Thursday, February 15, 2007

Aspirations and happiness

Stutzer and Frey (2003) claim that there are two main processes forming individuals, aspirations, and producing the relativity in people's utility evaluation.

First, people make social comparisons , which drive their positional concerns for income. It is not the absolute level of income that matters most, but rather one,s position relative to other individuals. This idea of relative income is one part of the more general aspiration level theory.

Second, people adapt to their new income or consumption level. Additional material goods and services initially provide extra pleasure, but it is usually only transitory. Higher utility from material goods wears off. Satisfaction depends on change and disappears with continued consumption. This process, or mechanism, that reduces the hedonic effects of a constant or repeated stimulus, is called adaptation .

Stutzer and Frey (2003) estimate the effect of aspirations on life satisfaction in Germany. Life satisfaction is measured on a 0-10 scale, while aspirations are derived from a question on a sufficient income level. They use the German Socio Economic Panel (GSEOP) 1992 and 1997.

Controlling for household size, gender and other variables, they find that income has a positive income impact on life satisfaction, whereas the level of income aspiration has a negative impact. When they include fixed effects the negative income aspiration effect is only significant for the new Laender. They also show that people,s aspirations are driven up by lagged income levels.

It would have been interesting to measure aspiration as the gap between sufficient aspired income level and actual income.

Stutzer (2004)
does similar analysis for Swiss data. This data has two versions of the aspiration variable: absolute minimum and sufficient income. Both variables have significant negative effects on life satisfaction. This analysis actually presents a version of aspiration as the gap between sufficient aspired income level and actual income. This gap is significantly negative and drives out the pure income effect. In a different setting Stutzer shows that contact to neighbours, the proportion of rich in the area and average income in the area increase aspirations.

Because direction of causation is unclear Stutzer runs an instrumental variable model using neighbours, the proportion of rich in the area, and average income as instruments for aspirations. The results show a sizeable negative effect for the gap between income aspirations and actual income on reported satisfaction with life.

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