## Well-being and income, a European study

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2016
Henn, Julia
##### Publisher
University College Cork
##### Abstract
The economics of well-being is an approach to evaluate well-being which combines the techniques commonly utilised by economists with those typically applied by psychologists (Graham, 2005). It relies on data concerning subjective well-being levels and a more expansive concept of utility than does conventional economics (Graham, 2005). The economics of well-being moves away from the decision utility approach of revealed preferences and measures well-being as the subjective overall assessment of one’s life (Frey & Stutzer, 2000b). Easterlin (1974) pioneered the economics of well-being in the 1970s and finds that although average reported wellbeing levels reveal significant differences within countries, they do not have a strong correlation with average levels of national income. The aim of this thesis is to explore the possible explanations of the apparent contradictory results provided by Easterlin (1974) by using cross sectional data of European residents obtained from the 2008 wave of the European Values Study. The aim of this thesis is achieved by estimating the well-being-income relationship in many different ways. Firstly, Chapter 4 presents an empirical analysis of the importance of absolute, reference and relative income on individual well-being levels in Ireland. Secondly, Chapter 5 examines the existence of a particular income level beyond which a change in the well-being-income relationship occurs in Europe. Thirdly, Chapter 6 assesses the effect of income inequality on well-being levels in Europe. The empirical assessment of this thesis is estimated by applying the ordered probit technique. A self-reported measure of life satisfaction and happiness is employed to measure individual well-being levels. The measurement of these dependent well-being variables are regarded as categorical and ordinal in nature (Ferrer-i-Carbonell & Frijters, 2004). This renders the ordered probit model an applicable estimation method (Borooah, 2002). Numerous explanations, for Easterlin’s (1974) apparent inconsistent results, have been suggested. The most prevalent explanation is that of relative income (Clark et al., 2008). This explanation states that individuals are not merely concerned with their absolute income but also care about their income relative to the income of others. Chapter 4 of this thesis presents an empirical analysis of the importance of absolute, reference and relative income on individual well-being in Ireland. Four primary hypotheses are tested: Firstly, whether individual income results in a positive effect on individual well-being; Secondly, whether reference group income results in a negative effect on individual well-being; Thirdly, whether relative income results in a positive effect on individual well-being; And finally, whether the effect of income on well-being is affected by the different definitions of well-being, namely that of happiness and life satisfaction. Chapter 4 results show a statistically significant positive absolute income coefficient. Thus, in Ireland richer individuals are found to report higher levels of well-being than co-citizens at the bottom of the income distribution. Results show that an increase in absolute income raises the probability of reporting oneself as “very happy” by 7.4%. Reference income results find a negative coefficient illustrating that higher reference group income results in lower subjective well-being. Findings illustrate that an increase in reference income decreases the probability of reporting oneself as “very happy” by 7.2%. A positive relative income coefficient is found. Hence, in Ireland the richer a particular individual is compared to his/her reference group the higher subjective well-being that individual will possess. Results depict that rising relative income increases the probability by 0.1 percentage points of stating the highest happiness level. Reference and relative income findings are however, non-statistically significant. Chapter 4 also identifies that, in the context of considerable similarity, particular variations between the happiness and life satisfaction regression results are found. Primarily, findings illustrate that non-economic conditions have a larger effect on happiness than life satisfaction. Economic conditions however, depict a larger effect on life satisfaction than happiness. Another prevalent explanation for the seemingly opposing Easterlin (1974) results is the modified Easterlin hypothesis. This hypothesis states that upon obtaining a particular income level, enabling the consumption of basic needs, income no longer affects well-being. Chapter 5 of this thesis assesses the validity of this widespread argument by presenting an empirical analysis of the existence of a particular income level beyond which a change in the well-being-income relationship occurs. Two variations of the hypothesis are tested: The first hypothesis, that beyond a particular threshold of basic needs, income is uncorrelated with well-being; the second hypothesis, that the well-being-income relationship determined for poor economies differs from that determined for rich economies. Chapter 5 across nation results, when estimating the well-being-logGDP gradient with a cut off level of per capita gross domestic product (GDP) of $15,000, reject both the first and second hypothesis. A visual examination of a non-parametric fit in the form of a local linear regression shows equivalent findings. Thus, Chapter 5 of this thesis fails to detect a particular GDP level beyond which economic growth has no effect on well-being. The positive correlation between well-being and income is not found to diminish as income increases and thus, the modified Easterlin hypothesis is rejected. An alternative less widespread explanation, for the apparent self-contradictory Easterlin (1974) findings, is that of income inequality. Income inequality is conceptualized as a measure of income division, or dispersion within a particular nation (Billingsley, 2014). Globalization and market capitalism have increased inequality within most nations (Freeman, 2011). Numerous economic empirical studies claim that an increase in income inequality results in a decline in average wellbeing levels. Chapter 6 of this thesis assesses the validity of this finding by presenting an empirical analysis of the effect of income inequality on well-being levels. Three variations of the hypothesis are tested: Firstly, whether income inequality affects aggregate national well-being levels; Secondly, whether the well-being-income inequality relationship determined for low income individuals differ from that determined for high income individuals; And finally, if the effect of income inequality on well-being is affected by the various definitions of well-being: precisely “happiness” and “life satisfaction”. National inequality levels are measured by the Gini coefficient obtained from Eurostat data. When estimating the well-being-income-inequality gradient for all respondents, results in Chapter 6 reveal a highly statistically significant negative relationship. Results depict that an increase in income inequality decreases the probability of reporting oneself as “very happy” by 0.3%.When estimating the well-being-income inequality gradient for both rich and poor respondents, with a cut-off level of annual household income of$15,000, results also identify a highly statistically significant negative relationship. Findings illustrate that an increase in income inequality decreases the probability of poor individuals reporting themselves as “very happy” by 0.2%. Results show that an increase in income inequality decreases the probability of rich individuals reporting themselves as “very happy” by 0.4%. Therefore, irrespective of an individual’s income level, living in a nation which is characterised with high income inequality reduces well-being levels. A vital aim of policy makers is to advance the well-being of citizens (Dolan & White, 2007). However, for this advancement to occur a clear consensus, regarding the wellbeing-income relationship, needs to emerge in economic literature. Using sophisticated econometric techniques this thesis tests the possible explanations of the apparent inconsistent results provided by Easterlin (1974). Therefore, this thesis provides reliable research which may be used when implementing well-being advancing policies.
##### Keywords
Happiness , Income , Health economics , Well-being , Life satisfaction , Income inequality , Reference income
##### Citation
Henn, J. 2016. Well-being and income, a European study. PhD Thesis, University College Cork.