In the past decades, a great interest has emerged in understanding the nature of people’s well-being beyond consumption opportunities. It is widely believed that happiness research based on self-reports on people’s satisfaction with life has made a significant contribution to this understanding. The growing numbers of happiness studies provoke the question whether, and eventually how, public economists should include well-being considerations into policy analysis. Aiming to contribute in answering this question, this review paper provides a survey of the general happiness conception, the formative steps of happiness research, and its relationship to the economic concepts of ordinal and cardinal utility. We furthermore describe the pitfalls of conventional utility approaches and find that both the ordinal and the cardinal approaches have shortcomings which are not shared by happiness measurements. One advantage is that self-reports on well-being reflect the consequences of people’s choices in terms of the well-being they eventually experience. Externalities, as well as the effects of bounded rationality, are inherently taken account of when using happiness measurements for the evaluation of public policies. While it is not entirely clear yet how evidence from happiness research is to be used towards enlightening policy makers, the answer will certainly depend on the policy field under consideration. In general, happiness research may make two major inroads: it may help to discover which conditions foster people’s well-being, besides the goods and services provided by the market; it may also help to develop a realistic conception of man, thus facilitating an adequate modeling of multiple-goal and potentially bounded rational real-life actors in policy impact analysis.
This is a preview of subscription content, access via your institution.
Buy single article
Instant access to the full article PDF.
Price includes VAT (USA)
Tax calculation will be finalised during checkout.
Consumer demand theory is based on the indifference curve approach which only requires an ordinal measurement of preferences, i.e., a measurement which is unique up to monotonic increasing transformations. A crucial finding of demand theory is that people consume bundles of goods in which the marginal rate of substitution between any two goods equals their reciprocal price ratio (equi-marginal principle). In its specific domain of explaining how consumer choice translates into price, demand theory is rightly satisfied with ordered preferences following “Occam’s Razor” according to which—given the same explanatory power—the most parsimonious approach should be selected.
Neglecting this fact may lead to misunderstandings and wrong conclusions. Nonetheless, such misinterpretations seem to have a long tradition. As far back as the 1960s, Robinson (1962: 49) apparently felt obliged to clarify the limitation of the equi-marginal principle in consumer theory: “It is the desire, not the satisfaction, that is measured by price, yet the idea of satisfaction cannot be kept out.”
The initiate economist knows that demand theory tries to explain how choices that are made translate into demand and, finally, prices. He/she also knows that demand theory was never meant to answer the question which choices should be made by individuals who strive to maximize their utility. The fact, however, that demand theory uses the term “utility” may give rise to serious misunderstandings and exercise a misleading influence on people’s real behavior; if economists steadily equate revealed preferences for higher incomes with increasing levels of utility, for instance—without emphasizing that this would only hold if the observed behaviors were completely rational—people who are looking for decision support may take this conditional statement as guidance that they should strive for higher incomes if they want to increase their utility.
Cardinal measurement can be equated with an “interval scale” (cf. theory of scale-type; Stevens 1946). That is, while intervals between numbers can be meaningfully compared within each transform of the scale, ratios of the numbers are meaningless.
With the dimensions “fecundity” and “purity” Bentham wanted to capture future consequences, i.e., the probability that a sensation is followed by the same kind (fecundity) or not followed by the opposite kind (purity).
Cardinal utility was the starting point of (Old) Welfare Economics in the Gossen (1854/1983) and Pigouvian tradition (Pigou 1920) which adds decreasing marginal utility of income to the assumption that individual utilities are comparable and can be aggregated. If efficient social choice is about maximizing the sum of individual utilities, decreasing marginal utility is an argument for egalitarian redistribution of income.
Conventional social surplus analysis (Varian 1992) and simple willingness-to-pay approaches are sometimes understood as measuring interpersonally comparable cardinal utilities based on people’s preferences. This is not quite correct, however. While they resort to monetary measures that are, as such, cardinal, one cannot infer interpersonally comparable cardinal utilities from people’s preferences as revealed or stated in their willingness-to-pay if one assumes that marginal utility decreases in income. Social surplus and cost-benefit analyses can thence at best approximate aggregate utility changes.
