William Fallon May 08, 2012 Brown University Department of Economics A Theoretical and Empirical Analysis of Cross-Country Welfare

Objectives Evaluate the relative level well-being of individuals between nations around the world. • Improve upon the shortcomings of simple accounts of GDP or consumption per capita • Address the failures of Jones and Klenow (2009): summary measure of welfare from consumption, inequality, health, and leisure • Develop a theoretical framework for comparing welfare across countries • Analyze the empirical implications of the theoretical model in a large number of nations around the world

Modeling Welfare Desirable characteristics of a comparative welfare model: • Minimal normative judgment or calibration • Avoid “weighting” of input parameters – Human Development Index • Grounding in economic theory and established practice • Avoid arbitrary aggregation of factors impacting well-being - HDI • Simple and Intuitive • Widely available and reliable component data • Evaluating relative well-being in developing and least-developed nations is particularly interesting.

Jones and Klenow (2009)

Primary Results: • Welfare measure highly correlated with GDP, but the typical deviation is significant • Western European nations have higher welfare than GDP per capita suggests • High leisure and low inequality increase well-being relative to U.S. • Least developed nations are generally worse off than income alone can indicate – their poor life expectancy contributes to far lower levels of relative well-being.

Jones and Klenow (2009) The JK framework is problematic, however … • Treatment of life expectancy • Scaling utility by simple life expectancy is theoretically weird • Survivorship data exists for most nations – why not use it? • Ignorance of variation across age groups • Model makes no distinction between utility of newborns and elderly • Ignorance of income dynamics and sustainability • Income/consumption growth unaccounted for • Welfare in developing nations is likely to be underestimated by models ignoring expectations of future growth

Theoretical Model The welfare model presented here improves upon the shortcomings of the JK framework. • Accounts for life expectancy with actual survivorship data • More precise, intuitive, and theoretically sound • Identifies relative utility levels for individuals of all ages • Aggregates these utilities according to country-level demographics • Discounts future utility flows to the present • A DPV method of accounting for lifetime utility provides a more precise snapshot of individual well-being in each nation

Theoretical Model

Empirical Results

The empirical results of the improved theoretical model demonstrate at least three important deviations from recent studies of country level well-being. • (1) The overly simplistic accounting of life expectancy in Jones and Klenow (2009) results in a disproportional underestimation of welfare in the least developed nations (in addition to being intuitively and theoretically weak)

Empirical Results

• (2) Accounting for projected income and consumption growth in quickly developing economies has a significant positive impact on current national well-being that fails to be captured in recent work and simple income accounts. • For instance, China’s income per capita is only 18.7% of that in the United States, but its growth-adjusted relative welfare today is 28.2% of the U.S. level.

Empirical Results

• (3) The welfare of the youngest individuals in many of the fastest growing nations today remains significantly underestimated by recent welfare estimates and measures of simple income.

Empirical Results

Summary • Recent work to measure country level welfare has found that well-being in the least developed nations is actually worse than measures of income can alone indicate • The results found in this work find roughly similar results • However, the plight in LDC’s seems slightly overstated in JK 2009 due to improper treatment of life expectancy. • Furthermore, the theoretical framework and empirical results presented here consider future growth projections which suggest that individuals in quickly developing nations may actually be far better off than indicated by income or the recent efforts of Jones and Klenow.

Thank You!