The Index of Economic Well-Being - 1984 - 2006

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					The Index of Economic Well-Being
    - 1984 - 2006




            Lars Osberg
                    Department of Economics,
                    Dalhousie University
                    Halifax, Nova Scotia



            Conference: “Les Indicateurs Locaux de
            Progrès Sociétal"
                     Rennes, France, November 17, 2006.
Origin – a seemingly simple question:
"Are you better off today than you were
four years ago?"

    1980 Ronald Reagan
        1976-80 actual increase in per capita disposable
         income in USA = 8.8%
        Audiences answered “NO!” – WHY ?
    1984 - Osberg Paper for MacDonald
     Commission emphasized:
        Widespread dissatisfaction with GDP as a measure
         of Economic Well-Being and:
        Alternative aggregate measures also sum to a
         single index, burying value judgments
Components of:
Index of Economic Well-Being (IEWB)



Consumption flows       Economic        Economic equality
                        Well-Being
                    Economic security
                      Index of Economic Well-being, Equal Weighting, OECD, 2004
0.8000


                                                                                                                                                     0.7081
0.7000                                                                                                                  0.6716   0.6748    0.6786
                                                                                                0.6565      0.6576
                                                                                      0.6305
                                                                             0.6039
0.6000                                                              0.5709
                                                           0.5429

                                             0.4934
0.5000
                                  0.4610
            0.4405    0.4477


0.4000



0.3000



0.2000



0.1000



0.0000
             United   Australia   Spain    United States   Canada    Italy   Sweden   Finland   Germany   Netherlands   France   Belgium   Denmark   Norway
           Kingdom
Source: Table 1
2006:
„Are “you” better off ?‟

   Who is “you” ?
       Individual or Citizen ?
            Personal well-being – no statistics needed
   Statistics on „well-being‟ are only
    needed if the issue is social
    decision-making
       “Well-being” as “citizen” requires
        information on collectivity
            “Indicateurs Locaux de Progres Societal”
        2006: Real Issue in Social Indicators
        ‘Is the community “better off” ?‟
   As voters or bureaucrats, individuals make
    decisions re: collectivity
      Voting example: I will vote for policy X if

      Ix = 1 (own utilityx) + 2 (society’s well-
       beingx)
      > other alternatives
       Indicators of “Society’s Well-being”
          Needed for individual policy & voting decisions

            Statistics = feedback loop of public policy
   Economic Well-Being - multi-dimensional
       Index should respect heterogeneity
          Values / Preferences
What is the point of Index construction?

   Policy choices must be made
       With multiple outcomes of differing dimensionality
       Affecting many dissimilar individuals


   Objective of index construction:
       To assist democratic discourse by disentangling
          When values differ

          When factual judgments differ

       To enable individuals to make better summative
        subjective judgments on social choices
Dimensions of Economic Well
Being

Concept             Present


Representative      Average Flow of
Agent /             Current Income
“Typical Citizen”



                    Per Capita GDP    Issues: Market
                    or “Adjusted”     transactions only,
                                      heterogeneity,
                    Average Income    stocks
                    Flow
Dimensions of Economic Well Being
Concept           Present


Representative     Average Flow of
Agent /            Current Income
 “Typical Citizen”




Diversity of      Distribution of    Social Welfare
Population        Current Income     Function literature
Experiences                          SWF = f ( ,  )
                  - Poverty and
                  Inequality
Dimensions of Economic Well Being

Concept             Present            Future

Representative      Average Flow of Aggregate
Agent /             Effective Current Accumulation of
“Typical Citizen”   Consumption       Productive
                                      Stocks (broadly
                                      defined)
Issues:             Average Income     Aggregate Savings
                    does not reveal    – not automatically
                    savings rate       optimal, sustainable
                    - assets include   –preferences for
                    environment,       social saving differ
                    Human Capital,     among individuals
                    R&D, etc.
Dimensions of Economic Well
Being
Concept             Present          Future


Representative      Average Flow of Aggregate
Agent/              Effective Current Accumulation of
“Typical Citizen”   Consumption       Productive
                                      Stocks