Differing cultural and linguistic backgrounds and related questions of “good taste” may be an important reason why measurement functions are both non-linear and differing between groups of people. Notwithstanding their true happiness, Japanese people, for instance, may give answers to a happiness question that differ widely from those of supposedly more extrovert South American people.
Applying consequentialism to utility/happiness implies that it is understood in its broad sense in that the utility/happiness derived from an action’s outcome (utility of outcome) and the utility/happiness derived from the action itself (procedural utility) are considered.
Kahneman and Krueger (2006: 4) state in this context: “While various measures of well-being are useful for some purposes, it is important to recognize that subjective well-being measures features of individuals’ perceptions of their experiences, not their utility as economists typically conceive of it.”
Graham (2008) argues that the relationship between health and happiness roughly mirrors the income happiness relationships as described by the Easterlin-paradox. She reports that although serious illness or disabilities have strong negative effects on happiness, people (partially) adapt and return to their initial level of happiness. A longitude study by Oswald and Powdthavee (2008) also confirms that people adapt to permanent shocks to their health. However, by focusing on people who become disabled, the two scholars also find that the degree of adaption depends on the severity of the disability.
This can be related to the finding that both perception and intuitive evaluation are reference-dependent and that changes are more accessible than absolute values. According to Kahneman (2003: 1455), it is thus “quite surprising that in standard economic analyses the utility of decision outcomes is assumed to be determined entirely by the final state of endowment, and is therefore reference-independent.”
Other externalities of a highly unequal wealth and income distribution include a reduction of the pleasantness of everyday social life, an imminent threat to public safety, and the costs of target hardening, including the need perceived by wealthy citizens to live in gated communities (Wilkinson and Picket 2009).
The “day-reconstruction method” is a methodical variation that is to be situated in between “instant experience sampling,” on the one hand, and asking people about their retrospective feelings at large, on the other. The day-reconstruction method asks “subjects to recall the various things they did on the preceding day and describe the mood during each activity” (Bok 2010: 32).
We refer to the distinction by Veenhoven (2009). Within Sen’s capability approach (Sen 1979, 2010), the term “capability” is conversely used as a superordinate term that encompasses both the quality of the individual’s intrinsic abilities and the quality of the environmental and social resources that are at his/her disposal.
Cohen et al. (2003), for instance, report that people who describe themselves as being happy are more resilient to colds. Diener and Seligman (2004: 1) conclude after a review of studies on subjective well-being that “outcomes, even economic ones, are often caused by well-being rather than the other way around.” Reviewing several happiness studies regarding marriage (Bok 2010: 17) also avers that causation runs both ways: happy people are more likely to get married, and marriage increases people’s happiness. Inglehart (2006; cited after Bok 2010: 23) found that both effects can even be found for the quality of government: happy people sustain and improve the quality of government, and good governments make people happy.
It should be noted that the inclusion of both formative indicators (that are related to the conditions/determinants of well-being) and reflective indicators (that measure the well-being outcome) into one single index generates a fundamental methodological problem. Even for purely descriptive purposes, the outcome “well-being” should be clearly distinguished from its determinants, and any index aimed at approximating well-being should utilize either determinants or outcomes in order to avoid double counting.
Various other national and local government bodies have started to broaden their statistical reporting systems. The Office for National Statistics in the UK has included well-being questions in its ongoing household surveys in 2011. The province of Alberta in Canada uses a composite of 64 existing statistics (including work hours and incidence of violent crime) called “Canadian Index of Well-being.” Similarly, the states of Maryland and Vermont in the US use an index called “Genuine Progress Indicator” to measure sustainable prosperity (Wolverson 2012: 45).
Other members of the commission included: Bina Agarwal, Kenneth J. Arrow, Anthony B. Atkinson, François Bourguignon, Jean-Philippe Cotis, Angus S. Deaton, Kemal Dervis, Marc Fleurbaey, Nancy Folbre, Jean Gadrey, Enrico Giovannini, Roger Guesnerie, James J Heckman, Geoffrey Heal, Claude Henry, Daniel Kahneman, Alan B. Krueger, Andrew J. Oswald, Robert D. Putnam, Nick Stern, Cass Sunstein, and Philippe Weil.
We refer to the definition by Braithwaite et al. (2007: 3). “Governments and governance are about providing, distributing, and regulating. Regulation can be conceived as that large subset of governance that is about steering the flow of events and behavior, as opposed to providing and distributing. Of course, when regulators regulate, they often steer the providing and distributing that regulated actors undertake as well.”
