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Wednesday, 25 January 2012

The economics of well-being

The economics of well-being

Once-airy talk of replacing GDP with metrics of happiness is gaining credibility in important circles
by Justin Fox Jan 25, 2012

Money isn't everything. But for measuring national success, it has long been pretty much the only thing. The specific metric that has prevailed since World War II is the dollar value of a country's economic output, expressed first as gross national product, later as gross domestic product.

The era of GNP and GDP has been characterised by a huge global rise in living standards and in wealth. At the moment, though, GDP is embattled. Economists and national leaders are increasingly talking about measuring a country's status with other metrics and even with a squishy-seeming concept like "happiness".

A 2009 study on alternatives to GDP, commissioned the year before by French President Nicolas Sarkozy and led by the economists Amartya Sen, Joseph Stiglitz and Jean-Paul Fitoussi, has become a global wonk sensation.

Although the replacing-GDP discussion may seem a little airy, its growing credibility in important circles could give it a real impact on economic policy. And it parallels efforts in some boardrooms to use new metrics to measure overall success.


For its original purpose - measuring short-term economic fluctuations - GDP is not likely to be supplanted anytime soon. When one moves beyond short-term ups and downs, though, things get more complicated.

Compiling GDP involves making a lot of choices, and even reasonable choices can lead to skewed results. Statisticians understandably favour goods and services that are bought and sold over economic activities whose value must be estimated.

Such things as unpaid household work, although of great economic importance, are left out of the calculations. And the value of government programmes, including health care, is generally underrepresented.

GDP also can't distinguish between economic activities that increase a nation's wealth and ones that eat into its natural endowments, result in sickness and future clean-up costs, or merely ameliorate disasters whose costs are never accounted for.


Many things of value in life cannot be fully captured by GDP, but they can be measured by metrics of health, education and the like. In the 1980s Sen began to distinguish between "commodities", which show up in GDP, and "capabilities", which do not.

A few years later, in a project spearheaded by Mahbub Ul Haq, a friend from his university days, Sen was able to put the idea into practice. The result was the most successful effort thus far to supplant GDP.

Ul Haq was a top adviser to Robert McNamara at the World Bank in the 1970s, served as Pakistan's Finance Minister in the 1980s and joined the UN Development Programme in 1989. He had long been frustrated by how hard it was for Pakistan and other poor nations to make progress as measured solely by GDP, so he concocted a project to better track development, roping in Sen and several other prominent economists to help.

The group decided to supplement GDP with data on life expectancy and educational attainment. And they combined the numbers into an index that allowed them to rank countries.

The first human development index, published in 1990, put the US - at the time far in the lead in terms of per capita GDP - in 10th place, behind Japan, Australia and several small European countries. It also identified a few nations - Vietnam and China were the standouts - that with respect to living standards were punching well above their economic weight. The HDI is now a dominant metric in development circles.

The HDI has spawned legions of imitators, from single-issue rankings such as the Heritage Foundation's Index of Economic Freedom to broad measures of well-being such as the Legatum Institute's Prosperity Index. Anybody with enough statistical skills and time on his hands can now construct national rankings to match his priorities.


An alternative to crunching data sets to produce an index is to find better ways of presenting them.

In the late 1990s, after decades of practising medicine in the developing world, Hans Rosling began teaching a course in global health at Sweden's Karolinska Institute. As he struggled to convey the complex story of the progress he had witnessed, he enlisted his son and daughter-in-law - both artists - to help. The result was software, since acquired by Google, that animates the movement of different indicators over time. Complete with Rosling's narration, it makes a compelling alternative to GDP rankings.

The idea that economic and other data can be better presented with a dashboard of indicators than as a single number is very much in the air among experts and policymakers. In Sarkozy's 2009 report on alternatives to GDP, the word "dashboard" appears 78 times. But the notion of dashboards hasn't captured the public's imagination. What has is a word that shows up only 29 times in the Sarkozy report: "Happiness".

The recent emergence of behavioural economics, which takes psychological research seriously, has caused an explosion of surveys about happiness and well-being. The trend has been fuelled by the example of Bhutan, where the former King, Jigme Singye Wangchuck, began talking about gross national happiness in the 1970s, shortly after he came to power.

A 1987 interview with the Financial Times alerted the world to his views - sending a parade of happiness pilgrims to Bhutan and spurring the King to eventually convert GNH into something tangible enough to measure with development indicators and polling data.


The psychologist and behavioural economics pioneer Daniel Kahneman has been working with the economist Alan Krueger (now the head of President Barack Obama's Council of Economic Advisers) on creating "national time accounts" in the US. These would combine time-use surveys conducted by the Bureau of Labor Statistics since 2003 with measures of economic value and maybe even happiness.

The concept applies its own number-crunching precision to the study of well-being, but it uses different numbers - minutes. What's more, there's no obvious reason for interest groups to oppose it.

There are limits, though, to how far the Bureau of Economic Analysis is willing to go. A 2010 paper by several BEA officials concluded that any GDP expansion should "focus on economic aspects of non-market and near-market activities ... and not attempt to measure the welfare effect of such interactions." Even then, they warned, "it is critical that such an expansion of the scope of the accounts not occur at the expense of funds needed to maintain, update and improve the existing GDP accounts."

Money can't buy happiness. But it could perhaps buy the ability to measure it.
source: Harvard Business School Publishing Corp. (Distributed by The New York Times Syndicate)

Justin Fox is the author of The Myth of the Rational Market and the editorial director of the Harvard Business Review Group.

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