t (C t ) over his or her life time by choosing the right sequence of C t. It is widely assumed that the higher the consumption level the lower the contribution of extra consumption to utility. This is a behavioural assumption. 33
Implication of Cardinal Utility-1 Absolute, usual utility used in economic models Utility MU(C) Consumption (C) Quantity of C 34
Implication of Cardinal Utility-2 There is no saturation level for consumption of wealth therefore higher wealth should perpetually increase utility and therefore satisfaction with life. And: (i) (ii) (iii) As a country s GDP grows over time life satisfaction should also increase. All else equal in a given country wealthier individuals should be happier Wealthier countries should be happier than poorer countries. 35
Easterlin Paradox The Easterlin Paradox come from Richard Easterlin s 1974 paper "Does Economic Growth Improve the Human Lot? Some Empirical Evidence. Easterlin found that within a given country, people with higher incomes are more likely to report being happy. However the average self-reported level of SWB does not vary much with national income per capita, at least for countries with income sufficient to meet basic needs. And although income per capita rose in the US between 1946 and 1970, average reported SWB showed no long-term trend, and declined between during 1960s. 36
37 SWB and Income per Capita USA
SWB and Income per Capita: World Developing Developed High SWB Low SWB 38
Economic Gowth, Wealth and Happiness Explanations offered for Easterlin paradox Easterlin proposes that a person s happiness depends not on absolute current income, but on own income relative to other people (a reference group) in the same time period, and to the person s own income in past periods (adaptive expectations). It is supposed that these two factors can help explaining the lack of strong relationship between increase in national income and mean national level of subjective wellbeing. 39
Issues with Wealth and Happiness 1. Hedonic treadmill: Adaptive Expectation 2. Social Comparison 9relative income hypothesis) Karl Marx, Wage Labour and Capital (1847): A house may be large or small; as long as the neighboring houses are likewise small, it satisfies all social requirement for a residence. But let there arise next to the little house a palace, and the little house shrinks to a hut. The little house now makes it clear that its inmate has no social position at all to maintain. 40
Hedonic Treadmill Brickman and Campbell coined the term "Hedonic Treadmill" in their essay "Hedonic Relativism and Planning the Good Society" (1971) According to the hedonic treadmill, as a person makes more money, expectations and desires rise in tandem, which results in no permanent gain in happiness. Humans rapidly adapt to their current situation, becoming habituated to the good or the bad. We are more sensitive to our relative status: both that which we recently have and that which we perceive others to enjoy. 41
Paper by Easterlin 2001-1 The Second paper after the pioneering paper in 1974. Trying to propose a unifying theory to explain stylized facts below on the relationship between income (wealth and SWB): Slight positive correlation (0.20) between Income (Individual and Household) and happiness. People generally tend to believe that they have been less happy in the past and will be happier in the future. Life cycle pattern: happiness does not increase with age while income increases; as income declines with retirement happiness does not decline 42
Paper by Easterlin 2001-2 Easterlin postulates that the relationship between income and SWB is also a function of Aspiration Level. (i) (ii) There are various aspiration levels are possible for each individual. Along each aspiration level the relationship between income and SWB is positive. (iii) For any given level of income the relationship between aspiration level and SWB is negative. It is plausible to think that aspiration level rises over time for an individual. 43
Paper by Easterlin 2001-3 SWB as a function of Income(Y) and Aspiration Level (A) SWB A 1 A 2 SWB 1 A 3 SWB 2 y 1 y 2 Income (Y) 44
Paper by Easterlin 2001-4 Question: How to measure aspiration? Easterlin uses education level by Cohort. Educational attainment means different things given the cohort but it is plausible to think that it affects aspiration level within each cohort: higher education means higher aspiration level of income. He found evidences that the positive impact of increase in wealth on SWB declines as aspiration level rises. 45
Descriptive Statistic from Canadian data Ethnic Diversity Survey (EDS), 2004 SWB Level Percentage Mean Individual Income 1 1.21 26,640 16,767 2 2.27 28,115 20,831 3 13.25 29,933 21,692 4 37.58 34,326 25,489 5 45.69 32,946 24,534 Mean Household Income/Head 46
A simple test of this theory-1 Suppose : SWB = Aspiration i β 0i + β 1 Ln(Income) Then Aspiration i is a dummy variable taking the value of 1 for each given level of aspiration and zero otherwise. As such one can estimate different intercepts for the relationship between income and SWB. 47
A simple test of this theory-2 I used parents education as aspiration level (EDS, 2004). Three Aspiration groups have been considered: 1. Less than high school 2. High school or slightly above 3. University Education Aspiration Level 1 4.18 2 4.13 3 4.14 Intercept This means that is income is constraint to have same impact on SWB then the intercepts (starting pints) should be different. 48
Another Explanation: Focusing Illusion First Proposed by Kahneman (Economic Nobel Laureate 2001) The focusing effect (or focusing illusion) is a believed to be general cognitive bias that occurs when people place too much importance on one aspect of an event, causing an error in accurately predicting the utility of a future outcome. Data shows that a rise in income has only a small and transient effect on happiness and wellbeing, but people consistently overestimate this effect. Kahneman et al. proposed that this is a result of a focusing illusion, with people focusing on conventional measures of achievement rather than on everyday routine 49
Newer Findings in SWB Many of recent research has utilized many different forms of measuring happiness, including biological measures, showing similar patterns of results in relationship between happiness and wealth. In 2003 and 2008 a few new articles were published and their conclusion was that there is no paradox and countries get indeed happier with increasing income without any saturation-level. In his reply Easterlin maintained his position, pointing that the critics were using inadequate data 50
I. WEALTH AND HAPPINESS REVISITED-1 An article by Michael R. Hagerty and Ruut Veenhoven (2003) They test the absolute utility theory against two alternatives: (i) Adaptive expectation: comparison with one s own past income: SWB it = α + βx it +δ [lny it - ln y is ] Where lny it income at time t and ln y is is some of income in the past. (ii) Social comparison with a reference groups income: SWB it = β[ ln(y it *)-μ ] /σ Μ is mean income of the rference group. 51
I. WEALTH AND HAPPINESS REVISITED-2 They add developing countries to the sample expected to show the highest impact of rise in income on happiness. They find support for absolute utility theory as well as adaptive expectation theory. Mainly they find that short term impact of a rise in income on happiness in higher than its long-run impact. 52
Economic Growth and Subjective Well-Being: Reassessing the Easterlin Paradox Article by Stevenson and Wolfer (2008) They claim that their findings shed doubt on Easterlin and other finding on the impact of adaptation and social comparison: There appears to be a very strong relationship between subjective well-being and income, which holds for both rich and poor countries, falsifying earlier claims of a satiation point at which higher GDP per capita is not associated with greater well-being. Easterlin has responded by criticizing the methodology used in data analysis. 53
Other Determinants of Happiness (SWB) Other than Income per capita, Wealth and Social status: Familial status; Number of children etc: Friends and social networks Health Education Meanings of Life Political situation and social capital in the society 54