In light of findings from happiness research, Easterlin (2013) for instance concludes that policies should focus on full employment and establishing a comprehensive social safety net.
This question is part of a more general debate on the right balance between personal freedom and the enforcement of collective rules by governments. This has been a controversial issue ever since Hobbes’ (1651) distinction between the (anomic) state of nature “where every man is enemy to every man” (Hobbes’ 1651: Chapter XIII) as opposed to a social contract by which the right to enforce rules (monopoly on the use of force) has been ceded to a sovereign authority (the LEVIATHAN or state).
It has been noted that subjective well-being data can be used to complement conventional methods of environmental valuation, such as stated willingness-to-pay analyses (Dolan and White 2007; Frey and Stutzer 2009). Modeling life satisfaction as a function of income, noise, air quality or other variables is one example (e.g., Luechinger 2009; van Praag and Baarsma 2005). The money that is required to compensate people for noise pollution or other disturbances (“compensating variation”) can then be determined by observing the rate of substitution between income and the variable of interest that leaves life satisfaction constant.
This can be taken as an argument to interpret cross country comparison with caution such as those in which the inhabitants of Columbia are found to be amongst the happiest people on earth on average (Inglehart et al. 2008). Sen (1987: 45–46) writes in this context: “A person who has had a life of misfortune, with very little opportunities and rather little hope, may be more easily reconciled to deprivations than others reared in more fortunate and affluent circumstances […]. The hopeless beggar, the precarious landless laborer, the dominated housewife, the hardened unemployed or the over-exhausted coolie may all take pleasures in small mercies, and manage to suppress intense suffering for the necessity of continuing survival, but it would be ethically deeply mistaken to attach a corresponding small value to the loss of their well-being because of this survival strategy.”
Alchian, A. (1953). The meaning of utility measurement. American Economic Review, 43(1), 26–50.
Australian Bureau of Statistics. (2011). Measures of Australia’s progress 2011. Is life in Australia getting better? http://www.ausstats.abs.gov.au/ausstats/free.nsf/vwLookupSubject/1370.0.55.001~2011~Measures%20of%20Australia%27s%20Progress%202011%20-%20Summary%20information~137055001_2011_Brochure.pdf/$File/137055001_2011_Brochure.pdf. Accessed March 27, 2014.
Bentham, J. (1776). A fragment on government. http://www.constitution.org/jb/frag_gov.htm. Accessed March 27, 2014.
Bentham, J. (1789/2000). An introduction to the principles of morals and legislation. Kitchener: Batoche Books.
Binmore, K. (2009). Interpersonal comparison of utility. In H. Kincaid, et al. (Eds.), The Oxford handbook of philosophy of economics (pp. 540–559). Oxford: Oxford University Press.
Bok, D. C. (2010). The politics of happiness: What government can learn from the new research on well-being. Princeton: Princeton University Press.
Braithwaite, J., Coglianese, C., & Levi-Faur, D. (2007). Can regulation and governance make a difference? Regulation & Governance, 1(1), 1–7.
Cahill, M. B. (2005). Is the human development index redundant? Eastern Economic Journal, 31(1), 1–5.
Cohen, S., Doyle, W. J., Turner, R. B., Alper, S. M., & Skoner, D. P. (2003). Emotional style and susceptibility to the common cold. Psychosomatic Medicine, 65(4), 652–657.
Deutscher Bundestag. (2013). Abschlussbericht Projektgruppe 2 “Entwicklung eines ganzheitlichen Wohlstands- bzw. Fortschrittsindikators”. Kommissionsdrucksache 17(26)87. http://www.bundestag.de/bundestag/gremien/enquete/wachstum/Kommissionsdrucksachen/87_Abschlussbericht_PG_2.pdf. Accessed April 30, 2013.
Di Tella, R., & MacCulloch, R. (2006). Some uses of happiness data in economics. Journal of Economic Perspectives, 20(1), 25–46.
Diener, E., Gohm, C. L., Suh, E., & Oishi, S. (2000). Similarity of the relations between marital status and subjective well-being across cultures. Journal of Cross-Cultural Psychology, 34(4), 419–436.
