27/5/15: Creative Destruction vs Subjective Individual Wellbeing

There is one persistent question in economics relating to the issues of aggregate income attained in the economies: the connection between that income and happiness. In other words, does higher per capita GDP or GDP growth increase happiness?

A new paper by Aghion, Philippe, Akcigit, Ufuk, Deaton, Angus and Roulet, Alexandra M., titled "Creative Destruction and Subjective Wellbeing" (April 2015, NBER Working Paper No. w21069 http://www.nber.org/papers/w21069) looks at this matter. The authors "…analyze the relationship between turnover-driven growth and subjective wellbeing, using cross-sectional MSA level US data. We find that the effect of creative destruction on wellbeing is

1. unambiguously positive if we control for MSA-level unemployment, less so if we do not; 
2. more positive on future wellbeing than on current well-being; (
3. more positive in MSAs with faster growing industries or with industries that are less prone to outsourcing; 
4. more positive in MSAs within states with more generous unemployment insurance policies."

A bit more colour.

Existent literature

As noted by the authors, "…the existing empirical literature on happiness and income looks at how various measures of subjective wellbeing relate to income or income growth, but without going into further details of what drives the growth process. In his 1974 seminal work, Richard Easterlin provides evidence to the effect that, within a given country, happiness is positively correlated with income across individuals but this correlation no
longer holds within a given country over time."

This is known as the Easterlin paradox and there are several strands of explanations advanced: "…the idea that, at least past a certain income threshold, additional income enters life satisfaction only in a relative way… Recent work has found little evidence of thresholds and a good deal of evidence linking higher incomes to higher life satisfaction, both across countries and over time. Thus in his cross-country analysis of the Gallup World Poll, Deaton (2008) finds a relationship between log of per capita GDP and life satisfaction which is positive and close to linear, i.e. with a similar slope for poor and rich countries, and if anything steeper for rich countries. Stevenson and Wolfers (2013) provide both cross-country and within-country evidence of a log-linear relationship between per capita GDP and wellbeing and they also fail to find a critical "satiation" income threshold.3 Yet these issues remain far from settled…"

One common problem with all of the literature on links between income and wellbeing is that "…none of these contributions looks into the determinants of growth and at how these determinants affect wellbeing. In this paper, we provide a first attempt at filling this gap."

Theory:

To address this problem, the authors "look at how an important engine of growth, namely Schumpeterian creative destruction with its resulting flow of entry and exit of firms and jobs, affects subjective wellbeing differently for different types of individuals and in different types of labor markets."

The authors "develop a simple Schumpeterian model of growth and unemployment to …generate predictions on the potential effects of turnover on life satisfaction. In this model growth results from quality-improving innovations. Each time a new innovator enters a sector, the worker currently employed in that sector loses her job and the firm posts a new vacancy. Production in the sector resumes with the new technology only when the firm has found a new suitable worker. …In the model a higher rate of turnover has both direct and indirect effects on life satisfaction. The direct effects are that, everything else equal, more turnover translates into both, a higher probability of becoming unemployed for the employed which reduces life satisfaction, and a higher probability for the unemployed to find a new job, which increases life satisfaction. The indirect effect is that a higher rate of turnover implies a higher growth externality and therefore a higher net present value of future earnings: this enhances life satisfaction."

Four theoretical model predictions are:

1. "Overall, a first prediction of the model is that a higher turnover rate increases wellbeing more when controlling for aggregate unemployment, than when not controlling for aggregate unemployment."
2. "…higher turnover increases wellbeing more, the more turnover is associated with growth-enhancing activities. 
3. "…higher turnover increases wellbeing more for more forward-looking individuals." 
4. "…higher turnover increases wellbeing more, the more generous are unemployment benefits".

Data:

The authors test theoretical predictions based on actual US data.

"Our main finding is that the effect of the turnover rate on wellbeing is unambiguously positive when we control for unemployment. This result is …remarkably robust. In particular it holds: (i) whether looking at wellbeing at MSA-level or at individual level; (ii) whether looking at the life satisfaction measure from the BRFSS or at the …Gallup survey; (iii) whether using the BDS or the LEHD data to construct our proxy for creative destruction."

"We also find that the positive effect of turnover is stronger on anticipated wellbeing than on current wellbeing. On the other hand, creative destruction increases individuals' worry - which reflects the fact that more creative destruction is associated with higher perceived risk by individuals."

"…When interacting creative destruction with MSA-level industry characteristics; we find that the positive effect of turnover on wellbeing is stronger in MSAs with above median productivity growth or with below median outsourcing trends."

"Finally, we find that higher turnover increases wellbeing more in states with unemployment
insurance policies that are more generous than the median."

28/6/2014: Who are the Joneses?

Dahlin, Maria Björnsdotter and Kapteyn, Arie and Tassot, Caroline paper "Who are the Joneses?" (June 2014. CESR-Schaeffer Working Paper No. 2014-004. http://ssrn.com/abstract=2450266) attempts to answer a very important question in economics of individual perceptions and referencing of own well-being relative to well-being of others. The study tackles an issue that forms the core of a number of macroeconomic models, but also of relevance to the active debate about relative poverty and relative incomes.

"A burgeoning literature investigates the extent to which self-reported well-being (or happiness) or satisfaction with income is negatively related to the income of others" or the Joneses. "In many of the empirical studies, the assumption is that the incomes that matter are those of other individuals or households in the same geographical area." In other words - physical proximity is of the matter.

"In an experiment conducted in the American Life Panel, we elicit the strength of comparison with different groups, including neighbors, individuals of similar age and coworkers."

Fascinating findings emerged:

1. "Individuals are much more likely to compare their income to the incomes of their family and friends, their coworkers and people their age than to people living in the same street, town, in the US, or in the world." In other words, we reference our own well-being against well-being of those close to us socially and family-wise, not those who physically live near us, but are strangers to us. A relatively rich uncle may be inducing greater dissatisfaction onto us, than a filthy rich neighbour. In which case, were relative poverty be a concern, taxing family members on higher incomes is better than taxing everyone on higher incomes. Which, of course, would be an absurd policy.
2. "…we find both at the zip code and at the PUMA geographic level that own income or rank in the local income distribution matter for happiness and satisfaction with income, but incomes in the same geographic region do not influence own happiness when controlling for own income."  
3. "When asking respondents directly for how they rate the position of own and others’ income we find that higher estimates of neighbors’ income are negatively related with satisfaction with own income. Additionally, respondents who compare more intensively with their neighbors perceive the difference between their own income and that of their neighbors to be larger." So we do rate strangers' income relative to our own. Just not as much as we rate relatives' and friends' income relative to our own.
4. "Using age-based reference groups instead of geography-based reference groups, we find a consistent negative effect of the log median income and the perceived income in an individuals’ age group". In other words, the Joneses that we 'benchmark' ourselves against are more likely to be those from similar/shared cohort, in this case - cohort by age. The old do not begrudge, as much, the young, but they do begrudge other old.

"Overall, these results indicate that comparisons with neighbors may not be the most important channel through which perception of others’ income impacts one’s own well-being."

In other words, relative benchmarking matters, but it strength varies with familial and social ties, and matters less in terms of proximity. As I noted, half-jokingly, above: a richer uncle induces more negative referencing even if he lives in a distant community, than a richer neighbour who flaunts her/his wealth in our face.