Diversity of        Distribution of Insecurity of
Population          Current Income: Future Income
Experiences         - Poverty and
                    Inequality
     Heterogeneity in Values
   ECONOMIC WELL-BEING=
      1 CONSUMPTION
    + 2 SUSTAINABILITY / INTERGENERATIONAL
    BEQUEST
    + 3 INCOME DISTRIBUTION / POVERTY
    + 4 SECURITY

   DIFFERENT VALUES WILL IMPLY DIFFERENT WEIGHTS
       Useful to know whether (& how much) perceived trend in
        aggregate well-being depends on weighting

    = 0 is a (strong) value choice

       GDP per capita
            sets 3 = 4 = 0
            assumes 1 AND 2 optimal always
What is Well-Being ?
What is Economic Well-Being?

   Economic Well-Being < Well-Being
   Economic Well-Being > GDP
   Economic output > Marketed $ output
       GDP omits many sources utility
          value household labor

          value of leisure

          length of life, etc.

       GDP includes “regrettable expenditures”
          Costs of pollution, crime, commuting, etc
Human Well-being
- includes well-being from much more than economics
     (e.g. personal freedoms, relationships, spiritual & intellectual
     discovery)
Economic Well-being < Well-being
     - but some aspects of well-being depend on
     tradeoffs in scarce resources – „economic‟



                  Economic
                  Well-being
                         Chart 2: Growth in the Index of Economic Well-being, OECD, 1980-2004 (percentage points)

0.7000
              Level of the Index of Economic Well-being, Equal
              Weighting, 1980
              Percentage Point Change, 1980-2004
0.6000



0.5000



0.4000



0.3000



0.2000



0.1000



0.0000




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Source: Table 1.
Economic Well-being and GDP
     marketed $ output < total goods & services



                         GDP
                          GDP

                  Economic
                  Well-being
“Social regrettables”
 – part of GDP, but not well-being

                                     “Social
                                     regrettables”
                          GDP        - Costs of crime,
                           GDP       pollution, commuting


                   Economic
                   Well-being
GDP per capita
   GDP rigorously standardized across countries
    (SNA) – the clear point of comparison
       Can one do better? Does it make any difference ?
   But - Strong Implicit assumptions when
    used as measure of economic well-being
       aggregate share of income devoted to accumulation
        (including value of unpriced environmental assets)
        automatically optimal
       poverty, inequality & economic insecurity do not matter
       changes in leisure time, length of life, family size, costs
        of commuting, pollution & crime - all irrelevant
   + poor match to popular perceptions of trends in
    economic well-being
Payoff to per capita GDP growth in self-
reported happiness ≈ nil
                 Chart 3: Average Annual Growth of the Overall Index of Economic Well-being and GDP per Capita,
                                                  OECD, 1980-2004 (per cent)
3.50
         Overall Index of Economic Well-being
         GDP per Capita (2000 US dollars)

3.00



2.50



2.00



1.50



1.00



0.50



0.00
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Source: Tables 1 and 2.
Average Consumption Flows $

   Marketed real consumption per capita
       Adjustments
          value of increased longevity of life

          reduced economies of scale in household
           consumption
          changes in working hours – leisure

   Government services
       provision of non-marketed or heavily subsidized
        services
          includes defense and capital consumption
           allowances
          excludes debt service charges and transfer
           payments
                       Chart 4: Total Consumption Flows per Capita, OECD, 2004
                                       (2000 constant US dollars)
35,000
                                                                                                                                                 31,971

30,000

                                                                                                                             26,287   26,422
                                                                                25,175      25,397    25,568        25,632
                                                                      25,033
25,000                                                       23,707
                                         22,481    22,709
                                22,154
                       21,291
             19,362
20,000