Diener, E., Lucas, R. E., Schimmack, U., & Helliwell, J. (2009). Well-being for public policy. Oxford: Oxford University Press.
Diener, E., & Seligman, M. E. P. (2004). Beyond money. Towards an economy of wellbeing. Psychological Science in the Public Interest, 5(1), 1–31.
Dolan, P., & Kahneman, D. (2008). Interpretation of utility and their implications for the valuation of health. The Economic Journal, 118, 215–234.
Dolan, P., & Metcalfe, R. (2012). Measuring subjective wellbeing: Recommendations on measures for use by national governments. Journal of Social Policy, 41(2), 409–427.
Dolan, P., & Peasgood, T. (2008). Measuring well-being for public policy: Preferences or experiences? The Journal of Legal Studies, 37(S2), S5–S31.
Dolan, P., Peasgood, T., & White, M. (2008). Do we really know what makes us happy? A review of economic literature on the factors associated with subjective well-being. Journal of Economic Psychology, 29(1), 94–122.
Dolan, P., & White, M. P. (2007). How can measures of subjective wellbeing be used to inform public policy. Perspectives on Psychological Science, 2(1), 71–85.
Easterlin, R. A. (1974). Does economic growth improve the human lot? Some empirical evidence. In P. David, et al. (Eds.), Nations and households in economic growth: Essays in honour of Moses Abramovitz (pp. 89–125). New York and London: Academic Press.
Easterlin, R. A. (2013). Happiness, growth, and public policy. Economic Inquiry, 51(1), 1–15.
Edgeworth, F. Y. (1881/1967). Mathematical psychics. An essay on the application of mathematics to the moral sciences. New York: A.M. Kelley.
European Commission. (2009). Communication from the Commission to the Council and the European Parliament. GDP and beyond. Measuring progress in a changing world. COM(2009)433. Brussels.
European Commission. (2010). Communication from the Commission to the European Parliament, the Council, the European Economic and Social Committee and the Committee of the Regions. Smart Regulation in the European Union. COM(2010)0543. Brussels.
Frank, R. H. (1999). Luxury fever: Money and happiness in an era of excess. New York: Free Press.
Frey, B. S., & Stutzer, A. (2002). Happiness and economics: How the economy and institutions affect human well-being. Princeton: Princeton University Press.
Frey, B. S., & Stutzer, A. (2007). Economics and psychology: Development and issues. In B. S. Frey, et al. (Eds.), Economics and psychology. A promising new cross-disciplinary field (pp. 3–15). Cambridge and London: MIT Press.
Frey, B. S., & Stutzer, A. (2009). Should national wellbeing be maximized? In A. K. Dutt, et al. (Eds.), Happiness, economics and politics: Towards a multi-disciplinary approach (pp. 301–323). Cheltenham and Northampton: Edward Elgar.
Frey, B. S., & Stutzer, A. (2010). Happiness and public choice. public Choice, 144, 557–573.
Frey, B. S., & Stutzer, A. (2012). The use of happiness research for public policy. Social Choice and Welfare, 38(4), 659–674.
Gossen, H. H. (1854/1983). Entwickelung der Gesetze des menschlichen Verkehrs, und der daraus fließenden Regeln für das menschliche Verhalten (The laws of human relations and the rules of human action derived therefrom). Cambridge: MIT Press.
Graham, C. (2008). Happiness and health: Lessons—And questions—For public policy. Health Affairs, 27(1), 72–87.
Gunningham, N., Grabosky, P., & Sinclair, D. (1999). Smart regulation: Designing environmental policy. Oxford: Oxford University Press.
Hands, D. W. (2010). Economics, psychology, and the history of consumer choice theory. Cambridge Journal of Economics, 34(4), 633–648.
Harsanyi, J. (1955). Cardinal welfare, individual ethics, and the interpersonal comparison of utility. The Journal of Political Economy, 63(4), 309–321.
Hobbes, T. (1651). Leviathan or the matter, forme and power of a commonwealth ecclesiastical and civil. http://oregonstate.edu/instruct/phl302/texts/hobbes/leviathan-contents.html. Accessed March 27, 2014.
Houthakker, H. S. (1950). Revealed preference ad the utility function. Economica, 17(66), 159–174.
