IESE Insight
O Happy Day: Or Is It?
Manel Baucells Alibés; Rakesh K. Sarin
Editor: IESE
Artículo basado en: Does more money buy you more happiness?
Año: 2007
Idioma: English

The "Declaration of Independence" stated in 1776 that people have the right to the "pursuit of happiness." Our society advertises that money is the cure-all that will bring that joy. The problem is that we often ignore two powerful forces, adaptation and social comparison, which make it difficult to raise the well-being of society through economic growth alone.

In the paper "Does More Money Buy You More Happiness?" authors Manel Baucells of IESE Business School and Rakesh K. Sarin of the UCLA Anderson School of Management tackle why - despite economic advances - fewer people in the world are content.

Consider this example. A woman who drives a rusty old compact car as a student finds temporary joy upon acquiring a new sedan when she lands her first job. However, she soon adapts to driving the new car and assimilates it as a part of her lifestyle. The same could be said of the man who grows accustomed to a yearly vacation abroad. This process is called adaptation: People forget to account that they will adapt to a higher standard of living as their income grows. The more you have, the more you want.

The other powerful force, social comparison, leads us to compare ourselves to the "Joneses." When one joins a country club or moves to a more prosperous neighborhood, social comparisons are made with a new, more affluent peer group. Instead of comparing ourselves to the less prosperous "Smiths," we now compare ourselves to the wealthier "Joneses," who have a similar income and status. Driving a new Toyota sedan when your peers drive a new Lexus sedan seems quite different than if others in the group also drove economy cars. Olympic medalists also suffer from social comparison. Those who take the bronze have been found to be happier than Olympic silver medalists, because the former compare themselves to the athletes who got no medal at all, whereas the latter have nightmares of missing the gold.

When the two forces of adaptation and social comparison come together deep personal dissatisfaction can - and often does - ensue.

This phenomenon has been observed on a global scale, in studies of happiness within countries. These studies show that people in wealthier countries are, on average, slightly happier than people in poorer countries. At work are political issues such as democracy, freedom and individual rights. For instance, happiness is distinctly lower in former Communist countries. In poorer countries, progress is needed to address the problems of hunger, shelter, disease and in some cases social turmoil caused by war and violence. Yet, beyond a certain level of income, say $15,000 a year, happiness does not increase much with income.

In fact, happiness scores have remained flat worldwide despite considerable increases in average income, something known as the "Easterlin Paradox." The most striking example is Japan, where a five-fold increase in real per capita income has led to virtually no increase in average life satisfaction. A similar pattern holds true for the U.S. and for most other developed countries. However, this is not universal, since in some countries (e.g., Italy and Denmark), the average well-being has improved.

The "Easterlin Paradox" can be explained because happiness also depends on factors other than income, such as genetic makeup, family relationships, community and friends, health, work (unemployment and job security), external environment (freedom, crime, etc.) and personal values (perspective on life, religion and spirituality). Yes, income does influence a person's happiness up to a point. Needless to say, some rich people bring misery upon themselves by comparing themselves with even richer people.

The authors propose that more happiness could be obtained from income if people were to correctly calculate the effect of adaptation. The calculation error that produces the calculation error is known by psychologists as "projection bias." Projection bias, as applied to consumption decisions, implies that we predict a slow rate of adaptation to any new good (we project into the future our current low adaptation level). In fact, adaptation occurs much rapidly than previously expected, leading people to overspend on addictive goods and to and realize less happiness than what they think.

In other words, wealthier people tend to focus more on adaptive goods than on basic goods. Basic goods include food, shelter, sleep, friendship, spiritual activities, etc. Adaptive goods are fancy cars, luxury houses and expensive hotels. Baucells and Sarin show how projection bias diverts resources from basic goods to adaptive goods even with rational planning. Even the poorer segments of society fall into the trap by allocating more money for addictive goods like alcohol, drugs and lottery tickets than for basic goods, like nutritious food and hygiene. It takes great discipline to focus on the simple pleasures, but that is what brings happiness, say the authors.

Money can buy happiness, but it requires optimal planning for which most people are not equipped. Consider the scenario of a woman who wins a million dollars in the lottery. While she should be happier, research shows that after one year she is actually less happy. In fact, she now finds her daily activities less pleasurable than before. What happened and why do most people still believe that winning big bucks will make them happier? If our lottery winner plans carefully her consumption over time (avoiding a sudden increase and planning a steady increase in consumption for the next 30 years) and adapts carefully to an upward movement in her peer group, she might be happier.

We live in a world where we buy too much when hungry, forget to carry warm clothing during hot days for cooler evenings and believe that living in California will make us happy. We tend to ignore that adaptation, social comparison and projection bias are at work. To be truly happy, we should appreciate basic goods like food, sleep and friendship more than high-end material substitutes.

© IESE Business School - University of Navarra