The goal of economics is to improve the living conditions of people (Mankiw 2019). Hence, economics should focus on increasing human prosperity rather than just increasing material consumption. Of course, material wealth strongly correlates with well-being, as material wealth provides a sense of security, a roof over one’s head, food, and clothing. Yet, empirical evidence shows that this is only necessarily true up to a certain income. In the US, average income almost quadrupled while average happiness decreased. That material wealth is not the only factor determining a good life is somewhat common sense. In basic psychology terms, what neoclassical economics concerns with are the “basic needs” in Maslow’s Pyramid of Needs:
Mainstream, neoclassical economics defines utility-maximization – utility being the satisfaction gained from consumption of goods and services – as the ultimate goal of every human. It is true that this is a necessary simplification for economic modelling, as material goods are tangible opposed to utility gained from action fulfilling “psychological needs”. Thus, this is a perfectly fine assumption to hold in the spheres of economics that do not directly require a prior stance on normative beliefs (like, for example, the belief that economic inequality is meritocratically justified because we live in a society with equal access to opportunities), say accounting of econometrics.
The problem is not the use of this assumption ipso facto but that this definition of utility as being formative for human happiness shapes economics and thus permeates into economic policy and shapes everyday economic interaction, set of beliefs, and society. Economics influences not only our access to basic needs but our psychological needs profoundly. It is fundamentally tied to the other social sciences in understanding and providing human prosperity. This is also why – how neoclassical economics proponents may argue – the statement that “psychological needs” are not directly the responsibility of economists, is, frankly, wrong.
To equate utility with material goods worked great in times of material scarcity; as for example after the two World Wars or in developing countries. Yet, in times of material over-abundance in developed countries, an economy governed by this principle may erode the fundamentals necessary for our psychological needs whilst over-providing materials for basic needs. As a great – neoclassical! – economist pointed out, “the art in economics lies in judging when a simplifying assumption clarifies our thinking and when it misleads us.” (Mankiw 2019). The neoclassical definition of utility is a necessary simplification and not a doctrine or even the attempt to fully reflect the nature of humans – but when this assumption may erode, in the very long-run, psychological needs whilst leading to an oversupply for basic needs, this assumption is misleading.
To put it simply, especially in developed countries with a robust welfare state the fixation on material goods seems outdated. A paradigm shift in economics from the emphasis on material goods as utility towards an emphasis of material good and human well-being as utility is necessary. By starting at the root problem with changing the definition, policy change will follow – to something more adequate than GDP maximization and achieving full employment.
Bottom line: The assumption equating utility with human satisfaction and happiness whilst only counting consumption as utility oversimplifies what we mean by human happiness. A paradigm shift in economics from the emphasis on material goods towards an emphasis on human well-being is necessary.
* Please help my Economic Growth & Development students by commenting on unclear analysis, alternative perspectives, better data sources, or maybe just saying something nice :).