Inglehart, R. (2006). Democracy and happiness: What causes what? Paper presented at the conference was on human happiness, October 22–24, 2006, Notre Dame. http://www3.nd.edu/~adutt/activities/documents/InglehartHappinessandDemocracy1.pdf. Accessed March 27, 2014.
Inglehart, R., Foa, R., Peterson, C., & Welzel, C. (2008). Development, freedom, and rising happiness. A global perspective (1981–2007). Perspective on Psychological Science, 3(4), 264–285.
Kahneman, D. (2003). Maps of bounded rationality: Psychology for behavioral economics (revised version of Nobel Prize lecture 2002). The American Economic Review, 93(5), 1449–1475.
Kahneman, D., & Krueger, A. B. (2006). Developments in the measurement of subjective wellbeing. Journal of Economic Perspectives, 20(1), 3–24.
Kahneman, D., & Riis, J. (2005). Living, and thinking about it: Two perspectives on life. In F. A. Huppert, et al. (Eds.), The science of well-being (pp. 285–304). New York: Oxford University Press.
Kahneman, D., & Tversky, A. (1979). Prospect theory: An analysis of decisions under risk. Econometrica, 47(2), 263–291.
Kahneman, D., Wakker, P. P., & Sarin, R. (1997). Back to Bentham? Explorations of experienced utility. Quarterly Journal of Economics, 112(2), 375–405.
Kirkpatrick, C., & Parker, D. (2007). Regulatory impact assessment: An overview. In C. Kirkpatrick, et al. (Eds.), Regulatory impact assessment. Towards better regulation? (pp. 1–16). Cheltenham: Edward Elgar.
Krueger, A. B., Kahneman, D., Fischler, C., Schkade, D., Schwarz, N., & Stone, A. A. (2009). Time use and subjective well-being in France and the U.S. Social Indicators Research, 93(1), 7–18.
Layard, R. (2003). Has social science a clue? Income and happiness: Rethinking economic policy. Lecture held at the Lionel Robbins memorial lecture series, March 3–5, 2003, London. http://eprints.lse.ac.uk/47427/1/__libfile_REPOSITORY_Content_Layard_Has%20social%20science%20a%20clue%20income%20and%20happiness_Has%20social%20science%20a%20clue%20income%20and%20happiness%20%28LSE%20RO%29.pdf. Accessed March 27, 2014.
Layard, R. (2007). Happiness and public policy: A challenge to the profession. In B. S. Frey, et al. (Eds.), Economics and psychology. A promising new cross-disciplinary field (pp. 155–167). Cambridge and London: MIT Press.
Levinson, A. (2013). Happiness, behavioral economics, and public policy. NBER working paper no. 19329. http://www9.georgetown.edu/faculty/aml6/pdfs&zips/HappinessPolicy.pdf. Accessed March 27, 2014.
Luechinger, S. (2009). Valuing air quality using the life satisfaction approach. The Economic Journal, 119(536), 482–515.
New Economics Foundation. (2012). The happy planet index: 2012 report. A global index of sustainable well-being. London. http://www.happyplanetindex.org/assets/happy-planet-index-report.pdf. Accessed March 27, 2014.
Nussbaum, M., & Sen, A. (Eds.). (1993). The quality of life. Oxford University Press.
OECD Organisation for Economic Cooperation and Development. (2013a). OECD guidelines on measuring subjective well-being. http://www.oecd.org/statistics/Guidelines%20on%20Measuring%20Subjective%20Well-being.pdf. Accessed March 27, 2014.
OECD Organisation for Economic Cooperation and Development. (2013b). Executive summary. http://www.oecdbetterlifeindex.org/about/better-life-initiative/. Accessed March 27, 2014.
OECD Organisation for Economic Cooperation and Development. (2013c). Index data. http://www.oecdbetterlifeindex.org/about/better-life-initiative/. Accessed March 27, 2014.
Oswald, A. J., & Powdthavee, N. (2008). Does happiness adapt? A longitudinal study of disability with implications for economists and judges. Journal of Public Economics, 92(5–6), 1061–1077.
Pareto, V. (1920/1971). Manuale di economia politica (Manual of political economy). New York: A.M. Kelley.
Pigou, A. C. (1920). The economics of welfare. London: Macmillan.