15,000



10,000



  5,000



      0
             Finland   Spain    Sweden   Germany   Denmark   Canada   Belgium   Australia    Italy   Netherlands    United   France   Norway   United States
                                                                                                                   Kingdom
Source: Table 3.
Wealth Stocks, Sustainability and
Intergenerational Bequest $
   Physical capital stock from SNA
   State of environment and national heritage
    (degradation -)
       cost of CO2 emissions @ $ 85 per tonne
   Value of natural resource stocks
       price + quantity change
   Stocks of human capital
       Evaluated at cost of schooling
   Research and development capital stock
   Net foreign indebtedness (-)

   NOTE: Real productive assets only
                                    Chart 5: Total per Capita Wealth, OECD, 2004 (2000 constant US dollars)

140,000
                                                                                                                                                              127,524
                                                                                                                                                122,909
                                                                                                                                      118,598
120,000                                                                                              113,762     114,307    115,484
                                                                                          107,528
                                                                  101,945     101,997
                                                        99,006
100,000                                        95,238
                                    87,723
                          82,324
               79,524
 80,000



 60,000



 40,000



 20,000



     0




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 Source: Table 4
Income Distribution Index
   How to summarize “Distribution”?
       Simplicity desirable if index to be used
       Poverty & Inequality differ, but both matter
   Inequality
       Gini coefficient
          After-tax & transfer household income
                                 familysize
          Equivalence scale =

   Poverty
       Sen-Shorrocks-Thon measure
          Rate
          Average poverty gap ratio
          Intensity = rate x gap



   Index = 0.75*Poverty + 0.25*Inequality
                                                               Chart 6: Index of Equality, OECD, 2004

0.9000
                                                                                                                                                                       0.8287

0.8000

                                                                                                                                                    0.7186   0.7231
                                                                                                                                       0.7027
                                                                                                                         0.6894
0.7000                                                                                                        0.6665
                                                                                                  0.6344
                                                                                    0.6153
0.6000


                                                                       0.4903
0.5000

                                                  0.3965      0.4056
0.4000                              0.3616


0.3000                    0.2636


0.2000     0.1783



0.1000


0.0000
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Source: Table 5.
Universal Declaration of Human
Rights - 1948

   [25] “Everyone has the right to a standard of
    living adequate for the health and well
    being of himself and of his family, including
    food, clothing, housing and medical care
    and necessary social services, and the right
    to security in the event of unemployment,
    sickness, disability, widowhood, old age or
    other lack of livelihood in circumstances
    beyond his control.”
    “Economic Security”

   Risk of income loss due to unemployment
       changes in employment rate x UI coverage x UI
        replacement rate
   Risk of financial loss due to illness
       Uninsured medical expenses as % disposable income
   Risk of single parent poverty
       poverty rate & gap for single women with children
       divorce rate of legally married couples
   Risk of poverty in old age
       chance x depth of elderly poverty
         “Economic Security”

   Risk of loss due to unemployment
       Risk of Unemployment + E(financial loss|unemployment)
   Financial Risk of Illness
       Unreimbursed private medical expenses as share of
        disposable income
   Risk of single parent poverty
       Divorce rate x poverty rate x poverty gap of single parents
   Risk of poverty in old age
       chance x depth of elderly (>65) poverty
   Security risks weighted by relevant population size
             Security from Unemployment

   Original method – financial loss implied by
    compound probability
    =P(U)*P(B|U)*(E(B/W)
          Assumes components matter equally
          Decline UI/EI coverage has big impact on trends

   New literature on self-reported happiness
       Di Tella, MacCulloch, Oswald (2003) “The Macro Economics of Happiness” RESTAT
            Ordered Probit life satisfaction – n= 271,224

   Recover Implicit weights on Unemployment
    Rate and Unemployment Benefits
   This paper: Unemployment rate = 4x UIBen
                  = .8*(scaled Unemp) + .2*(scaled P(B|U)*(E(B/W))
                                               Chart 7: Index of Economic Security, OECD, 2004

 0.9000


 0.8000                                                                                                                                                                 0.7746
                                                                                                                                                          0.7238
                                                                                                                                 0.6950     0.7080
 0.7000                                                                                                   0.6766        0.6809
                                                                                0.6523      0.6642
                                                        0.6146      0.6192
 0.6000                                   0.5642

                                 0.5102
 0.5000


 0.4000

                      0.3134
 0.3000

            0.2030
 0.2000


 0.1000


 0.0000
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Source: Table 6.
Does it matter?
How different is trend in IEWB & GDP?

