How Can We Make Wellbeing at the Centre of Public Policy If We Dont Measure It?

When the Minister of Finance announced in the 2018 budget that in the future economic policy would focus more on wellbeing, many saw a glimmer of hope that we were moving away from the mechanical thinking which underpinned Rogernomics/neoliberalism. Thus far, the promise has been aspirational with little sign of a significant change to the policy framework.

Ironically, though, the government was confronted with the issue with arrival of the covid virus. Unlike many countries, it chose to emphasise wellbeing over the economy and with good management, attention to the science and a bit of luck, did much better than many others did, both in terms of dealing with the virus and, to the surprise of many, in terms of narrow economic performance.

You may recall that there were naysayers critical of the lockdown, which they evaluated by its impact on GDP. Many made assumptions which proved to be wildly wrong, but even had they been right, the naysayers were judging the policy by a quite different criterion from wellbeing or, as they might put it, they equated wellbeing with economic output.

The equation does not make sense. To clear away some debris, GDP measures output not income (which differs if there are changes in the terms of trade and border transaction costs). GDP measures gross output including capital depreciation. It measures output in a country, not the income of those in the country. (One ambiguity is to what extent temporary visitors and recent arrivals should be included. It is possible that all the output gains in the Key-English decade accrued to the recent arrivals.)

Adjust for these, and the relevant national accounting concept is National Income (NI). The naysayers are likely to say that GDP and NI follow the same track (but beware of the issues mentioned in the last sentence of the previous paragraph). What they really mean, but forgot to tell us, is that they think income equated to wellbeing.

Income is no longer a good measure of wellbeing. This is a recent research finding which has surprised the economics profession. Historically, economists assumed that higher income resulted in greater wellbeing. That no longer seems as true in affluent economies. Age, employment status, gender, health, marital status and (even) ethnicity are all more important.

Economic policy has little impact on most of these variables; perhaps that tells the profession it should be humble. However, the evidence is that employment status (such as being stressfully unemployed) is more important than income.

It is true that people with higher incomes than others report higher wellbeing (measured, say, by happiness) but not by much. However (and surprisingly), raising across-the-board incomes in an affluent economy does not raise across-the-board wellbeing.

What seems to have happened is that when the paradigm was being fashioned in the early nineteenth century with its were much lower levels of affluence, a rise in income did improve wellbeing; that remains true in poorer countries – much poorer than New Zealand. Which means that anyone who thinks GDP is an overall measure of wellbeing is stuck back in the nineteenth century.

It also seems from the research that there are significant immediate wellbeing gains from income increases for those on the lowest incomes in New Zealand. (There are likely to be other longer-term gains in health and education for children.)

Even if we stick to income, aggregates measured by GDP or NI are not equity-neutral but favour the rich. When economics tried to avoid interpersonal comparisons, it shifted to a ‘Pareto’ criterion that an increase in output was a good thing because the output could be allocated as the distribution authority saw fit. However, practically, we operate on the principle that any redistribution will reduce output because of the deadweight loss from taxation. Practically, redistribution is discouraged.

Amartya Sen pointed out that this approach assumes that a dollar to a rich person has the same social value as a dollar to a poor person. (That is an assumption which has been sneaked in, despite the alleged avoidance of interpersonal comparisons.) He suggests that a better assumption would be to treat a one percent increase in income to a rich person the same as a one percent increase in income to a poor person, and he proposed a measure which he called 'real national income'

I made an imperfect attempt to calculate changes in RNI. It suggests that real private incomes based on the dollar-is-a-dollar measure rose 1.2 percent p.a.  between 1982 and 2018. But because of the rise in inequality (which means incomes rose faster for the rich than the poor), on a percent-is-a-percent basis the annual increase was 1.0 percent, a sixth lower. We should not be surprised that a pro-rich distributional policy shows a lower increase in wellbeing than GDP according to the Sen measure.

There are other weaknesses from focusing upon GDP and its allies when we are assessing the economy. For instance, since wellbeing is substantially reduced by stressful unemployment (which is a different notion from the conventional unemployment measure and probably includes dire underemployment) the amount of stressful unemployment should be included in any aggregate measure of wellbeing.

Does it matter? We could construct a better measure of wellbeing but – well – doing that has not been a priority. The consequences is that public discussion inevitably defaults to another measure – GDP, which is a very poor measure of wellbeing. Most users will forget – if they ever knew – its limitations.

This is not really a prediction. It already happens. And whatever the aspirations of this government – which need not be followed by a successor government – that is how it will happen until we introduce a superior measure of aggregate wellbeing and place it firmly in the centre of macroeconomic policy and discussion.

Addendum: Any measure of the current state of wellbeing for macroeconomic policy purposes applies at a point in time. Trying to include sustainability in it will destroy any meaning. Instead, two supplementary indicators are needed.

First, there is a need for a measure of financial sustainability, more robust than the government-debt-to-GDP ratio. (You dont really think that the credit rating agencies arrive here, check the ratio has been calculate correctly and go home. They do a thorough review of the entire financial situation.)

Second, there is a need for an indicator of environmental sustainability, especially as reducing carbon emissions impacts on macroeconomic policy. This is quite different from the (usually uninformed) attempts to extend GDP to cover the environment. (The trick which determines the measure’s outcome is how the environment is valued. If the value is high, then the indicator goes down, if it is low the indicator rises - funny that.)