Randall, A. (2002). Valuing the outputs of multifunctional agriculture. European Review of Agricultural Economics, 29(3), 289–307.
Robbins, L. (1952). An essay on the nature and significance of economic science (2nd ed.). London: Macmillan.
Robinson, J. (1962). Economic philosophy. Chicago: Aldine Pub. Co. Digitized by Google from the Library of University of Michigan. Open Library OL5854367 M.
Samuelson, P. A. (1937). A note on measurement of utility. Review of Economic Studies, 4(2), 155–161.
Samuelson, P. A. (1938). A note on the pure theory of consumers’ behavior. Economica, 5(17), 61–71.
Schkade, D. A., & Kahneman, D. (1998). Does living in california make people happy? A focusing illusion in judgments of life satisfaction. Psychological Science, 9(5), 340–346.
Sen, A. (1979). Equality of what? Lecture held at the Tanner lectures on human values, May 22, 1979, Stanford. http://www.uv.es/~mperezs/intpoleco/Lecturcomp/Distribucion%20Crecimiento/Sen%20Equaliy%20of%20what.pdf. Accessed March 27, 204.
Sen, A. (1987). On ethics and economics. Oxford: Blackwell Publishings.
Sen, A. (2010). The idea of justice. London: Penguin Books.
Stevens, S. S. (1946). On the theory of scales of measurement. Science, 103(2684), 677–680.
Stiglitz, J. E., Sen A., & Fitoussi, J. P. (2009). Report by the Commission on the Measurement of Economic Performance and Social Progress. http://www.stiglitz-sen-fitoussi.fr/documents/rapport_anglais.pdf. Accessed March 27, 2014.
Stiglitz, J. E., Sen, A., & Fitoussi, J. P. (2010). Mismeasuring our lives: Why GDP doesn’t add up. New York: The New Press.
Tversky, A., & Kahneman, D. (1991). Loss aversion in riskless choice: A reference-dependent model. Quarterly Journal of Economics, 106(4), 1039–1961.
UNDP United Nations Development Programme. (1990). Human development report 1990. New York: Oxford University Press.
Ura, K., Alkire, S., & Zangmo, T. (2011). Case study: Bhutan Gross National Happiness and the GNH index. In J. Helliwell, R. Layard, et al. (Eds.), The world happiness report (pp. 108–159). http://www.earth.columbia.edu/sitefiles/file/Sachs%20Writing/2012/World%20Happiness%20Report.pdf. Accessed March 27, 2014.
van Praag, B. M. S., & Baarsma, B. E. (2005). Using happiness surveys to value intangible goods: The case of airport noise. The Economic Journal, 115(500), 224–246.
Varian, H. R. (1992). Microeconomic analysis (3rd ed.). New York: Norton.
Veenhoven, R. (2000). The four qualities of life. Ordering concepts and measures of the good life. Journal of Happiness Studies, 1(1), 1–39.
Veenhoven, R. (2009). Measures of happiness. Concept of happiness. World Database of Happiness. Erasmus University Rotterdam, Rotterdam. http://www1.eur.nl/fsw/happiness/hap_quer/introtext_measures2.pdf. Accessed March 27, 2014.
Vercammen, J. (2011). Agri-environmental regulations, policies, and programs. Canadian Journal of Agricultural Economics, 59(1), 1–18.
von Neumann, J., & Morgenstern, O. (1944). Theory of games and economic behavior. Princeton: Princeton University Press.
Wilkinson, R. G., & Picket, K. (2009). The spirit level: Why more equal societies almost always do better. London: Allen Lane.
Wolverson, R. (2012). The Pursuit of Happiness. TIME, 10(22/2012), 43–46.
The authors would like to thank anonymous referees and the editors of Social Indicator Research for helpful comments and suggestions. Norbert Hirschauer and Oliver Musshoff gratefully acknowledge financial support from the German Research Foundation (DFG).
About this article
Cite this article
Hirschauer, N., Lehberger, M. & Musshoff, O. Happiness and Utility in Economic Thought—Or: What Can We Learn from Happiness Research for Public Policy Analysis and Public Policy Making?. Soc Indic Res 121, 647–674 (2015). https://doi.org/10.1007/s11205-014-0654-2
- Life satisfaction
- Market failures
- Policy impact analysis
- Quality of life
- Smart regulation