   Trend in IEWB depends partly on
    how heavily current consumption is
    weighted compared to:
       Sustainability / accumulation
       Income Distribution
       Security
   Excel data sheet available for
    experimentation @
       http://www.csls.ca/iwb.asp
      Figure 2a: The Index of Economic Well Being and its Components in the United
      Kingdom, 1980-2001

0.9
0.8
0.7
0.6
0.5
0.4
0.3
0.2
0.1
  0
   80
   81
   82
   83
   84
   85
   86
   87
   88
   89
   90
   91
   92
   93
   94
   95
   96
   97
   98
   99
   00
   01
 19
 19
 19
 19
 19
 19
 19
 19
 19
 19
 19
 19
 19
 19
 19
 19
 19
 19
 19
 19
 20
 20
             Consumption Flows          Wealth Stocks               Equality Measures
             Economic Security          Economic Well-being Index
    Policy Implications ?
   Much less gain in economic well-being
    than in real GDP per capita 1980-2004
   Major reason has been growth in
    inequality & insecurity
        Reducing Inequality & Insecurity was the
         major objective of the welfare state
        BUT de-emphasized in recent years
   Social Policy Design should aim at
    increasing Well-Being
The role of the natural environment


                        Natural
                        Capital




                                      EWB
                                            GDP
Physical Investment

                      Natural
  Produced
                      Capital
  Capital




                                EWB
                                      GDP
Human and Social Capabilities


       Produced
                            Natural Capital
        capital



      Human and Social
        Capabilities

                                                    GDP

                                              EWB
The role of knowledge/skills

       Produced
                         Natural Capital
        capital



     Human and Social
       Capabilities

    Human                                        GDP
    capital                                EWB
A DIGRESSION
Definitions
   Human Capital
     “The knowledge, skills, competencies
      and attributes embodied in individuals
      which facilitate the creation of personal,
      social and economic well-being


   Social Capital
      “Networks together with shared norms,
       values and understandings which
       facilitate co-operation within or among
       groups”
The role of networks/social norms

      Produced
                            Natural Capital
       capital



    Human and Social
      Capabilities

   Human                                            GDP
                  Social
   capital        capital                     EWB
Close ties between human and social capital

      Produced
                            Natural Capital
       capital



    Human and Social
      Capabilities

   Human                                      EWB
                  Social                            GDP
   capital        capital
The role of institutions

        Produced
                                  Natural Capital
         capital



     Human and Social
       Capabilities

    Human                                                 GDP
                        Social
    capital             capital                     EWB

     Political, institutional
    and legal arrangements
    Produced
                              Natural Capital
     capital



 Human and Social
   Capabilities

Human                                                 GDP
                    Social
capital             capital                     EWB

 Political, institutional
and legal arrangements
    Produced
     capital                  Natural Capital



 Human and Social
   Capabilities

Human                                                 GDP
                    Social
capital             capital                     EWB

 Political, institutional
and legal arrangements
In both 1984 & 2006
– why do we care if indicator goes „up‟ ?

    Standard Indicators have ambiguous
     relation to Well-being
        GDP per capita excludes leisure,
         environment & more
        Hourly wages ? Employment ?
             Not valued directly – but indicate a more
              fundamental objective
                  Wage = price of labour;
                     potential consumption? Market „power‟?

                  Unemployment = unused labour;
                     insecurity? Social exclusion ?
Methodology

   Variables now scaled linearly
       Consistent with other indices (e.g. HDI)
       Solves “Directionality Problem”
          (Max – value)/(Max – Min)

          OR (Value – Min)/(Max-Min)

       Problems:
          Reporting trends as % change or % points

          Scaling removes base – sensitive to comparison
           group
   “Base Case” assigns equal weight to all
    dimensions
       Excel data sheet available for experimentation
          http://www.csls.ca/iwb.asp

				
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